The O.T. Company makes 35,000 motors to be used in the production of its sewing

Question

The O.T. Company makes 35,000 motors to be used in the production of its sewing machines.

The cost per motor at this level of activity is:


* Direct materials $4.50

* Direct labor $4.60

* Variable manufacturing overhead $3.75

* Fixed manufacturing overhead $3.45


An outside supplier has offered to supply all the motors the company needs for $15 each.

If O.T. Company decided not to make the motors, there would be no other use for the production facilities and none of the fixed manufacturing overhead cost could be avoided.

If O.T. Company decides to continue making the motor, how much higher or lower would net operating income be than if the motors are purchased from the outside supplier?
1) $75,250 higher.
2) $45,500 lower.
3) $311,500 higher.
4) $120,750 higher

Explanation / Answer

If they buy, their costs are $15 x 35,000 units = $525,000
If they make, their costs are (4.6+4.6+3.75+3.45) x 35,000 units = $570,500

The difference between these two is 570500 - 525000 = $45,500

If they make the mower, they will be incurring $45,500 more in expenses. Therefore their NOI will be 2) $45,500 lower.Remember 2 rate

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