Production Purchase Decision - NEC Company
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NEC Company produces 8,000 part each year, which are used in the production of one of its products. The unit product cost of part is $36, computed as follows:
Variable Production Costs .......... $16
Fix Production Costs ............... 20
Unit Product Cost .................. $36
The parts can be purchased from an outside supplier for only $28 each. the space in which the parts are now produce would be idle and fixed production costs would be reduced by one-forth. If the parts are purchase from the outside supplier, the annual impact on the company's operating income will be:
a) $24,000 increase
b) $56,000 decrease
c) $56,000 increase
d) $24,000 decrease
Answer: b) $56,000 decrease (My selection)
Answer: c) $56,000 increase
Savings in fixed cost = $40,000 = 1/4 reduction * $ 20 per part * 8000 parts
Additional costs = $96,000 =($28 from outside supplier -$16 internal production cost) x 8000 parts
$96,000 - $ 40,000 = $56,000
I would like to know if this is a net increase or a net decrease in operating income. Please advice if am correct with my selection.
Thanks in advance
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