Frank Co.is currently operating at 80% of capacity and is currently purchasing a part used in its manufacturing operations for $25 unit.The unit cost for Frank Co.to make the part is $30, which includes $3 of fixed costs.If 20,000 units of the part are normally purchased each year but could be manufactured using unused capacity, what would be the amount of differential cost increase or decrease for making the part rather than purchasing it?
A) $60,000 decrease
B) $40,000 decrease
C) $40,000 increase
D) $60,000 increase

Question

Quizplus · Accepted Answer

The differential cost increase for making the part rather than purchasing it is calculated as follows: The cost to make the part is $30, while the cost to purchase it is $25. Therefore, making the part is $5 more expensive per unit. For 20,000 units, this results in a $100,000 increase in costs. However, since $3 of the $30 cost to make the part is fixed and would not increase with production (because the company is using unused capacity), the relevant cost comparison is between $27 (the variable cost to make) and $25 (the cost to buy). This results in a $2 increase per unit, or a $40,000 increase for 20,000 units.

Frank CoIs Currently Operating at 80% of Capacity and Is Currently