Question

Structuring a Special-Order Problem Harrison Ford Company has been approached by a new customer with an offer to purchase 10,000 units of its model IJ5 at a price of $5 each. The new customer is geographically separated from the company's other customers, and existing sales would not be affected. Harrison normally produces 75,000 units of IJ5 per year but only plans to produce and sell 60,000 in the coming year. The normal sales price is $12 per unit. Unit cost information for the normal level of activity is as follows: Direct materials $1.75 Direct labor 2.50 Variable overhead 1.50 Fixed overhead 3.25 Total $9.00 Fixed overhead will not be affected by whether or not the special order is accepted. Required: 1. Should the company accept or reject the special order

Answer 1

The Harrison Ford Company should reject the special order because it would result in a loss. The cost to produce 10,000 units at $5.75 per unit is $57,500, which is greater than the revenue of $50,000 from selling them at $5 each.

Step-by-step explanation:

The Harrison Ford Company should decide whether to accept or reject the special order by calculating the additional revenues and comparing them to the additional costs.

The additional revenue from the order is 10,000 units × $5/unit = $50,000. The relevant costs are the variable costs since the fixed overhead remains unchanged whether the order is accepted or not. The variable costs include direct materials, direct labor, and variable overhead, which total $5.75 per unit ($1.75 + $2.50 + $1.50).

In this case, the cost to produce the special order is 10,000 units × $5.75/unit = $57,500. As the costs exceed the revenue by $7,500, accepting the special order would result in a loss. Therefore, based on this analysis, the company should reject the special order unless there are other strategic reasons to accept it.

Answer 2

(1) rejected (2) $7500

Step-by-step explanation:

Here is the complete question

Harrison Ford Company has been approached by a new customer with an offer to purchase 10,000 units of its model IJ4 at a price of $5 each. The new customer is geographically separated from the company's other customers, and existing sales would not be affected. Harrison normally produces 75,000 units of IJ4 per year but only plans to produce and sell 60,000 in the coming year. The normal sales price is $12 per unit. Unit cost information for the normal level of activity is as follows: Fixed overhead will not be affected by whether or not the special order is accepted.

Direct Materials $1.75

Direct Labor 2.50

Variable Overhead 1.50

Fixed Overhead 3.25

Total $9.00

1. What are the relevant costs and benefits of the two alternatives (accept or reject the special order)?

2. By how much will operating income increase or decrease if the order is accepted? by $____??

Answer

(1)

Relevant Benefits = 10000 x 5 = $50000

Production Costs = Total Unit x (Direct Material + Direct Labor + Variable Overhead) = 10000 x (1.75 + 2.50 + 1.50) = $57500

given that the production cost are higher than the benefit, I think the special order should be rejected

(2)

Net Operating Income if the Order is Accepted = Relevant Benefits - Relevant Costs = 50000 - 57500 = -$7500

Operating Income will decrease by $7500