Homestead Jeans Co. has an annual plant capacity of 65,000 units, and current production is 45,000 units

Homestead Jeans Co. has an annual plant capacity of 65,000 units, and current production is 45,000 units. Monthly fixed costs are $54,000, and variable costs are $29 per unit. The present selling price is $42 per unit. On November 12, 2014, the company received an offer from Dawkins Company for 18,000 units of the product at $32 each. Dawkins Company will market the units in a foreign country under its own brand name. The additional business is not expected to affect the domestic selling price or quantity of sales of Homestead Jeans Co.

a. Prepare a differential analysis on whether to reject (Alternative 1) or accept (Alternative 2) the Dawkins order.

b.  Briefly explain the reason why accepting this additional business will increase operating income.

c. What is the minimum price per unit that would produce a positive contribution margin?


Answer:

Differential Analysis 
Reject Order (Alt. 1) or Accept Order (Alt. 2) 
November 12, 2014 


Reject Order 
(Alternative 1) 
Revenues $0 $576,000
Costs:    
Variable manufacturing costs 0 –522,000 I
ncome (Loss) $0 $  54,000 $  54,000 
    
18,000 units × $32 per unit 
18,000 units × $29 per unit 
b. The additional units can be sold for $32 each, and since unused capacity is 
available, the only costs that would be added if this additional production were 
accepted are the variable costs of $29 per unit. The differential revenue is 
therefore $32 per unit, and the differential cost is $29 per unit. Thus, the net 
gain is $3 per unit × 18,000 units, or $54,000. 
c. $29.01. Any selling price above $29 (variable costs per unit) will produce a 
positive contribution margin.