Mya Garment: Special Order with a Binding Capacity Constraint
Mya Garment Co. Ltd operates a CMP garment factory in Yangon with a monthly capacity of 10,000 machine hours. It currently makes two products. A T-shirt uses 2 machine hours and earns a contribution of MMK 7,000 per unit; monthly demand is 4,000 units. A polo shirt uses 5 machine hours and earns a contribution of MMK 22,000 per unit; monthly demand is 1,500 units. Fixed production overhead is allocated at MMK 2,000 per machine hour. A European buyer has offered a special order for 2,000 units of a new design at MMK 18,000 per unit. Each unit would use 3 machine hours and incur variable cost of MMK 12,000. The order also requires a one-off design cost of MMK 5,000,000 and a machine conversion cost of MMK 2,000,000. The factory is already fully loaded, so accepting the order means reducing existing output. The sales director argues that the order should be accepted because the price of MMK 18,000 exceeds the variable cost of MMK 12,000.
1. Using relevant costing, determine whether Mya Garment should accept the special order. Show the opportunity cost and the optimal production plan.
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First establish the optimal use of capacity without the order. Contribution per machine hour: T-shirt = 7,000 ÷ 2 = MMK 3,500; polo = 22,000 ÷ 5 = MMK 4,400. Polos are more profitable per constrained hour, so produce all 1,500 polos (7,500 hours), leaving 2,500 hours for 1,250 T-shirts. If the order is accepted, it needs 2,000 × 3 = 6,000 hours. The 2,500 T-shirt hours are given up first (1,250 units), then 3,500 polo hours (700 units). Opportunity cost: T-shirts 2,500 × 3,500 = MMK 8,750,000; polos 3,500 × 4,400 = MMK 15,400,000; total MMK 24,150,000. Incremental revenue = 2,000 × 18,000 = MMK 36,000,000. Relevant costs = variable 2,000 × 12,000 = 24,000,000 + design 5,000,000 + conversion 2,000,000 + opportunity cost 24,150,000 = MMK 55,150,000. Net effect = 36,000,000 − 55,150,000 = −MMK 19,150,000. Reject the order on financial grounds.
2. Calculate the minimum price per unit and explain why the allocated fixed overhead is not included.
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Minimum price = total relevant cost ÷ 2,000 = 55,150,000 ÷ 2,000 = MMK 27,575 per unit. Allocated fixed overhead of MMK 2,000 per machine hour is not relevant because it is an allocation of existing fixed cost that does not change with the order. Including it would overstate the minimum price and could lead to a wrong decision. The relevant fixed costs are the one-off design and machine conversion costs, which are incremental. The opportunity cost is also a relevant cost because the order consumes scarce capacity. If the order is expected to generate follow-on export business, the minimum price could be lower strategically, but that is a separate commercial decision.
3. Discuss two qualitative factors that could change the decision.
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Qualitative factors include: (1) Export market entry and customer relationship - the order may open a long-term European channel, but accepting a loss could set a low price expectation. (2) Operational risk - using all capacity and cutting existing products may cause delivery delays, quality problems, and labour fatigue; the new design may require learning time and yield losses. Other factors include whether the design and conversion costs can be reused, whether the order is repeatable, and the risk of penalties for late delivery. These should be weighed against the MMK 19.15 million financial loss.