Umbrella Company has a capacity of 40,000 units per year and is currently sellin
ID: 2428376 • Letter: U
Question
Umbrella Company has a capacity of 40,000 units per year and is currently selling all 40,000 for $400 each. Buerhle Company has approached Contreras about buying 2,000 units for only $300 each. The units would be packaged in bulk, saving Contreras $20 per unit when compared to the normal packaging cost.Normally, Contreras has a variable cost of $280 per unit. The annual fixed cost of $2,000,000 would be unaffected by the special order.
What would be the impact on profits if Contreras were to accept this special order?
Explanation / Answer
1) Under normal circumstances, the profit is: Sales (40,000 units x $400/each) = $16,000,000 Less : Variable costs (40,000 x $280/unit) = $11,200,000 Fixed costs = $2,000,000 = $2,800,000 2) If they accept the offer then: Sales (38,000 x $400/unit) + (2,000 x $300/unit) = 15,200,000 + 600,000 = 15,800,000 Less: Variable costs: (Normal VC less the savings on packaging) = (40,000 x $280/unit) - (2,000 x $20/unit) = 11,200,000 - 40,000 = $11,160,000 Fixed costs - still $2,000,000 Total profit = 15,800,000 - 11,160,000 - 2,000,000 = $2,640,000 Profit will reduce by $2,800,000 - $2,640,000 = $160,000 if they accept this deal
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