Textbook Problem

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Fiorello Company manufactures two types of cold-pressed olive oil, Refined Oil and Top Quality Oil, out of a joint process. The joint (common) costs incurred are $92,500 for a standard production run that generates 30,000 gallons of Refined Oil and 15,000 gallons of Top Quality Oil. Additional processing costs beyond the split-off point are $2.40 per gallon for Refined Oil and $1.95 per gallon for Top Quality Oil. Refined Oil sells for $4.25 per gallon, while Top Quality Oil sells for $8.30 per gallon.

MangiareBuono, a supermarket chain, has asked Fiorello to supply it with 30,000 gallons of Top Quality Oil at a price of $8 per gallon. MangiareBuono plans to have the oil bottled in 16- ounce bottles with its own MangiareBuono label.

If Fiorello accepts the order, it will save $0.23 per gallon in packaging of Top Quality Oil. There is sufficient excess capacity for the order. However, the market for Refined Oil is saturated, and any additional sales of Refined Oil would take place at a price of $3.10 per gallon. Assume that no significant non-unit-level activity costs are incurred.

Required:

1. 1. What is the profit normally earned on one production run of Refined Oil and Top Quality Oil?
2. 2. Should Fiorello accept the special order? Explain. (CMA adapted)

To determine

Calculate the profit earned on refined oil and top quality oil.

Explanation of Solution

Tactical decision making: Tactical decision making is a process in which the company can choose the correct alternative based on the profitability. In tactical decision making, offer price of a product is compared with the normal selling price and offer price less than the normal selling price of product is considered as the idle capacity for decision making.

Calculate the profit earned on refined oil and top quality oil as follows:

Particulars	Amount in $
Contribution margin from refined oil (1)	$55,500
Contribution margin from top quality oil (2)	$95,250
Total contribution margin	$150,750
Less: Joint cost	$92,500
Operating income	$58,250

Table (1)

Working note (1):

Calculate the contribution margin from refined oil.

Particulars	Cost per gallon (A)	Refined oil $\left(30,000gallons\times A\right)$
Revenues	$4

To determine

Explain whether company F should accept the special order or not.