Olive Corp currently makes 20,000 subcomponents a year in one of its factories.The unit costs to produce are: An outside supplier has offered to provide Olive Corp with the 20,000 subcomponents at a $36 per unit price.Fixed overhead is not avoidable.If Olive Corp accepts the outside offer,what will be the effect on short-term profits?

A)$160,000 decrease
B)$320,000 increase
C)$160,000 increase
D)$80,000 decrease

Question

Olive Corp currently makes 20,000 subcomponents a year in one of its factories.The unit costs to produce are: An outside supplier has offered to provide Olive Corp with the 20,000 subcomponents at a $36 per unit price.Fixed overhead is not avoidable.If Olive Corp accepts the outside offer,what will be the effect on short-term profits?

A)$160,000 decrease 
B)$320,000 increase 
C)$160,000 increase 
D)$80,000 decrease

Quizplus · Accepted Answer

If Olive Corp accepts the outside offer, they will save $22 per unit ($58-$36) on the 20,000 subcomponents, which is a total saving of $440,000 (20,000 x $22). However, fixed overhead costs are not avoidable, so Olive Corp will still incur the $300,000 in fixed overhead costs. Thus, the net effect on short-term profits will be a savings of $140,000 ($440,000-$300,000). This is a decrease from the current profit of $220,000 (20,000 x $58 - $300,000). Therefore, the answer is D, a $80,000 decrease.

Olive Corp Currently Makes 20,000 Subcomponents a Year in One