Question

The Talbot Corporation makes wheels that it uses in the production of bicycles. Talbot's costs to produce 130,000 wheels annually are: Direct materials $26,000Direct labor $39,000Variable manufacturing overhead $19,500Fixed manufacturing overhead $61,000An outside supplier has offered to sell Talbot similar wheels for $0.80 per wheel. If the wheels are purchased from the outside supplier, $16,000 of annual fixed overhead could be avoided and the facilities now being used could be rented to another company for $42,500 per year. Direct labor is a variable cost.If Talbot chooses to buy the wheel from the outside supplier, then annual net operating income would:

Answer 1

Answer:

It will generate a differential income of $39,000

Explanation:

PRODUCE OR BUY  

$\left[\begin{array}{cccc}&produce&buy&Differential\\ Purchase&&-104,000&-104,000\\ Avoidable Cost&-100,500&&100,500\\ Unavoidable Cost&-45,000&-45,000&0\\ Total Cost&-145,500&-149,000&-3,500\\ potential rent&0&42,500&42,500\\ Net Income&-145,500&-106,500&39,000\\\end{array}\right]$

Purchase

130,000 x .8

Avoidable cost: Are the cost we can eliminate if we  go for the purchase option

Materials + labor + variable overhead+ tracable fixed cost

26000+39000+19500+16000

Unavoidable cost: these will exit on any escenario.

fixed cost - tracable fixed cost

61,000 - 16,000 = 45,000

Once we got the values we calculate the differential income.