Accounting Business Reporting for Decision Making

442 Accounting: Business Reporting for Decision Making

(continued)

Increasing production will increase expenditure only on variable costs. The variable costs for

the special order will increase to $30.30 (see calculations following). The total variable costs will

increase by $15 150, with an additional $5000 required to program the machine specifically to

manufacture the swimsuits. As this is a one-off order, it is assumed that the machinery will not be

used for other purposes, and therefore full cost recovery is required from income generated by the

special order.

Relevant costs and income of special order

Incremental income

500 swimsuits × $70

Incremental costs

Variable manufacturing costs

Direct material (500 swimsuits × $9.60a)

Direct labour (500 swimsuits × $13.20b)

Indirect manufacturing (500 swimsuits × $7.50)

Incremental fixed costs

Programming of machinery

$ 4 800

6 600

3 750

$35 000

15 150

5 000

Total incremental costs 20 150

Benefit of special order (increase in profit) $14 850

a Increase of 20% = $8 × 1.2

b Increase of 10% = $12 × 1.1

The financial analysis of the special order indicates that Brooks Enterprises can increase its current

profits by $14 850. The statement of profit or loss incorporating the special order would be as follows:

Statement of profit or loss (contribution margin format)

with existing

sales

with special

order

Revenue

100 000 units × $75

500 units × $70

$ 7 500 000 $ 7 500 000

35 000

Total revenue $ 7 500 000 $ 7 535 000

Less: Variable costs

100 000 units × $27.50

500 units × $30.30

$ 2 750 000 $ 2 750 000

15 150

Total variable costs $ 2 750 000 $ 2 765 150

Contribution margin $ 4 750 000 $ 4 769 850

Less: Fixed costs

Additional fixed costs

$ 1 500 000 $

$

1 500 000

5 000

$ 1 500 000 $ 1 505 000

Profit $ 3 250 000 $ 3 264 850

However, the qualitative factors also need to be considered. How will existing customers react if they

discover Specialised Fitters is purchasing the swimsuits at a lower price? Will Specialised Fitters be a

potential long-term customer after this order? A final decision cannot be made until such factors are

considered.

Illustrative example 10.7 demonstrates the assessment of a special order for an entity without idle

capacity.