Relevant costs and revenues; marketing channels Diamond Bicycle Company manufactures and sells bicycles nationwide through marketing channels ranging from sporting goods stores to specialty bicycle shops. Diamond's average selling price to its distributors is \(\$ 185\) per bicycle. The bicycles are retailed to customers for \(\$ 349\).

After several years of high sales, Diamond's sales in the past 3 years have slumped to 160,000 bicycles per year, which is only \(70 \%\) of its manufacturing capacity. Diamond expects the demand for its products to remain the same in the next few years.

Premier Stores, a nationwide chain of discount retail stores, has recently approached Diamond to manufacture bicycles for Premier to sell. Premier has offered to purchase 40,000 bicycles annually for a 3-year period at \(\$ 125\) per bicycle. It is not willing to pay a higher price because it plans to retail the bicycles at only \(\$ 200\). Diamond has not previously sold bicycles through any marketing channel other than specialty stores.

Mike Diamond is the chief executive officer of Diamond Bicycle. Although Premier's offer is well below Diamond's normal price, Mike is interested in the offer because Diamond has considerable surplus capacity. He has been supplied with the following variable product cost information:

The direct materials cost includes \(\$ 2\) for embossing Premier's private label on the bicycle. Fixed support costs total \(\$ 2,000,000\) annually. Diamond also pays its sales staff a \(10 \%\) commission but will not need to pay any salesperson for the special sale to Premier. Average inventory levels for Premier's offer are estimated as follows:

Annual inventory carrying cost is estimated to be \(10 \%\) of the inventory carrying value based on variable costs. Premier's offer requires Diamond to deliver the bicycles to Premier's regional warehouse so that Premier can have ready access to an inventory of bicycles to meet fluctuating market demand. Diamond estimated that about \(5 \%\) of Diamond's present sales will be lost if Premier's offer is accepted because some customers will comparison shop and find the same quality bicycle available at a lower price in Premier's stores.
Required

a. Should Mike Diamond accept Premier's offer?

b. What strategic and other factors should be considered before Mike makes a final decision?

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Direct materials costs $50 Direct labor costs 30 Variable manufacturing support costs Total costs 25 $105