Talboe Company makes wheels that it uses in the production of children's wagons. Talboe's costs to produce 200,000 wheels annually are as follows:$\begin{array}{lrr}
\text {Direct materials } &£40,000\
\text {Direct labour. } &60,00\
\text {Variable manufacturing overhead } &30,000\
\text {Fixed manufacturing overhead } &\underline{70,000}\
\text {Total } &\underline{£200,000}\
\end{array}$

An outside supplier has offered to sell Talboe similar wheels for £0.80 per wheel. If the wheels are purchased from the outside supplier, £25,000 of annual fixed manufacturing overhead would be avoided and the facilities now being used to make the wheels would be rented to anther company for £55,000 per year.
-If Talboe chooses to buy the wheel from the outside supplier, then the change in annual net operating income is a

A)£5,000 decrease.
B)£50,000 increase.
C)£70,000 increase.
D)£40,000 increase.

Question

Talboe Company makes wheels that it uses in the production of children's wagons. Talboe's costs to produce 200,000 wheels annually are as follows:$\begin{array}{lrr}
  \text {Direct materials  } &£40,000\
 \text {Direct labour.  } &60,00\
 \text {Variable manufacturing overhead  } &30,000\
 \text {Fixed manufacturing overhead  } &\underline{70,000}\
 \text {Total  } &\underline{£200,000}\
\end{array}$

An outside supplier has offered to sell Talboe similar wheels for £0.80 per wheel. If the wheels are purchased from the outside supplier, £25,000 of annual fixed manufacturing overhead would be avoided and the facilities now being used to make the wheels would be rented to anther company for £55,000 per year.
-If Talboe chooses to buy the wheel from the outside supplier, then the change in annual net operating income is a

A)£5,000 decrease.
B)£50,000 increase.
C)£70,000 increase.
D)£40,000 increase.

Quizplus · Accepted Answer

If Talboe buys the wheels from the outside supplier, it will save £0.20 per wheel on direct materials and direct labor costs. This will result in a savings of £40,000 per year. Additionally, Talboe will avoid £25,000 of fixed manufacturing overhead costs. However, Talboe will lose £55,000 of rental income from the facilities that are now being used to make the wheels. The net effect of these changes is an increase in annual net operating income of £50,000.

Talboe Company Makes Wheels That It Uses in the Production