Kurti unit evaluating a 400-piece festival order
Two textile graduates open a small kurti unit in Coimbatore after a skill-development course. They buy two industrial machines for Rs 60,000 each, pay a Rs 30,000 refundable shop deposit, and take a Rs 1,50,000 working-capital loan. Monthly rent is Rs 12,000; electricity Rs 4,000; machine maintenance and depreciation Rs 3,000; internet and marketing Rs 2,000; loan repayment Rs 6,000. Each kurti uses Rs 180 of fabric and Rs 25 of trims; the tailor is paid Rs 80 per piece; packing costs Rs 15. The selling price is Rs 750. Two tailors can make 6 kurtis each per day, and the unit works 26 days a month. A school-festival buyer offers an order for 400 kurtis in 30 days at Rs 750, but wants delivery in two lots and a Rs 20,000 penalty clause for late delivery. The unit has no other orders this month.
1. Calculate the break-even quantity and the contribution from the order. Should they accept?
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Variable cost = 180 + 25 + 80 + 15 = Rs 300 per kurti. Contribution = 750 - 300 = Rs 450. Fixed cost = 12,000 + 4,000 + 3,000 + 2,000 + 6,000 = Rs 27,000 per month. Break-even = 27,000 / 450 = 60 kurtis. The 400-piece order gives 400 x 450 = Rs 180,000 contribution and Rs 153,000 profit before tax. Capacity = 2 tailors x 6 kurtis x 26 days = 312 kurtis, so 88 pieces must be outsourced or made with overtime. If 88 are outsourced at an extra Rs 40 each, contribution on those is Rs 410; profit = 312 x 450 + 88 x 410 - 27,000 = Rs 149,480. Accept in principle, but only if the outsource quality is approved and the Rs 20,000 penalty is covered by the margin. Material cash of about 400 x 205 = Rs 82,000 must be financed before payment.
2. The buyer later offers a repeat order of 500 kurtis at Rs 680 with the same penalty. Evaluate the offer.
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New contribution = 680 - 300 = Rs 380. Break-even = 27,000 / 380 = 71 kurtis. In-house capacity is 312, so 188 must be outsourced. If outsourcing adds Rs 40, contribution on those is Rs 340. Profit = 312 x 380 + 188 x 340 - 27,000 = Rs 155,480. The profit is slightly higher than the 400-piece order at Rs 750, but the margin is thinner, the penalty is the same and the quality risk is larger. Do not accept just because the total profit is higher. Negotiate a lower penalty, a part-payment on delivery, or a price of about Rs 700, or reduce the quantity to 312 to avoid outsourcing. If the outsource partner is reliable and the penalty is capped, the order can be accepted.
3. Which financial or production control would you put in place before accepting either order, and why?
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Put in place a capacity and cash plan before signing. The capacity plan should show daily in-house output, the exact outsource quantity and a written quality check at receipt, because the order is larger than the two tailors can make. The cash plan should show material and wage payments, the loan repayment and the buyer's payment terms, because a profitable order can still fail if the unit cannot pay for fabric. Quote a price that includes the owners' salary, which is missing from the fixed-cost list, and include the penalty clause in the costing. Keep the Rs 20,000 penalty as a contingency rather than spending the full projected profit. These controls turn a paper profit into a deliverable order.