Bama manufactures beer and chips under its premium label. It has been in business for a long time and is a household name. Their Tampa plant has a capacity of 120,000 cases/month, but operates at a normal volume of 85,000 cases/month. Bama has been approached by a Sigma, a large retailer, about producing a line of chips under the Sigma house label. Sigma would initially place an order for 15,000 cases/month, with the understanding that the order will be expanded if the product is successful. The initial order would be for a reduced line of four simple chip varieties following Bama’s normal recipes. All of these lines have the same production cost of $31/case, as follows:
-ingredients and packaging, $17
-direct labor, $3
The overhead is 55% fixed manufacturing costs, 25% variable manufacturing costs, and 20% allocated general corporate overhead. Bama would incur $6,000/month additional setup costs if the order is accepted. Packaging would cost twenty cents/case less because of a cheaper label used by Sigma.
Bama normally sells these soups for $38/case. Sigma has offered $29/case, stating that the steep discount is necessary for them to price the product in conformity with their pricing philosophy and customer expectations.
Our regional marketing director is inclined to reject the offer, because it is below cost, and therefore Bama would lose money on the contract. Please discuss the factors that the regional manager should consider in making the decision with any relevant calculations.