Question:
Relevant costs, special sales order-idle versus full capacity The Delmar Beverage Co. produces a premium root beer that is sold throughout its chain of restaurants in the Midwest. The company is currently producing 4,000 gallons of root beer per day, which represents 80% of its manufacturing capacity. The root beer is available to restaurant customers by the mug, in bottles, or packaged in six-packs to take home. The selling price of a gallon of root beer averages $10, and cost accounting records indicate the following manufacturing costs per gallon of root beer:
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Raw materials
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$3.20
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Direct labor
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1.6
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Variable overhead
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1
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Fixed overhead
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2.2
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Total absorption cost
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$8.00
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In addition to the manufacturing costs just described, Delmar Beverage incurs an average cost of $0.50 per gallon to distribute the root beer to its restaurants.
SaveMore, Inc., a chain of grocery stores, is interested in selling the premium root beer in gallon jugs throughout its stores in the St. Louis area during holiday periods and has offered to purchase root beer from Delmar Beverage at a price of $7.70 per gallon. SaveMore believes it could sell 600 gallons per day. If Delmar Beverage agrees to sell root beer to SaveMore, it estimates the average distribution cost will be $0.70 per gallon.
Required:
a. Identify all the relevant costs that Delmar Beverage should consider in evaluating the special sales order from SaveMore.
b. How would Delmar Beverage's daily operating income be affected by the acceptance of this offer?
c. Assume that Delmar Beverage is currently producing 5,000 gallons of root beer daily. Repeat requirements a and b.
d. Explain why your answers are different when Delmar Beverage is producing 4,000 gallons per day versus 5,000 gallons per day.