Tolman Sunglasses sell for about $154 per pair. Suppose that the company incurs the following average costs per pair:
Direct materials.....................................$ 39
Direct labor........................................... 16
Variable manufacturing overhead........ 9
Variable selling expenses...................... 3
Fixed manufacturing overhead............. 25*
Total cost.............................................. $ 92
*$2,250,000 Total fixed manufacturing overhead / 90,000 Pairs of sunglasses
Tolman has enough idle capacity to accept a one-time-only special order from Alaska Shades for 25,000 pairs of sunglasses at $83 per pair. Tolman will not incur any variable selling expenses for the order.
Requirements
1. How would accepting the order affect Tolman’s operating income? In addition to the special order’s effect on profits, what other (longer-term qualitative) factors should Tolman’s managers consider in deciding whether to accept the order?
2. Tolman’s marketing manager, Peter Kyler, argues against accepting the special order because the offer price of $83 is less than Tolman’s $92 cost to make the sunglasses. Kyler asks you, as one of Tolman’s staff accountants, to explain whether his analysis is correct. What would you say?