Tine Company makes carpets. A customer wants to place a special order for 1,000 carpets in navy blue with the company logo woven in the middle, to be priced at $30 each. Normally, Tine would charge $60 per carpet for this type of order. Tine figures that yarn and backing will cost $12 per carpet, variable overhead (machining, electricity) is $5 per carpet, direct labour is $10 per carpet, and one setup will be required at $800 per setup. The setup charge costs are 100% labour. Currently, the workers needed to set up and make the carpets are working at Tine. Their wages will be paid whether or not the special order is accepted. Tine's policy is to avoid layoffs to the extent possible.
-Refer to the Figure.If Tine accepts the special order,by how much will operating income increase or decrease?
A)$13,000 decrease
B)$3,000 decrease
C)$3,000 increase
D)$13,000 increase

Question

Quizplus · Accepted Answer

Explanation: To calculate the change in operating income, we need to consider the incremental revenues and costs associated with the special order. Incremental revenue from the special order is $30 per carpet for 1,000 carpets, totaling $30,000. Incremental costs include yarn and backing ($12 per carpet), variable overhead ($5 per carpet), and direct labor ($10 per carpet), totaling $27 per carpet, or $27,000 for 1,000 carpets. The setup charge of $800 is a sunk cost because the workers will be paid whether or not the order is accepted, and thus it should not be considered in the incremental analysis. Therefore, the increase in operating income is the incremental revenue ($30,000) minus the incremental costs ($27,000), which equals a $3,000 increase. However, since the normal charge would be $60 per carpet, and the special order is priced at $30 per carpet, it seems there was a misunderstanding in the calculation. The correct calculation should consider the actual incremental profit per carpet and the total number of carpets. Given the provided information and the correct approach to calculating incremental costs and revenues, the answer provided initially was incorrect. The correct calculation for the increase in operating income should consider the total incremental revenue ($30,000) minus the total variable costs ($27,000 for 1,000 carpets), which indeed results in a $3,000 increase, not a $13,000 increase. Therefore, the correct answer should be C) $3,000 increase, not D) $13,000 increase. My initial explanation mistakenly overlooked the correct calculation of incremental profit.

Tine Company Makes Carpets