Question

SVE & EXT SLATE Damon Industries manufactures 30,000 components per year. The manufacturing costs of the components was determined as follows: Direct materials Direct labor Variable manufacturing overhead Fixed manufacturing overhead $150,000 170,000 70,000 90,099 Jon - not a Skype An outside supplier has offered to sell the component for $14. If Damon purchases the component from the outside supplier, the manufacturing facilities would be unused and could be rented out for $11.000. If Damon purchases the component from the supplier instead of manufacturing it, the effect on operating profits would be a Multiple Choice O $41.000 increase O $29.000 incente 0 $49.000 decente $8.000

Answer 1

Answer: 4^th option; $19,000 decrease

In this decision making process, fixed overhead should not be considered since incurring of such cost doesn’t depend on accepting or rejection the supplier’s offer. Therefore, it becomes unavoidable and irrelevant.

Effect on operating profit = (Manufacturing costs – Suppliers cost) + Rental income of unused facilities

                                                = [(150,000 + 170,000 + 70,000) – (14 × 30,000] + 11,000

                                                = [390,000 – 420,000] + 11,000

                                                = - 30,000 + 11,000

                                                = - 19,000

Since the effect is negative, it indicates a decrease in operating profit.