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Differential Analysis: Herrestad Company

Differential analysis involves knowing which costs are relevant, i.e. future costs that vary among alternatives. It is important to know what information to use and not just how to execute the analysis.

Herrestad Company receives an offer to make a new product, called C, for a new customer. The customer wants to buy 1,000 units. Product C has the same cost structure as product B with three exceptions. The new customer is only willing to pay $180 per unit, direct materials costs will decrease by $15 per unit and Herrestad does not have to incur any variable selling and administrative expenses.

Make a list of the expenses and amounts that are relevant for this decision. How much with the sale of this product contribute to the profitability of Herrestad?

What if the company only pays $160 per unit? How does this change the contribution towards profitability?

If you were the manager, would you accept this order? What considerations, other than financial would enter into your decision?

Solution Summary

Your response is 649 words (just over two pages double-spaced) plus two references and discusses special orders. The response indicates how you evaluate these orders, what non-financial considerations might need to be studied, and how a change in the sales price would impact the order profits.