Question

Calla Company produces skateboards that sell for \(50 per unit. The company currently has the capacity to produce 90,000 skateboards per year, but is selling 80,000 skateboards per year. Annual costs for 80,000 skateboards follow.

Direct materials . \) 800,000

Direct labor 640,000

Overhead . 960,000

Selling expenses 560,000

Administrative expenses . 480,000

Total costs and expenses \(3,440,000

A new retail store has offered to buy 10,000 of its skateboards for \)45 per unit. The store is in a different market from Calla’s regular customers and would not affect regular sales. A study of its costs in anticipation

of this additional business reveals the following:

Direct materials and direct labor are 100% variable.

Thirty percent of overhead is fixed at any production level from 80,000 units to 90,000 units; the remaining

70% of annual overhead costs are variable with respect to volume.

Selling expenses are 60% variable with respect to number of units sold, and the other 40% of selling expenses are fixed.

There will be an additional \(2 per unit selling expense for this order.

Administrative expenses would increase by a \)1,000 fixed amount

Required

1. Prepare a three-column comparative income statement that reports the following:

a. Annual income without the special order.

b. Annual income from the special order.

c. Combined annual income from normal business and the new business.

2. Should Calla accept this order? What nonfinancial factors should Calla consider? Explain.

Analysis Component

3. Assume that the new customer wants to buy 15,000 units instead of 10,000 units—it will only buy 15,000 units or none and will not take a partial order. Without any computations, how does this change your answer for part 2?

Short answer

The combined net income of the company is $683,000. Yes, company should accept. Calla company did not need to accept the if partial orders was not accepted.

Step-by-step solution

Step 1:Preparation of three-column comparative income statement  

	Total
	Annual Income Without Special Order	Annual Income with Special Order	Combined Annual Income
Sales	$4,000,000 ($50 * 80,000)	$450,000 ($45 * 10,000)	$4,450,000
Variable Cost
Direct Material	$(800,000)	$(100,000) ($10 * 10,000)	$(900,000)
Direct Labor	$(640,000)	$(80,000) ($8 * 10,000)	$(720,000)
Variable Overhead	$(672,000) (0.72 * 960,000)	$(84,000) ($8.4 * 10,000)	$(756,000)
Selling Expenses	$(336,000)	$(62,000)	$(398,000)
Total variable Cost	$(2,448,000)	$(326,000)	$(2,774,000)
Contribution Margin	$1,552,000	$124,000	$1,676,000
Fixed Costs:
Fixed Overhead	$(288,000) (0.3 * 960,000)	$0	$(288,000)
Selling Expenses	$(224,000)	$(20,000) ($2 * 20,000)	$(224,000)
Administrative Expenses	$(480,000)	$(1,000)	$(481,000)
Total Fixed Cost	$(992,000)	$(1,000)	$(993,000)
Net Income	$560,000	$123,000	$683,000

Accept or reject the order

The company should accept this order because this offer increases the net income of the company by $123,000.

Non-financial factors considered by the Calla Company are following:

1. Calla considers that whether company is able to produce the special order with existing machines or need to purchase new machines
2. Calla also checks the ability of the suppliers to provide the raw material to meet the special order.
3. Calla checks the capacity of the employees to produce the new orders.

Effect of the new order

Company should consider the non-financial factors before accepting the order. If partial orders are not accepted the company should reject the order because if company accept the order and not able to meet the order on time then all order are rejected.