Meco Company produces a product that has a regular selling price of $360 per unit. At a typical monthly production volume of 2,000 units, the product's average unit cost of goods sold amounts to $270. Included in this average is $120,000 of fixed manufacturing costs. All selling and administrative costs are fixed and amount to $30,000 per month. Meco Company has just received a special order for 1,000 units at $240 per unit. The buyer will pay transportation, and the regular selling price will not be affected if Meco accepts the order.
Assuming Meco Company has excess capacity, the effect on profits of accepting the order would be
A) $60,000 increase.
B) $60,000 decrease.
C) $30,000 increase.
D) $30,000 decrease.

Question

Quizplus · Accepted Answer

The incremental revenue from the special order is ($240 - $0) x 1,000 = $240,000. The incremental variable cost is ($270 - $0) x 1,000 = $270,000. Therefore, the incremental profit of accepting the order is $240,000 - $270,000 = -$30,000. However, since Meco Company has excess capacity and can produce the additional 1,000 units without incurring any additional fixed manufacturing costs, the fixed cost of $120,000 should not be included in the analysis. The incremental profit of accepting the order is therefore $240,000 - $270,000 + $0 = -$30,000 + $0 = -$30,000, which means that accepting the order will decrease profits by $30,000.

Meco Company Produces a Product That Has a Regular Selling