Reference no: EM132588516

The Varone Company makes a single product called a Hom. The company has the capacity to produce 40,000 Homs per year. Per-unit costs to produce and sell one Hom at that activity level follow:

Direct Materials                                            $20

Direct Labour                                               $10

Variable Manufacturing Overhead                      $5

Fixed Manufacturing Overhead                         $7

Variable Selling Expense                                 $8

Fixed Selling Expense                                    $2

The regular selling price for one Hom is $60. A special order has been received at Varone from the Fairview Company to purchase 8,000 Homs next year at 15% off the regular selling price. If this special order is accepted, the variable selling expense will be reduced by 25%. However, Varone would have to purchase a specialized machine to engrave the Fairview name on each Hom in the special order. This machine would cost $12,000, and Varone would have no use for it after the special order was filled. The total fixed costs, both manufacturing and selling, are constant within the relevant range of 30,000 to 40,000 Homs per year. Assume direct labour is a variable cost.

Question 1: If Varone can expect to sell 32,000 Homs next year through regular channels and the special order is accepted at 15% off the regular selling price, what would be the effect on operating income next year due to accepting this order?