The management of Natural Remedies has been considering whether or not to accept a one-off contract. The
Question:
The management of Natural Remedies has been considering whether or not to accept a one-off contract. The customer is offering a price of $10,500,000 for painting services. The painter has indicated to management that the total cost will include, direct material, direct labor, direct expenses and suitable overheads. Management’s policy is to apply a mark-up of 25% to all contracts. The following information is relevant to the special contract:
The contract requires 40,000 kilograms of premium Berger paint: Currently the company has 17,000 kilograms of paint in stock from a previous contract. The paint cost $75 per kilogram when it was bought last year. A customer in Kingston has offered to buy the current stock of paint for $85 per kilogram, provided that delivery is available. The cost of transporting it to Kingston is $14,000, however, management has decided to use the paint for this contract. The current purchase price per kilogram of the paint is $90.
The contract also requires 1,300 kilograms of paint thinner. The current unit price is $630, but 650 kilograms are currently in the warehouse. The paint thinners were bought last year at $550 per kilogram. However, it was determined that they were hardening and would require treatment at a cost of $50,000. Management was offered $45 per kilogram, as is, without the treatment however a decision was made to use it in the contract.
The one-off contract also requires 75 cans of sealant. Natural Remedies bought 55 cans four months ago to use on another project at a price of $5,500 per bag, that project was cancelled. The cans of sealant can be sold to a competitor for $5,600. The current purchase price per bag is $6,500.
Skilled workers are required. It was advised that 185 hours are required at $560 per hour. These workers will be employed specifically for this contract.
Unskilled workers are currently paid a rate of $380 per hour. Natural Remedies employs 10 unskilled workers to work 8 hours per day for five days per week. The contract is expected to last seven weeks. However, they are currently employed by the company where they are earning a contribution for the company at $290 per hour. For this project the company will need 4 of the unskilled workers.
The entity has fixed cost of $950,000 that is to be charged to the contract. Further analysis indicated that 65% of the fixed cost will continue whether or not the contract is accepted.
Required:
Advise management on the feasibility of the contract after preparing a cost and profit statement based on the above.
