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Performance Management · Pricing decisions

Minimum Price for Special Orders and Make-or-Buy Context

Updated 11 October 2026 · Fact-checked

The minimum price for a special order is the sum of its relevant costs: future, incremental cash costs plus any opportunity costs. Ignore sunk costs, committed costs and absorbed fixed overheads. Any price above this adds to profit. Normal full-cost pricing covers all costs and profit, so it is higher.

Understand Pricing Decisions for Special Orders and Make-or-Buy Context

A special order is a one-off request, often at a price below normal. You are not setting a long-run price. You are asking one question: will the business be better off if it accepts, and by how much?

To answer it, use relevant costs. A relevant cost is a future cash flow that changes because of the decision. If the cost is paid anyway, it is not relevant. If accepting the order causes a cost or loss of income, it is relevant.

The minimum price is the price at which the business is exactly no better and no worse off. It equals the total relevant cost of the order. It has three typical parts: extra cash costs, such as materials you must buy; opportunity costs, such as contribution lost on spare resources that have another use; and any other extra costs, such as a new fixed cost caused by the order.

The full cost price is different. It includes absorbed fixed overheads and a profit mark-up. That is right for the long run, when all costs must be covered. For a one-off order with spare capacity, the fixed overheads do not change, so they are ignored. Many exam questions test exactly this gap.

The same logic applies to make-or-buy. You compare the relevant cost of making with the buying price. A resource short in supply adds an opportunity cost: the contribution lost elsewhere.

Key rules to remember

Minimum price of a special order
Minimum price = Relevant cost of the order (incremental cash costs + opportunity costs)
Any price above this increases profit. Add a margin if the question asks for a target profit.
Relevant cost of materials
Already held and no other use: scrap/resale value (₹0 if none). Held and used elsewhere: replacement cost. Not held: current purchase cost.
Use the cost of the benefit given up. Check whether the material is regularly used.
Relevant cost of labour
Spare capacity: ₹0 extra if paid anyway. Fully used: pay + lost contribution (after pay) from the diverted work.
Count labour once only. Pay plus contribution after pay equals contribution before labour cost. Use one of these routes, never both.
Opportunity cost with scarce resource
Opportunity cost = contribution per unit of resource × units of resource diverted
Add this to the cash cost of the order. The opportunity cost is the contribution forgone. Count the cost of the resource once only: either add the resource cost to contribution calculated after it, or use contribution before it and add nothing more.
Make-or-buy with no scarcity
Make if relevant variable cost of making < buying price
Include avoidable fixed costs. Ignore unavoidable fixed costs.

How to solve Pricing Decisions for Special Orders and Make-or-Buy Context questions

Use this method for any special order or minimum price question. Work through each cost item and decide: relevant or not.

  1. 1List every cost and resource the order uses: materials, labour, machine time, overheads, any extra costs.
  2. 2Check whether there is spare capacity. This decides whether labour and machine time have an opportunity cost.
  3. 3For each item, ask: is it a future cash flow that changes because of the order? Remove sunk costs, committed costs and absorbed fixed overheads.
  4. 4For materials, check whether they are in stock, whether they are used elsewhere, and what replacement or resale values apply.
  5. 5Add opportunity costs for any resource that is fully used, using lost contribution.
  6. 6Add the relevant costs to get the minimum price. Add any required profit to get a target price.
  7. 7Compare with the offered price. Then comment on non-financial points: effect on regular customers, future orders, capacity and risk.

Quickest way: Three-column relevance table

When to use it: Use it in Section C when the scenario lists many costs and you have limited time.

  1. Draw three columns: item, relevant cost, reason in 3-4 words.
  2. Go down the list and write a figure or ₹0 for each item. Do not skip items; show ₹0 explicitly.
  3. Add the relevant column for the minimum price.
  4. Write one line comparing it with the offered price and one line on non-financial factors.

Common mistakes in Pricing Decisions for Special Orders and Make-or-Buy Context

  • Including absorbed fixed overhead in the minimum price.

    The question gives an overhead absorption rate and it looks like a cost of the product.

    Fix: Include only fixed costs that actually rise because of the order. If the overhead is paid anyway, leave it out.

  • Using the original cost of materials already in stock.

    Historical cost is the number on the stock record.

    Fix: Use replacement cost if the material would be replaced, or resale value if it would not. Original cost is sunk.

  • Charging labour at full pay when staff are idle.

    Students treat all labour as variable.

    Fix: If workers are paid regardless and have spare time, the relevant cost is ₹0. Check the wording for 'spare capacity' or 'guaranteed pay'.

  • Calculating opportunity cost using profit rather than contribution.

    Profit is easier to find in the data.

    Fix: Use the contribution lost from the diverted work, since fixed costs do not change.

  • Treating the minimum price as the price to charge.

    The calculation produces one number, so it feels like the answer.

    Fix: State that it is a floor. Recommend a price above it and explain the other factors, such as setting a precedent for lower prices.

  • Forgetting the opportunity cost in a make-or-buy with scarce resources.

    Students compare only cash costs of making and buying.

    Fix: When the resource is limited, add lost contribution to the make cost, or compare the cost of buying with the contribution saved per unit of resource.

Worked examples

Example 1

A firm has spare capacity and is asked to make 1,000 units for a one-off order. Per unit: material A needs 2 kg. The firm holds 2,000 kg of A bought at ₹50 per kg. Current replacement cost is ₹60 per kg. A is regularly used in production. Labour is 3 hours per unit at ₹100 per hour; the workers are fully employed on other work earning contribution of ₹150 per labour hour after deducting their wage of ₹100, so they would be diverted. Fixed overhead absorbed is ₹40 per labour hour. Variable overhead is ₹20 per labour hour. Calculate the minimum price for the whole order.

Show the solution
  1. Materials: A is regularly used, so it would be replaced. Relevant cost = replacement cost. 1,000 × 2 kg × ₹60 = ₹1,20,000.
  2. Labour wage: 1,000 × 3 hours × ₹100 = ₹3,00,000. Labour is fully used and diverted, so the wage paid for this order is relevant.
  3. Opportunity cost of labour: contribution lost after wages = ₹150 per hour × 3,000 hours = ₹4,50,000.
  4. Labour check: wage plus contribution after wages = ₹100 + ₹150 = ₹250 per hour, the same as contribution before labour cost. ₹250 × 3,000 hours = ₹7,50,000. Count it once only.
  5. Variable overhead: 3,000 hours × ₹20 = ₹60,000. It rises with hours worked, so it is relevant.
  6. Fixed overhead absorbed (₹40 per hour) is not relevant because it does not change.
  7. Total relevant cost = 1,20,000 + 7,50,000 + 60,000 = ₹9,30,000.
  8. Minimum price per unit = ₹9,30,000 ÷ 1,000 = ₹930.

Answer: Minimum price for the order is ₹9,30,000 (₹930 per unit).

Example 2

A company is asked for a one-off order of 500 units. Materials X: 4 kg per unit. The company holds 1,500 kg bought for ₹30 per kg. It has no other use for X, and could sell it for ₹18 per kg. A further 500 kg must be bought at ₹32 per kg. Skilled labour: 2 hours per unit; there is spare capacity, and the workers are paid a fixed salary. A new machine licence costing ₹25,000 must be bought just for this order. Absorbed fixed overhead is ₹10 per unit. The customer offers ₹300 per unit. Should the company accept?

Show the solution
  1. Material needed = 500 × 4 kg = 2,000 kg. Of this, 1,500 kg is held and 500 kg must be bought.
  2. Held X: no other use, so the relevant cost is resale value. 1,500 × ₹18 = ₹27,000.
  3. Bought X: 500 kg × ₹32 = ₹16,000.
  4. Labour: spare capacity and fixed salary, so relevant cost = ₹0.
  5. Machine licence: extra cash cost caused by the order = ₹25,000.
  6. Absorbed fixed overhead: not relevant.
  7. Total relevant cost = 27,000 + 16,000 + 0 + 25,000 = ₹68,000.
  8. Revenue = 500 × ₹300 = ₹1,50,000.
  9. Incremental profit = 1,50,000 − 68,000 = ₹82,000.

Answer: Accept: the order adds ₹82,000 to profit. The minimum price is ₹68,000 for the whole order, an average of ₹136 per unit (₹68,000 ÷ 500), because the licence is a fixed cost for the order. This is well below the ₹300 per unit offered. Also consider the effect on regular customers' price expectations.

Exam tips

  • Show every cost item and state ₹0 where an item is irrelevant. Markers give credit for correct reasoning, not just totals.
  • Read for key phrases: 'spare capacity', 'already purchased', 'used regularly', 'no alternative use', 'paid regardless'. They tell you which rule to apply.
  • In Section A and B objective questions, one item usually carries the trap, such as sunk cost or resale value. Check every cost before choosing an option.
  • In a written question, finish with a recommendation and at least two non-financial points, such as customer relations, capacity and repeat orders.
  • If asked to compare with full cost, give the full cost price and explain why the minimum price is lower: fixed overheads and profit are excluded.

Practice questions from Pricing decisions

Pricing Decisions for Special Orders and Make-or-Buy Context in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Pricing Decisions for Special Orders and Make-or-Buy Context: frequently asked questions

What is the difference between minimum price and full cost price?

The minimum price covers only relevant costs: future incremental cash costs plus opportunity costs. Full cost price adds absorbed fixed overheads and a profit mark-up. The minimum price is a floor for a one-off order; full cost is a long-run pricing guide.

How do I treat opportunity cost in a minimum price calculation?

Add the contribution lost from the next best use of the resource. This applies only if the resource is scarce and would be diverted. Add it to the cash cost of using the resource.

Are fixed overheads ever relevant to a special order?

Yes, if the order causes them to increase, such as extra supervision hired for it. Absorbed fixed overheads that would be incurred anyway are not relevant. Check whether the cost is incremental.

Should a company always accept an order above the minimum price?

Not always. It adds to profit in the short term, but you must consider spare capacity, effect on normal prices, future orders and risk. Say this in written answers.