Question 2. 2. (TCO 8) The San Jose Manufacturing Company has two divisions in K

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Question 2.2. (TCO 8) The San Jose Manufacturing Company has two divisions in Kansas—the Holton Division and the Derby Division. Currently, Derby buys a part (10,000 units) from Holton for $16 per unit. Holton has purchased new equipment and wants to increase the price to Derby to $18 per unit. The controller of Derby claims that she cannot afford to go that high, because it will decrease the division’s profit to near zero. Derby can buy the part from an outside supplier for $16 per unit. The incremental costs per unit that San Jose incurs to produce each unit are Holton’s variable cost of $12. Fixed costs per unit to Holton with the recent purchase of equipment are $5.
If Holton has no alternative uses for its facilities and the external supplier drops the price to $11 per unit, what should be done from the point of view of
Company as a whole/Derby Division only? (Points : 6)        Buy from the Holton Division/Buy from the external supplier.
       Buy from the external supplier/Buy from Holton Division.
       Buy from external supplier/ Buy from external supplier.
       Buy from Holton Division/ Buy from Holton Division. Question 2.2. (TCO 8) The San Jose Manufacturing Company has two divisions in Kansas—the Holton Division and the Derby Division. Currently, Derby buys a part (10,000 units) from Holton for $16 per unit. Holton has purchased new equipment and wants to increase the price to Derby to $18 per unit. The controller of Derby claims that she cannot afford to go that high, because it will decrease the division’s profit to near zero. Derby can buy the part from an outside supplier for $16 per unit. The incremental costs per unit that San Jose incurs to produce each unit are Holton’s variable cost of $12. Fixed costs per unit to Holton with the recent purchase of equipment are $5.
If Holton has no alternative uses for its facilities and the external supplier drops the price to $11 per unit, what should be done from the point of view of
Company as a whole/Derby Division only? (Points : 6)        Buy from the Holton Division/Buy from the external supplier.
       Buy from the external supplier/Buy from Holton Division.
       Buy from external supplier/ Buy from external supplier.
       Buy from Holton Division/ Buy from Holton Division.

Explanation / Answer

Buy from external supplier/ Buy from external supplier. Since variable costs in Holton division is $12 and we can purchase from outside supplier for $11 its better to purchase from outside supplier as it will be more profitable. Fixed costs is irrelevant as they would be incurred in both the cases i.e. purchase as well as making.

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