Problem 12-22 Special Order Decisions [LO12-4] Polaski Company manufactures and
ID: 2533564 • Letter: P
Question
Problem 12-22 Special Order Decisions [LO12-4] Polaski Company manufactures and sells a single product called a Ret. Operating at capacity, the company can produce and sel 38,000 Rets per year. Costs associated with this level of production and sales are given below: Unit Total Direct materials Direct labor Variable manufacturing overhead Fixed manufacturing overhead Variable selling expense Fixed selling expensee Total cost $ 20760,000 304,000 114,000 266, 000 152,000 228,000 $48$1,824,000 The Rets normally sell for $53 each. Fixed manufacturing overhead is $266,000 per year within the range of 28,000 through 38,000 Rets per year Required 1. Assume that due to a recession, Polaski Company expects to sell only 28,000 Rets through regular channels next year. A large retail chain has offered to purchase 10,000 Rets if Polaski is willing to accept a 16% discount off the regular price. There would be no sales commissions on this order; thus, variable selling expenses would be slashed by 75%. However, Polaski Company would have to purchase a special machine to engrave the retail chain's name on the 10,000 units. This machine would cost $20,000. Polaski Company has no assurance that the retail chain will purchase additional units in the future. What is the financial advantage (disadvantage) of accepting the special order? (Round your intermediate calculations to 2 decimal places.) 2. Refer to the original data. Assume again that Polaski Company expects to sell only 28,000 Rets through regular channels next yean The U.S. Army would like to make a one-time-only purchase of 10,000 Rets. The Army would pay a fixed fee of $1.20 per Ret, and it would reimburse Polaski Company for all costs of production (variable and fixed) associated with the units. Because the army would pick up the Rets with its own trucks, there would be no variable selling expenses associated with this order. What is the financial advantage (disadvantage) of accepting the US. Army's special order? 3. Assume the same situation as described in (2) above, except that the company expects to sell 38,000 Rets through regular channels next year. Thus, accepting the U.S. Army's order would require giving up regular sales of 10,000 Rets. Given this new information, what is the financial advantage (disadvantage) of accepting the U.S. Army's special order? 2Explanation / Answer
Polaski Company:
Solution:
Financial Advantage /(disadvantage)
Situation 1
$105,200
Situation 2
$12,000
Situation 3
($168,000)
Computations:
Given information for 38,000 units of Ret:
Per Unit Total
Variable costs –
Direct materials $20.00 $760,000
Direct labor $8.00 $304,000
Variable manufacturing overhead $3.00 $114,000
Variable selling expense $4.00 $152,000
Total variable costs $35.00 $1,330,000
Fixed costs –
Manufacturing overhead $266,000
Selling overhead $228,000
Total fixed cost $494,000
Situation1:
Analysis of the financial advantage of the special order for 10,000 units:
Selling price = $53 – 16% of 53 = $44.52
Decreased variable selling expenses =$4 - $4 x 75% = $1
Revised variable cost = $35 -$4 +$1 = $32
Revised contribution margin = $12.52 per unit
Contribution margin for 10,000 rets = $125,200
Less: incremental fixed costs $20,000
Net financial advantage of the special order for 10,000 Rets = $105,200
Situtaion2:
One time purchase by the US Army:
Analysis of the accepting the order to produce and sell 28,000 units of Ret to the US Army:
Price per unit $1.20
Since the Army would cover all the variable and fixed costs of production and no selling expenses are likely to be incurred, Polaski would make a revenue of $12,000 (1.20 x 10,000 Rets).
So, if Polaski accepts the US Army proposal, the company’s profits would increase by $12,000 per year.
Since all production costs (variable and fixed) are reimbursed by the US Army, those costs are not considered to determine the incremental revenue.
The variable selling expenses are avoided, and hence are not included.
Though the fixed selling expenses are incurred, they are irrelevant for the decision, as these costs are incurred regardless of the decision to sell Rets to the US Army.
Hence, the financial advantage of accepting the US Army special order is $12,000.
Situation3
Giving up regular sales of 38,000, would indicate to following outcomes,
Financial advantage of accepting the special order from the US Army $12,000
Less: Loss of contribution margin = ($53 - $35) x10,000 = 10,000 x $18 per Ret = $180,000
Net financial disadvantage of accepting the special order from the US Army is $168,000.
Financial Advantage /(disadvantage)
Situation 1
$105,200
Situation 2
$12,000
Situation 3
($168,000)