18. Packers Company produces 2,000 parts per year, which are used in the assembl

Question

18. Packers Company produces 2,000 parts per year, which are used in the assembly of one of its products. The unit product cost of these parts at that level is: Variable manufacturing cost Fixed manufacturing cost Unit product cost $32 $18 $50 The part can be purchased from an outside supplier at $40 per unit. If the part is purchased from the outside supplier, two thirds of the fixed manufacturing costs can be eliminated. Will buying the part INCREASE or DECREASE Packers' net income? By how much? Increase $8000

Explanation / Answer

Relevant costs are costs which are done for production of a product

In the current question, relevant costs of production are variable costs and 2/3rd of the fixed costs which are incurred only for production of the product and can be eliminated if the product is not manufactured internally

So, relevant costs of manufacture

= Variable cost + 2/3 x Fixed cost

= $32 + 2/3 x $18

= $32 + $12

= $44 per unit

If the part can be purchased from outside for $40, there will be saving of $4 ($44 - $40) per unit

So, Total increase in net income

= Saving x Quantity required

= $4 x 2,000

= $8,000 per year

So, the product should be bought from outside

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