Question

Grant Industries, a manufacturer of electronic parts, has recently received an invitation to bid on a special order for 21,500 units of one of its most popular products. Grant currently manufactures 43,000 units of this product in its Loveland, Ohio, plant. The plant is operating at 50% capacity. There will be no marketing costs on the special order. The sales manager of Grant wants to set the bid at $12 because she is sure that Grant will get the business at that price. Others on the executive committee of the firm object, saying that Grant would lose money on the special order at that price.

Units		43,000		64,500
Manufacturing costs:
Direct materials	$	172,000	$	258,000
Direct labor		215,000		322,500
Factory overhead		215,000		258,000
Total manufacturing costs	$	602,000	$	838,500
Unit cost	$	14	$	13

Required

2. What is the relevant cost per unit? What do you think the minimum short-term bid price per unit should be? What would be the impact on short-term operating income if the order is accepted at the price recommended by the sales manager?

4. What would the total opportunity cost be if by accepting the special order the company lost sales of 6,100 units to its regular customers? Assume the preceding facts plus a normal selling price of $26 per unit.

What is the relevant cost per unit? What do you think the minimum short-term bid price per unit should be? What would be the impact on short-term operating income if the order is accepted at the price recommended by the sales manager?

	Relevant cost per unit Bid price per unit should be any price above Change in short-term operating income

Total opportunity cost

• ?

Answer 1

Relevant cost are variable cost which changes with change in volume of unit.

Direct Labor , direct material are relevant cost. Fixed over head are fixed and will remain constant whether order is accepted or not. so they are irrelevant.

we will break up factory overhead into fixed and variable expense.variable over head are relevant cost.

variable overhead = change in expense /change in volume

=[258000-215000]/[64500-43000]

=43000/21500

=2 $

RELEVANT COST

Direct Material	4 $[258000/64500]
Direct labor	5 $[215000/43000]
Variable Overhead	2 $
Total relevant cost per unit	11 $ [4 +5 +2]

Minimum bid price is equal to relevant cost. To avoid loss 11 $ is minimum bid price.

change in income = contribution margin of new order.

contribution margin = sales price-variable cost

=$12-$11

=$1*21500 units

change in operating income=21500 $

opportunity cost is cost of choosing one alternative over another.

lost contribution margin = sales price - variable cost

$26-$11

=$15*6100 units

=91500$

opportunity cost = 91500 - income from accepting new order

=91500-21500

opportunity cost= 70000$