Sherene Nili manages a company that produces wedding gowns. She produces both a custom product that is made to order and a standard product that is sold in bridal salons. Her accountant prepared the following forecasted income statement for March, which is a busy month:
Custom Standard Total
# of dresses 10 20 30
Sales Revenue $50,000 $25,000 $75,000
Materials $10,000 $ 8,000 $18,000
Labor 20,000 9,000 29,000
Machine Depreciation 600 300 900
Rent 4,200 2,800 7,000
Heat & Light 1,000 600 1,600
Other Production Costs 2,800
Marketing & Admin 7,700
Total Costs $67,000
Operating Profit $ 8,000
Ms. Nili already has orders for the 10 custom dresses reflected in the March forecasted income statement. The depreciation charges are for machines used in the respective product lines. Machines depreciate at the rate of $1 per hour based on hours used, so these are variable costs. In March, cutting and sewing machines are expected to operate for 900 hours, of which 600 hours will be used to make custom dresses. The rent is for the building space, which has been leased for several years at $7000 per month. The rent, heat, and light are allocated to the product lines based on the amount of floor space occupied.
A valued customer, who is a wedding consultant, has asked Ms. Nili for a special favor. This customer has a client who wants to get married in early April. Ms. Nili's company is working at capacity and would have to give up some other business to make this dress. She can't renege on custom orders already agreed to, but she can reduce the number of standard dresses produced in March to 10. Ms. Nili would lose permanently the opportunity to make up the lost production of standard dresses because she has no unused capacity for the foreseeable future. The customer is willing to pay $25,000 for the special order. Materials and labor for the order will cost $6,000 and $10,000, respectively. The special order would require 140 hours of machine time. Ms. Nili's company would save 150 hours of machine time from the standard dress business given up. Rent, heat and light, and other production costs would not be affected by the special order.
a. Should Ms. Nili take the order? Explain your answer.
b. What is the minimum price Ms. Nili should accept to take the special order?
c. What are the other factors, if any besides price that should consider?
This solution walks the student through a typical special order problem and shows the computation and reasoning. Qualitative factors that may impact the decision are also provided.
Capacity and product mix decision
6-36 Capacity and product mix decision
Barney Toy Company manufactures large and small stuffed animals. It has a long-term contract with a large chain of discount stores to sell 3,000 large and 6,000 small stuffed animals each month. The following cost information is available for large and small stuffed animals.
Item Large Small
Price/Unit $32 $21
Direct Material $12 $10
Direct Labor $6 $2
Variable Support $2 $1
Fixed Costs Per Unit $3 $3
Total Unit Costs $23 $16
Estimated Demand 15,000 25,000
Production occurs in batches of 100 large or 200 small stuffed animals. Each batch takes a total of 10 machine hours to manufacture. The total machine hour capacity of 3,000 machine hours cannot be increased for at least a year.
a. Determine the contribution margin per unit for each of the two sizes of stuffed animals.
b. Determine which size is more profitable to produce. How many units of each size should Barney produce?
c. Because of an unexpected high demand for stuffed dinosaurs, the discount store chain has requested an additional order of 5,000 large stuffed dinosaurs. It is willing to pay $37 per dinosaur for this special order. Determine the opportunity cost associated with this order.
d. Should Barney Toy Company accept the order described in c.? Explain.