Question

22. Hood Company produces 1,000 units of the part A11 per year. This part is used in the assembly of one of its products. The unit product cost of the part A11 is $21 per unit (variable manufacturing cost of $12 per unit and fixed manufacturing cost of $9 per unit). The part can be purchased from an outside supplier at $20 per unit. If the part is purchased from the outside supplier, two-thirds of the fixed manufacturing costs can be eliminated. What is the annual impact on the company's overall net operating income as a result of buying the part from the outside supplier?

a-The overall net operating income will increase by $1,000 per year.

b-The overall net operating income will decrease by $1,000 per year.

c-The overall net operating income will decrease by $2,000 per year.

d-The overall net operating income will decrease by $5,000 per year.

e-None of the above.

Answer 1

Fixed manufacturing cost per unit = $9

Avoidable Fixed manufacturing cost per unit = 9 x 2/3

= $6

Unavoidable Fixed manufacturing cost per unit = Fixed manufacturing cost per unit - Avoidable Fixed manufacturing cost per unit

= 9 - 6

= $3

Differential analysis

	Cost of making	Cost of buying	Increase/Decrease in income
Variable manufacturing cost	12,000	0	12,000
Fixed manufacturing cost	9,000	3,000	6,000
Outside supplier's price	0	20,000	-20,000
Total cost	$21,000	$23,000	-$2,000

If part is bought from the outside supplier, The overall net operating income will decrease by $2,000 per year.

Correct option is (c)