Friendly Hearth Company (FHC) manufactures inserts for home fireplaces. Last year, FHC completed an order of 1,000 fireplace inserts for Warm Your Heart Company, which operated a chain of fireplace supply stores. Warm Your Heart Company paid 20% of the order price but subsequently declared bankruptcy and never took delivery of products. FHC citing the contract stipulations, refused to refund the deposit to the trustee in bankruptcy handling the Warm Your Heart wrap-up.
The financials associated with the Warm Your Heart order were:
Order price
$450,000
Direct materials
$125,000
Direct labour
65,000
Manufacturing overhead
100,000
Selling and administrative
50,000
340,000
Order projected profit
$110,000
The price for this order was determined by applying the mark-up over variable costs FHC always uses to set order prices. An analysis of costs concluded that all selling and administrative costs are fixed and approximately 20% of manufacturing overhead is variable. The completed inserts are now languishing in a rented warehouse space that is costing FHC $5,000 per month.
Advertisements on the FHC website have generated three offers for this inventory.
Down Home Company has offered to take the lot off your hands for $300,000. The FHC CFO has adamantly opposed this since it will cause a loss to be reported for this project.
Northern Comforts has asked for enhancements to the existing inventory that would result in $10,000 in materials costs and $25,000 in labour costs and would require 200 labour hours of work. Because of labour constraints, accepting this offer and using the required labour hours would require FHC to sacrifice other production that would provide revenues of $25,000.
A company that is negotiating to acquire the assets of Warm Your Heart has indicated that it will acquire the production at the agreed price of the original order, less the original deposit if FHC would be willing to hold the inventory for another eight months. FHC believes there is no risk this company would default on this offer if accepted.
Given this information, what is the minimum price Northern Comforts must offer to make its bid the best for FHC?
