Chapter 11 – Decision Making with a Strategic Emphasis
11–31
11–30 (continued-2)
More generally, the minimum selling price per unit = incremental
costs (variable + fixed + opportunity):
Out-of-pocket costs:
Variable out-of-pocket costs per meal $2.00
Fixed out-of-pocket costs per meal $0
Therefore, short-term profits increase by taking on the additional
business.
The idea of agreeing to serve 200 patrons on any given day presents
a problem with limited capacity. In this case, 100 of the regular
customers would have to look elsewhere for lunch on these days, at a
follows:
Number of patrons per month 200
Special-order price offered by tour company $3.00 (given)
Incremental costs per tour-bus meal:
Variable out–of-pocket costs per meal $2.00
Fixed out-of-pocket costs per meal $0.00
Chapter 11 – Decision Making with a Strategic Emphasis
11–32
PROBLEMS
11–31 Special Order; Strategy; International (60 min)
1. The standard direct labor hour (DLH) per finished valve is ½ hour.
Therefore, 30,000 units per month would require 15,000 DLHs.
2. The analysis of accepting the Glasgow proposal is presented below.
Totals for
Per unit 120,000 units
Incremental revenue $21.00 $2,520,000
Incremental costs
Variable costs:
Direct materials 6.00 720,000
Direct labor 8.00 960,000
Variable overhead 3.00 360,000
3. The minimum unit price that Williams could accept without reducing
operating income must cover variable costs plus the additional fixed
costs; in this case, there are no opportunity costs. The $30 suggested
selling price is irrelevant for the special order:
Incremental variable costs, per unit:
Chapter 11 – Decision Making with a Strategic Emphasis
11–33
Problem 11-31(continued-1)
4. Use the Goal Seek option in Excel to solve for the minimum unit price
determined in 3 above.
Step #1: Define the Appropriate Equation to Be Solved
+ C117 + C118; Cell C120 = C113 – C118
Step #2: Run Goal Seek (to Solve the Equation)
incremental revenues and incremental costs of the special
sales order).
Chapter 11 – Decision Making with a Strategic Emphasis
11–34
Problem 11-31 (continued-2)
Step #3: Results
5. Determination of minimum (i.e., breakeven) selling price per unit in
the face of opportunity costs (lost sales to regular customers):
The minimum unit price that Williams could accept without reducing
Chapter 11 – Decision Making with a Strategic Emphasis
11–35
Problem 11-31 (continued-3)
Incremental variable cost, per unit:
Direct materials $6.00
Direct labor $8.00
Variable overhead $3.00 $17.00
Incremental fixed costs, per unit ($48,000 ÷ 120,000 units) 0.40
Opportunity Cost:
Total lost sales (in units) (4 × 5,000 units) 20,000
Regular selling price per unit $30.00
6. Williams Company should consider the following strategic factors before
accepting the Glasgow Industries order:
• The effect of the special order on Williams’ sales at regular
prices.
• The possibility of future sales to Glasgow Industries and the
effects of participating in the international marketplace.
• The company’s “relevant range” of activity and whether or not
equipment.
Chapter 11 – Decision Making with a Strategic Emphasis
11–36
Problem 11-31(continued-4)
• The strategic advantage of the long-term commitment from
• The ethical and competitive issues of helping a competitor in
distress.
7. The international issues Williams should consider include:
• What customs duties and import/export restrictions might affect
the special order and any future business with Glasgow?
11–37
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11–32 Special Order (40-45 min)
1. Average cost-per-unit calculations, with and without the special sales
order:
Old (prior to special order) average cost per unit:
Total Cost/month $1,275,000
Total Output/month 7,500
Average cost/unit $170.00
Recalculated Average Cost, including Special Sales Order:
Neither of the above two cost figures is relevant to the decision at hand:
both include sunk costs in the form of fixed manufacturing overhead and
fixed marketing costs, both of which are “sunk” with respect to the
decision at hand. That is, these costs will likely be the same (in total)
regardless of whether or not we accept the special sales order. As such,
they are not relevant to this decision.
2. Short-term profit effect of accepting the special sales order:
Price of special order $100
Positive contribution accept the special sales order
3. Breakeven selling price per unit on the special sales order:
Chapter 11 – Decision Making with a Strategic Emphasis
11–38
11-32 (Continued)
The breakeven selling price is the price that would leave the operating
profit for the company unchanged. Alternatively, this can be defined as
the sum of “relevant costs,” that is, incremental variable costs,
incremental fixed costs (if any), and opportunity cost (if any).
In the present case, relevant cost includes only incremental variable cost
(i.e., there is no opportunity cost and there are no incremental fixed
costs):
Relevant Costs:
4. Other considerations:
a. Is the order likely to lead to further regular business with this
customer?
b. Is the order in the strategic best interest of the firm, for example,
tooling or set up costs, etc.
d. See part 5 below.
Chapter 11 – Decision Making with a Strategic Emphasis
11–39
5. The controller, LePenn, has a conflict of interest in the sourcing of raw
materials for the firm. Cathy has the ethical responsibility under the IMA
Chapter 11 – Decision Making with a Strategic Emphasis
11–40
11–33 Special Order (45-60 min)
1. In general, relevant cost equals the sum of out–of-pocket costs (variable
+ fixed), plus opportunity cost (if any). In the present case, these costs
total $140,000, as follows:
Out-of-Pocket Costs:
Variable costs:
Manufacturing cost ($15 per unit) $75,000
Fixed costs:
One-Time Packing & Delivery Cost $2,000
Opportunity Cost:
2. Operating income with the special order will decrease by $15,000. The
only relevant variable costs are the $15 variable manufacturing cost
($15 × 5,000 = $75,000 total), since marketing costs are not charged for
the special order. Other relevant costs include the one-time delivery/
packing cost of $2,000 and the (opportunity) cost of lost sales. Since the
Summary of relevant costs:
Variable manufacturing costs ($15 × 5,000) $ 75,000
One-time delivery costs 2,000
Cost of lost sales (per above) 63,000
11-33 (Continued-1)
Since the relevant costs of $140,000 exceed the price of the special
order ($125,000), operating income would decrease by $15,000 if the
special order is accepted.
3. The breakeven selling price is the price that just equals total relevant
cost of the special sales order. Put another way, the breakeven price is
the selling price per unit that would leave operating income unchanged.
Total relevant cost (from Part 1 above) = $140,000
4. Comparative income statements (contribution format), with and without
special order:
Sales:
Regular (@$38/unit) $760,000 $646,000
Special order (@ $28/unit) $0 $760,000 $140,000 $786,000
Less: Variable Costs:
Manufacturing (@$15/unit) $300,000 $330,000
Marketing (@ $2/unit) $40,000 $340,000 $34,000 $364,000
Contribution Margin $420,000 $422,000
Less: Fixed Costs:
Manufacturing $240,000 $240,000
Marketing $40,000 $40,000
One-Time Packing/Delivery
$0 $280,000 $2,000 $282,000
Operating Income $140,000 $140,000
Current Situation
Current Situation +
Special Sales Order
Chapter 11 – Decision Making with a Strategic Emphasis
11–42
Note: Variable selling costs ($2/unit) are not incurred on the special
sale units. Thus, if the special sales units are sold at $28.00 per
unit, operating income is left unchanged.
11–33 (continued-2)
5. There are both ethical and strategic issues for GGI. From a strategic
view, GGI would suffer severe damage to its reputation if APAC were to
have any problems with the purity of the special order. One of the
reasons APAC has requested the special order from GGI is because of
its reputation for quality. It is clear that GGI competes on differentiation,
with quality being a critical success factor.
Also, there is an ethical issue. The use of a competitor’s materials would
deceive APAC who is expecting the highest quality product from GGI.
Chapter 11 – Decision Making with a Strategic Emphasis
11–34 Special Order; ABC Costing (25-30 min)
1. Total Fixed Manufacturing Cost and Breakdown into Components:
Total fixed manufacturing costs are $12/unit × 20,000 units = $240,000:
Total batch-related costs ($8/unit × 20,000 units) = $160,000
Incremental costs ($5,000/batch × 20 batches) = $100,000
2.
3. The total relevant cost of $135,000 is greater than the special order
price of $125,000, so GGI should not accept the special order. If they did
No. of incremental batches, special order = (22,000-20,000)/1,000 =
= [current capacity (in units) – current usage (in units)] ÷ 1,000 units/batch 2
Relevant cost for the special order:
Variable manufacturing cost ($15/unit × 5,000 units) = $75,000
Incremental batch-related ovh costs (2 batches × $5,000/batch) = $10,000
One-time delivery cost = $2,000
CM on lost sales (opportunity cost):
Sales ($38/unit × 3,000 units) = $114,000
Less: variable costs ($15 + $2) × 3,000 units = $51,000
Less: cost for three batches (@$5,000 per batch) = $15,000 $48,000
Total relevant cost for the special order $135,000
Chapter 11 – Decision Making with a Strategic Emphasis
11–44
11-35 Make or Buy (45 minutes)
1. Since the per-unit contribution margin for manufactured fans ($24) is
higher than for purchased fans ($12), the company should manufacture as
many fans as possible (15,000), and purchase the remainder (5,000) from
Harris Products.
Total Relevant Costs Relevant Costs
Cost to Manufacture to Purchase
Selling price per unit $72.00 $72.00 $72.00
Cost per unit: $46.00
Electric motor $6.00 $6.00
Other parts $8.00 $8.00
Direct labor ($15.00/hr.) $15.00 $15.00
Manufacturing overhead $15.00 * $5.00
Selling and adm. cost $20.00 $64.00 ** $14.00 $14.00
Contribution per unit $24.00 $12.00
* Of the total per unit manufacturing overhead of $15, $10 is fixed ($100,000/10,000
units) and the remaining $5 is variable.
** Of the total per unit selling and administrative cost, $6 is given as fixed, and the
remaining $14 is variable.
The total contribution margin from this plan would be:
(15,000units × $24/unit) + (5,000units × $12/unit) = $420,000
2. The total contribution margin for the marine pumps = $21 per unit ×
25,000 units = $525,000
Since the total contribution margin from making pumps ($525,000) is
Chapter 11 – Decision Making with a Strategic Emphasis
11-35 (Continued-1)
3. Some of the possible strategic factors to consider are:
Re: The pumps:
• Will the sale of pumps introduce Martens to new markets and new
customers that might benefit other product lines?
• Can Martens compete in the marine pump market? How
competitive is this market, and what are the critical success factors
that are likely to lead to success for Martens?
• How reliable are the estimates used to develop the predictions for
revenues and costs for the pumps? How reliable is the market
research that predicted growth in pump sales?
• Will the sale of pumps affect Martens’ image in either a positive or
negative fashion? For example, will Martens’ current customers
view Martens as a high quality/innovative manufacturer of pumps?
• How long is the expected growth in pump sales expected to
Selling price per unit 60.00$
Costs per unit
Electric motor 5.50
Other parts 7.00
Direct labor ($15.00/hr.) 7.50
Manufacturing overhead 5.00 (1)
Selling and adm. cost 14.00
(2)
fixed, and the remaining $14 is variable.
Relevant Costs
for Pumps
Price and