Question

Autoliv produces air bag systems that it sells to automobile manufacturers throughout the world. Assume the company has a capacity of 50 million units per year, it is currently producing at an annual rate of 40 million units. Autoliv has received an order from a Japanese manufacturer to purchase 100,000 units at $65 each. Budgeted costs for 40 million and 45 million units are as follows:
(in thousands, except costs per unit) 40 Million Units 45 Million Units
Manufacturing costs
Direct materials $ 560,000 $ 630,000
Direct labor 220,000 247,500
Factory overhead 1,780,000 1,822,500
Total 2,560,000 2,700,000
Selling and administrative 1,120,000 1,125,000
Total $ 3,680,000 $ 3,825,000
Costs per unit
Manufacturing $ 64.00 $ 60.00
Selling and administrative 28.00 25.00
Total $ 92.00 $ 85.00
Sales to auto manufacturers are priced at $120 per unit, but the sales manager believes the company should aggressively seek the Japanese business even if it results in a loss of $20 per unit. She believes obtaining this order would open up several new markets for the company's product. The general manager commented that the company cannot tighten its belt to absorb the $2,000,000 loss ($20 × 100,000) it would incur if the order is accepted.
(a) Determine the financial implications of accepting the order. (Hint: Use the high-low method to determine variable costs per unit.)
Accepting the offer will Answerdecreaseincrease
profits by $________
(b) How would your analysis differ if the company were operating at capacity? Determine the advantage or disadvantage of accepting the order under full-capacity circumstances.

Answer 1

Answer: See explanation

Explanation:

a. The variable cost per unit will be:

= (3,825,000 - 3,680,000) / (45million - 40 million)

= 0.029

Then, the financial order of accepting the order will be:

Contribution margin = Unit selling price - Unit

= 65 - 29

= 36

Since the size of the order is 100,000, the financial impact of accepting the order will be:

= 36 × 100,000

= 3,600,000

b. The differential analysis will be:

Contribution from special order = 3,600,000

Opportunity cost {100,000 = 120,000,000 - 29,000,000 = 9,100,000

Net disadvantage of accepting order will then be:

= 3600000 - 9100000

= 5,500,000