Need help with managerial accounting please?

Question

PLEASE help me with this problem......

Delta company produces a single product. the cost of producing and selling a single unit of this product at the company's normal activity level of 26000 units per year is:

Direct Materials 2.50

Direct Labor 1.20

Variable Overhead .50

Fixed Overhead 2.10

variable selling and administrative expense .40

fixed selling and administrative expense .80

The normal selling price is $10 per unit. The company's capacity is 30,000 units per year. an order has been received for a mail order house for 4,000 units at a special price of $7 per unit. This order would not disturb regular sales. If the order is accepted, by how much will annual profits be increased or decreased? (the order will not change the companys total fixed costs)

Please explain. im VERY confused.

Answer 1

This is the concept of contribution margin & capacity. To gauge whether a special order can be accepted or not, you need to see whether you have the capacity (if you don't, increase in capacity normally means more facility cost / FC is needed). If you do have the capacity, you need to see whether you will be generating a positive contribution margin or not.

The contribution margin is revenues minus variable expenses.  It is a conceptual number reflecting the amount available from each sale, after deducting all variable costs associated with the units sold.  Some of these variable costs are product costs, and some are selling and administrative in nature.

Because you have the capacity, you won't need to increase your FC (this is normally the case, & your problem indicates the same, although you might want to read carefully in other problem as they may be indicated differently).

Special price is $7 & your VC = DM + DL + Var OH + Var SGA or 2.5 + 1.2 + 0.5 + 0.4 = 4.6.

Your CM = 7 - 4.6 = 2.4

In Total, since your FC won't be affected you will increase annual profits by 4000 x 2.4 = $9,600

Got it?