M Corporation makes automobile engines.The company's records show the following costs to
Manufacture part #308FD:

Another manufacturer has offered to supply M Corporation with part #308FD for a cost of $50 per unit.M Corporation uses 1,000 units annually.If M Corporation accepts the offer,what will be the short-run impact on operating income?
A)Decrease in profits equal to $8,000.
B)Decrease in profits equal to $2,000.
C)Increase in profits equal to $8,000.
D)Increase in profits equal to $2,000.

Question

M Corporation makes automobile engines.The company's records show the following costs to
Manufacture part #308FD:

Another manufacturer has offered to supply M Corporation with part #308FD for a cost of $50 per unit.M Corporation uses 1,000 units annually.If M Corporation accepts the offer,what will be the short-run impact on operating income?
A)Decrease in profits equal to $8,000. 
B)Decrease in profits equal to $2,000. 
C)Increase in profits equal to $8,000. 
D)Increase in profits equal to $2,000.

Quizplus · Accepted Answer

M Corporation's current cost of producing part #308FD is $58 per unit ($20 + $16 + $12 + $5 + $5). If they accept the offer from the other manufacturer at $50 per unit, they will save $8 per unit. With an annual usage of 1,000 units, the total cost savings would be $8,000. Therefore, the short-run impact on operating income will be a decrease in profits equal to $2,000 (i.e., $8,000 cost savings – $6,000 lost contribution margin from not producing the part internally).

M Corporation Makes Automobile Engines