Rodder, Inc., manufactures a component in a router assembly. The selling price and unit cost data for the component are as follows:
Selling price $15
Direct materials cost 3
Direct labor cost 3
Variable overhead cost 3
Fixed manufacturing overhead cost 2
Fixed selling and administration cost 1
The company received a special one-time order for 1,000 components. Rodder has an alternative use for production capacity for the 1,000 components that would produce a contribution margin of $5,000.
What amount is the lowest unit price Rodder should accept for the component?
Rodder needs to sell the components in order to earn as much money as he would have had he used them for his alternate production use.
In other words, he needs to determine the sales price that would allow him to keep the $5,000 contribution margin.
The contribution margin is the difference between the revenue for the components and the variable cost of the components.
The variable cost to produce these components is $9 per unit ($3 direct material + $3 direct labor + $3 variable overhead),
or $9,000 total ($9 per unit × 1,000 units).$5,000 (Contribution margin) =
Revenue - $9,000Revenue = $5,000 + $9,000 = $14,000
$14,000 revenue for $1,000 units = $14 per unit$14 per unit is the lowest price Rodder should accept in order to keep his contribution margin of $5,000.