Reduction in direct-material cost

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Reference no: EM13120127

Cornell Corporation manufactures faucets. Several weeks ago, the firm received a special-order inquiry from Yale, Inc. Yale desires to market a faucet similar to Cornell's model no. 55 and has offered to purchase 3,000 units. The following data are available:

• Cost data for Cornell's model no. 55 faucet: direct materials, $48; direct labor, $30 (2 hours at $15 per hour); and manufacturing overhead, $70 (2 hours at $35 per hour).

• The normal selling price of model no. 55 is $180; however, Yale has offered Cornell only $125 because of the large quantity it is willing to purchase.

• Yale requires a modification of the design that will allow a $4 reduction in direct-material cost.

• Cornell's production supervisor notes that the company will incur $5,200 in additional set-up costs and will have to purchase a $5,000 special device to manufacture these units. The device will be discarded once the special order is completed.

• Total manufacturing overhead costs are applied to production based on direct labor hours. Total budgeted overhead is $840,000. This figure is based, in part, on budgeted yearly fixed overhead of $624,000 and a budgeted activity level of 24,000 direct labor hours.

• Cornell will allocate $8,000 of existing fixed administrative costs to the order as "...part of the cost of doing business."
Required:

A. One of Cornell's staff accountants wants to reject the special order because "financially, it's a loser." Do you agree with this conclusion if Cornell currently has excess capacity? Show calculations to support your answer.

B. If Cornell currently has no excess capacity, should the order be rejected? (Assume for part B that Cornell cannot acquire excess capacity via overtime or any other way.) Briefly explain.

Reference no: EM13120127

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