Part P40 is a part used in the production of air conditioners at Jackson Corporation. The following costs and data relate to the production of Part P40: Number of parts produced annually Fixed costs Variable costs Total cost to produce Jackson Corporation can purchase the part from an outside supplier for per unit. If they purchase from the outside supplier, 50% of the fixed costs would be avoided. If Jackson Corporation makes the part, how much will its operating income be?

Question

Part P40 is a part used in the production of air conditioners at Jackson Corporation. The following costs and data relate to the production of Part P40:

Number of parts produced annually     26,000

Fixed cost                                                   $43,000

Variable cost                                              70,000

Total cost to produce                              113,000

Jackson Corporation can purchase the part from an outside supplier for $4.62 per unit. If they purchase from the outside supplier, 50% of the fixed costs would be avoided. If Jackson Corporation makes the part, how much will its operating income be?

Change in operating income= $28,620

Explanation:

                                                                                        $

Total variable cost of making                                   70,000

Total cost of external purchase ($4.62×26,000)   120,120

Extra variable cost from external purchase             50,120

less Savings in fixed overheads(50%×43,000)       ( 21,500)                            

Change in operating income                                        28,620  

Note that the the balance of the fixed cost (50% of $43,000= 21500) were not included because they not relevant for the decision. They would be incurred either way.

Change in operating income= $28,620

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