Question

Homestead Jeans Co. has an annual plant capacity of 67,000 units, and current production is 45,700 units. Monthly fixed costs are $54,400, and variable costs are $30 per unit. The present selling price is $40 per unit. On November 12 of the current year, the company received an offer from Dawkins Company for 19,600 units of the product at $33 each. Dawkins Company will market the units in a foreign country under its own brand name. The additional business is not expected to affect the domestic selling price or quantity of sales of Homestead Jeans Co.

Required:
a. Prepare a differential analysis dated November 12 on whether to reject (Alternative 1) or accept (Alternative 2) the Dawkins order. Refer to the lists of Labels and Amount Descriptions for the exact wording of the answer choices for text entries. For those boxes in which you must enter subtracted or negative numbers use a minus sign. If there is no amount or an amount is zero, enter "0". A colon (:) will automatically appear if required.
b. Briefly explain the reason why accepting this additional business will increase operating income.
c. What is the minimum price per unit that would produce a positive contribution margin?
a. Prepare a differential analysis dated November 12 on whether to reject (Alternative 1) or accept (Alternative 2) the Dawkins order. Refer to the lists of Labels and Amount Descriptions for the exact wording of the answer choices for text entries. For those boxes in which you must enter subtracted or negative numbers use a minus sign. If there is no amount or an amount is zero, enter "0". A colon (:) will automatically appear if required.

Answer 1

Accepting the offer from Dawkins Company for 19,600 units at $33 each results in a positive differential profit of $58,800 for Homestead Jeans Co.

Step-by-step explanation:

Differential Analysis of Homestead Jeans Co.

On November 12, Homestead Jeans Co. needs to decide whether to accept or reject the order from Dawkins Company for 19,600 units at a selling price of $33 each.

To perform a differential analysis, we calculate the incremental revenues and incremental costs associated with accepting this special order.

• Additional Revenue (19,600 units * $33) = $646,800
• Additional Variable Costs (19,600 units * $30) = $588,000
• Incremental Fixed Costs = $0 (since fixed costs do not change with this order)
• Differential Profit (Additional Revenue - Additional Variable Costs) = $646,800 - $588,000 = $58,800

Since the differential profit is positive, accepting the additional business will increase operating income.

The minimum price per unit to produce a positive contribution margin is equal to the variable cost per unit. In this case, it is $30 per unit.

Answer 2

Homestead Jeans Co.

a) Differential Analysis dated November 12

Options Reject (Alternative 1) Special Order Accept (Alternative 2)

Units sold 45,700 19,600 65,300

Revenue $1,828,000 $646,800 $2,474,800

Variable Cost -1,371,000 -588,000 -1959,000

Contribution $457,000 $58,800 $515,800

Fixed Costs 652,800 $0 652,800

Net Income/(Loss) -$195,800 $58,800 -$137,000

b) Accepting this order will reduce operating loss from $195,800 to $137,000, making a difference of $58,800. The reason is that the special order will make a contribution towards offsetting the fixed cost with a sum of $58,800.

c) Minimum price per unit to produce positive contribution margin:

The contribution margin per unit = Selling price minus variable cost per unit = $40 - $30 = $10 per unit.

To produce positive contribution margin, selling price must be more than variable cost. Selling price will be at least $31.

Therefore, the minimum price per unit to produce positive contribution is $31.

Step-by-step explanation:

a) In differential analysis, only relevant costs are considered. Fixed costs are regarded as sunk and therefore irrelevant in making any differential decision.

b) The revenue is a function of selling price and quantity sold. While the variable costs equal units sold multiplied by the unit variable cost.