Carver Company manufactures a component used in the production of one of its main products. The following cost information is available: Direct materials $ 410 Direct labor (variable) 110 Variable manufacturing overhead 90 Fixed manufacturing overhead 35 A supplier has offered to sell the component to Carver for $ 630 per unit. If Carver buys the component from the supplier, the released facilities can be used to manufacture a product that would generate a contribution margin of $ 20 comma 000 annually. Assuming that Carver needs 4 comma 000 components annually and that the fixed manufacturing overhead is unavoidable, what would be the impact on operating income if Carver outsources?

Operating Income will decrease by $60,000

Explanation:

This is a comparison question. We are comparing how much it would cost to manufacture in-house vs sourcing it from outside.

Note, we will not account for Fixed Costs in the calculation of In house production because it is UNAVOIDABLE meaning that even if Carver outsources, it will still pay it.

CARVER MANUFACTURES PRODUCT,

Carver needs 4,000 units annually so,

Direct Material will be,

= $410 * 4,000

= $1,640,000

Direct Labor would be,

= $110 * 4000

= $440,000

Variable Manufacturing Overhead

=$ 90 * 4000

= $360,000

We will then add all these costs up INCLUDING the OPPORTUNITY COST of not outsourcing and using the facilities to then produce a good that will bring in $20,000 each year.

= 1,640,000 + 440,000 + 360,000 + 20,000

= $2,460,000 is the cost of producing in house.

If Carver outsources, they will pay,

= 630 per unit * 4000

= $2,520,000

If Carver decides to Outsource then the Operating income will,

= In house - Outsourcing

= $2,460,000 - $2,520,000

= -$60,000

Operating Income will decrease by $60,000 if Carver outsources.

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