Accept or Reject a Special Order [LO4]

Pietarsaari Oy, a Finnish company, produces cross-country ski poles that it sells for €32 a pair. (The Finnish unit of currency, the euro, is denoted by €.) Operating at capacity, the company can produce 50,000 pairs of ski poles a year. Costs associated with this level of production and sales are given below:

Per Pair Total Direct materials . . . . . . . . . . . . . . . . . . . . . . . . . . €12 € 600,000 Direct labor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 150,000 Variable manufacturing overhead . . . . . . . . . . . . 1 50,000 Fixed manufacturing overhead . . . . . . . . . . . . . . 5 250,000 Variable selling expenses . . . . . . . . . . . . . . . . . . 2 100,000 Fixed selling expenses . . . . . . . . . . . . . . . . . . . . 4 200,000 Total cost . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . €27 €1,350,000 Required:
1. The Finnish army would like to make a one-time-only purchase of 10,000 pairs of ski poles for its mountain troops. The army would pay a fixed fee of €4 per pair, and in addition it would reimburse the Pietarsaari Oy company for its unit manufacturing costs (both fixed and variable).
Due to a recession, the company would otherwise produce and sell only 40,000 pairs of ski poles this year. (Total fixed manufacturing overhead cost would be the same whether 40,000 pairs or 50,000 pairs of ski poles were produced.) The company would not incur its usual variable selling expenses with this special order.
If the Pietarsaari Oy company accepts the army’s offer, by how much would net operating income increase or decrease from what it would be if only 40,000 pairs of ski poles were produced and sold during the year?
2. Assume the same situation as described in (1) above, except that the company is already operating at capacity and could sell 50,000 pairs of ski poles through regular channels. Thus, accepting the army’s offer would require giving up sales of 10,000 pairs at the normal price of €32 a pair. If the army’s offer is accepted, by how much will net operating income increase or decrease from what it would be if the 10,000 pairs were sold through regular channels?