Question

Brightstone Tire and Rubber Company has capacity to produce 204,000 tires. Brightstone presently produces and sells 156,000 tires for the North American market at a price of $100 per tire. Brightstone is evaluating a special order from a European automobile company, Euro Motors. Euro is offering to buy 24,000 tires for $86.5 per tire. Brightstone's accounting system indicates that the total cost per tire is as follows:

Direct materials $54
Direct labor 24
Factory overhead (62% variable) 24
Selling and administrative expenses (44% variable) 25
Total $127.00

Brightstone pays a selling commission equal to 4% of the selling price on North American orders, which is included in the variable portion of the selling and administrative expenses. However, this special order would not have a sales commission. If the order was accepted, the tires would be shipped overseas for an additional shipping cost of $7.65 per tire. In addition, Euro has made the order conditional on receiving European safety certification. Brightstone estimates that this certification would cost $165,424.

Required:
a. Prepare a differential analysis dated January 21 on whether to reject (Alternative 1) or accept (Alternative 2) the special order from Euro Motors.
b. Determine whether the company should reject (Alternative 1) or accept (Alternative 2) the special order from Euro Motors
c. What is the minimum price per unit that would be financially acceptable to Brightstone?

Answer 1

Brightstone Tire and Rubber Company

a. Differential Analysis dated January 21

Alternative 1 Alternative 2

Reject Accept

Revenue from special order ($2,076,000) $2,076,000

Avoidable costs 2,493,120 2,831,520

Cost Differential ($417,120) ($755,520)

b. The company should reject the special order from Euro Motors as it will incur more costs when it accepts than when it rejects the special order.

c. The minimum price per unit that would be financially acceptable to Brightstone is $117.98.

Step-by-step explanation:

a) Data and Calculations:

Production capacity in tires = 204,000

Current production and sales units = 156,000

Selling price per tire for the North American market = $100

Special order of 24,000 tires from Euro Motors = $86.50 per tire

Total cost per tire: Total Variable

Direct materials $54 $54

Direct labor 24 24

Factory overhead (62% variable) 24 14.88

Selling and administrative expenses (44% variable) 25 11

Total $127.00 $103.88

Special Order:

Offer price = $86.50

Reject Accept

Variable cost per unit $103.88 $2,493,120

Less selling commission (0.44)

Additional shipping cost 7.65

Cost of certification 6.89

Total per unit costs = $117.98 $2,813,520

Operating income (loss) ($31.48)