Nautical manufactures flotation vests in Tampa, Florida. Nautical’s contribution margin income statement for the month ended December 31, 2018, contains the following data:
For the Month Ended December 31, 2018
Sales in Units 29,000
Net Sales Revenue $551,000
Selling and Administrative 111,000
Total Variable Costs 227,000
Contribution Margin 324,000
Selling and Administrative 92,000
Total Fixed Expenses 215,000
Operating Income $109,000
Suppose Water Works wishes to buy 4,800 vests from Nautical. Nautical will not incur any variable selling and administrative expenses on the special order. The Nautical plant has enough unused capacity to manufacture the additional vests. Water Works has offered $15 per vest, which is below the normal sales price of $19.
1. Identify each cost in the income statement as either relevant or irrelevant to Nautical’s decision.
2. Prepare a differential analysis to determine whether Nautical should accept this special sales order.
3. Identify long-term factors Nautical should consider in deciding whether to accept the special sales order.
The variable manufacturing cost per unit is $4.
The term special order in business activities defines the situation where a company receives a non-regular order from a customer to deliver a unique product or provide a different kind of service. It helps the business to earn more profit from this position or special order.
According to the above-given data, the variable manufacturing cost is relevant in the decision-making process. In addition, the variable selling and administrative expenses would be irrelevant in decision making.
Also, the fixed cost would remain the same irrespective of whether the company chooses to produce additional 4800 units or not; hence it is irrelevant in decision making.
Expected increase in revenue
Less: Expected increase in variable manufacturing cost (Working Notes)
Expected increase in operating income
Computation of variable manufacturing cost per unit:
The following factors should be considered by the company when deciding on long-term decisions associated with the special orders:
Tread Light produces two types of exercise treadmills: regular and deluxe. The exercise craze is such that Tread Light could use all its available machine hours to produce either model. The two models are processed through the same production departments. Data for both models are as follows:
Sales price $1,030 $610
Direct materials 320 130
Direct labor 88 180
Variable manufacturing overhead 270 90
Fixed manufacturing overhead* 102 34
Variable operating expenses 121 63
Total costs 901 497
Operating income $129 $113
*allocated on the basis of machine hours
1. What is the constraint?
2. Which model should Tread Light produce? (Hint: Use the allocation of fixed manufacturing overhead to determine the proportion of machine hours used by each product.)
3. If Tread Light should produce both models, compute the mix that will maximize operating income.
Cold Sports manufactures snowboards. Its cost of making 2,000 bindings is as follows:
Direct materials $17,510
Direct labor 2,600
Variable overhead 2,060
Fixed overhead 7,000
Total manufacturing costs for 2,000 bindings $29,170
Suppose Topnotch will sell bindings to Cold Sports for $15 each. Cold Sports would pay $3 per unit to transport the bindings to its manufacturing plant, where it would add its own logo at a cost of $0.50 per binding.
1. Cold Sports’s accountants predict that purchasing the bindings from Topnotch will enable the company to avoid $2,300 of fixed overhead. Prepare an analysis to show whether Cold Sports should make or buy the bindings.
2. The facilities freed by purchasing bindings from Topnotch can be used to manufacture another product that will contribute $3,100 to profit. Total fixed costs will be the same as if Cold Sports had produced the bindings. Show which alternative makes the best use of Cold Sports’s facilities: (a) make bindings, (b) buy bindings and leave facilities idle, or (c) buy bindings and make another product.
Heavenly Dessert processes cocoa beans into cocoa powder at a processing cost of $9,700 per batch. Heavenly Dessert can sell the cocoa powder as is, or it can process the cocoa powder further into either chocolate syrup or boxed assorted chocolates. Once processed, each batch of cocoa beans would result in the following sales revenue:
Cocoa powder $14,500
Chocolate syrup 103,000
Boxed assorted chocolates 204,000
The cost of transforming the cocoa powder into chocolate syrup would be $72,000. Likewise, the company would incur a cost of $183,000 to transform the cocoa powder into boxed assorted chocolates. The company president has decided to make assorted boxed chocolates due to their high sales value and to the fact that the cocoa bean processing cost of $9,700 eats up most of the cocoa powder profits. Has the president made the right or wrong decision? Explain your answer. Be sure to include the correct financial analysis in your response.
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