Motor Corp. manufactures machine parts for boat engines. The CEO, James Hamilton, is considering an offer from a subcontractor who would provide 3,000 units of product AB100 for Hamilton at a price of $230,000. If Motor Corp. does not purchase these parts from the subcontractor it must produce them in-house with the following per-unit costs:

 

 

 

Direct materials

$

40

Direct labor

 

25

Variable overhead

 

15

Allocated fixed overhead

 

4

 

In addition to the above costs, if the company produces part AB100, it would incur incremental fixed overhead costs of approximately $10,000.

 

Required:

 

a)   What would be the impact on short-term operating income if the company were to accept the offer from the subcontractor? Show calculations to support your answer. (10 marks)

b)   What strategic factors/considerations are generally relevant to the special-order decision problem (i.e., whether a company should accept a one-time order from a customer with whom the company does not generally do business)? (10 marks)

Part(a):- Operating income of the company will be increased by $20000. Since the cost will decreased by same amount.

Kindly see below mentioned explanation.

Step-by-step explanation

Computation of cost of in house production:-

Direct materials 40

Direct labor 25

Variable overhead 15

Allocated fixed overhead nill

Cost per unit 80(40+25+15)

Total cost(3000 units) $240,000

Add:- Specific fixed cost $10,000

Total cost of in-house production $250,000

Less:- Purchase cost $230,000

Saving in cost by purchasing outside $20,000

Part(b):- Keep the following points in mind when you're considering special orders;

1)A special order can be accepted only if you have excess capacity to produce. You must have the ability to perform the work apart from regular production.

2)Variable costs are a part of your special-order calculation. Variable costs are always relevant to a special order.

3)Will the customer also provide the orders in the future or not.

4)Whether any current business orders are going to hamper due to that specific order or not.

5)Fixed allocated overheads are always sunk cost so do not consider it while making the decision.