(12) Talboe Company makes wheels which it uses in the production of children\'s

Question

(12)

Talboe Company makes wheels which it uses in the production of children's wagons. Talboe's costs to produce 220,000 wheels annually are as follows:

72,000  

$215,000  

An outside supplier has offered to sell Talboe similar wheels for $0.80 per wheel. If the wheels are purchased from the outside supplier, $27,000 of annual fixed manufacturing overhead would be avoided and the facilities now being used to make the wheels would be rented to another company for $65,400 per year.

Talboe Company makes wheels which it uses in the production of children's wagons. Talboe's costs to produce 220,000 wheels annually are as follows:

Explanation / Answer

by buying from outside company incurrs a cost of (0.8 * 220000) + 45,000 (since only 27000 out of 45000 can be avoided )

hence cost incurred = 176000 + 45000 = 221000

but it gets a revenue of 65400 because of the idle facility hence cost incurred = 221000 - 65400

= 155600

and would forgo the costs of 215,000 $ initially...

hence there is an increase in operating profit by an amount of

215000 - 155600 = 59400 $

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