Sprint Company makes special equipment used in cell towers. Each unit sells for $400. Sprint produces and sells 12,500 units per year. They have provided the following income statement data: A foreign company has offered to buy 80 units for a reduced price of $300 per unit. The marketing manager says the sale will not negatively affect the company's regular sales. The sales manager says that this sale will require incremental selling & administrative costs, as it is a one-time deal. The production manager reports that there is plenty of excess capacity to accommodate the deal without requiring any additional fixed costs. If Sprint accepts the deal, how will this impact operating income?

Question

Sprint Company makes special equipment used in cell towers. Each unit sells for $400. Sprint produces and sells 12,500 units per year. They have provided the following income statement data:  A foreign company has offered to buy 80 units for a reduced price of $300 per unit. The marketing manager says the sale will not negatively affect the company's regular sales. The sales manager says that this sale will require incremental selling & administrative costs, as it is a one-time deal. The production manager reports that there is plenty of excess capacity to accommodate the deal without requiring any additional fixed costs. If Sprint accepts the deal, how will this impact operating income?

Quizplus · Accepted Answer

The revenue from the sale will be 80 x $300 = $24,000.

The incremental selling & administrative costs are not provided, so we assume that they are the only additional costs.

Contribution margin per unit = Selling price per unit - Variable costs per unit

= $400 - Variable costs per unit

We calculate the variable costs per unit from the income statement data:

Variable costs per unit = Cost of goods sold/Number of units sold

= $2,560,000/12,500

= $204.80

Contribution margin per unit = $400 - $204.80 = $195.20

Operating income without the special sale = Revenue - Variable costs - Fixed costs

= $5,000,000 - ($204.80 x 12,500) - $2,080,000

= $2,520,000

Operating income with the special sale = Operating income without the sale + Contribution margin per unit x Number of units sold in the special sale - Incremental selling & administrative costs

= $2,520,000 + ($195.20 x 80) - Incremental selling & administrative costs

= $2,534,016 - Incremental selling & administrative costs

Since the sales manager stated that there would be incremental selling & administrative costs, we can only assume that there will be additional costs incurred. Therefore, the operating income will increase by the contribution margin of the special sale, which is $195.20 x 80 = $15,616.

Hence, the correct answer is A) up $15,040.

Sprint Company Makes Special Equipment Used in Cell Towers