Question

Excalibur, Inc., received an order for a piece of special machinery from Rex Company. Just as Excalibur completed the machine, Rex Company declared bankruptcy, defaulted on the order, and forfeited the 10 percent deposit paid on the selling price of $217,500. Excalibur’s manufacturing manager identified the costs already incurred in the production of the special machinery for Rex Company as follows:


Another company, Kaytell Corporation, will buy the special machinery if it is reworked to Kaytell’s specifications. Excalibur, Inc., offered to sell the reworked machinery to Kaytell as a special order for $205,200. Kaytell agreed to pay the price when it takes delivery in two months. The additional identifiable costs to rework the machinery to Kaytell’s specifications are as follows:
Direct materials.............................................................................. $18,600
Direct labor.................................................................................... 12,600
Total............................................................................................... $31,200
A second alternative available to Excalibur’s management is to convert the special machinery to the standard model, which sells for $187,500. The additional identifiable costs for this conversion are as follows:
Direct materials.................................................................................. $ 8,550
Direct labor........................................................................................ 9,900
Total................................................................................................... $18,450
A third alternative for Excalibur, Inc., is to sell the machine as is for a price of $156,000. However, the potential buyer of the unmodified machine does not want it for 60 days. This buyer has offered a $21,000 down payment, with the remainder due upon delivery.
The following additional information is available regarding Excalibur’s operations.
• The allocation rates for manufacturing overhead and fixed selling and administrative costs are:
Manufacturing costs:
Variable...................................................... 50% of direct-labor cost
Fixed....................................................... 25% of direct-labor cost
Fixed selling and administrative costs....... 10% of the total of direct-material, direct-labor, and manufacturing-overhead costs
• The sales commission rate on sales of standard models is 2 percent, while the rate on special orders is 3 percent.
• Normal credit terms for sales of standard models are 2/10, net/30. This means that a customer receives a 2 percent discount if payment is made within 10 days, and payment is due no later than 30 days after billing. Most customers take the 2 percent discount. Credit terms for a special order are negotiated with the customer.
• Normal time required for rework is one month.

Required:
1. Determine the dollar contribution each of the three alternatives will add to Excalibur’s before-tax profit.
2. If Kaytell makes Excalibur a counteroffer, what is the lowest price Excalibur should accept for the reworked machinery from Kaytell? Explain your answer.
3. Discuss the influence fixed manufacturing-overhead cost should have on the sales price quoted by Excalibur, Inc., for special orders.
(CMA,adapted)


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  • CreatedApril 22, 2014
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