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Exercise 12-10 (15 minutes)
The target production level is 40,000 starters per period, as shown by the
relations between per-unit and total fixed costs.
“Cost”
Per
Differential
Costs
Unit
Make
Buy
Explanation
Direct materials ......
$3.10
$3.10
Can be avoided by buying
Direct labor ............
2.70
2.70
Can be avoided by buying
Variable
manufacturing
overhead .............
0.60
0.60
Can be avoided by buying
Supervision ............
1.50
1.50
Can be avoided by buying
Depreciation
1.00
—
Sunk Cost
Rent ......................
0.30
—
Allocated Cost
Outside purchase
price ...................
$8.40
Total cost ...............
$9.20
$7.90
$8.40
The company should make the starters, rather than continuing to buy
from the outside supplier. Making the starters will result in a $0.50 per
starter cost savings, or a total savings of $20,000 per period:
$0.50 per starter × 40,000 starters = $20,000
Exercise 12-11 (20 minutes)
The costs that can be avoided as a result of purchasing from the outside
are relevant in a make-or-buy decision. The analysis is:
Per Unit
Differential
Costs
30,000 Units
Make
Buy
Make
Buy
Cost of purchasing ...................
$21.00
$630,000
Cost of making:
Direct materials .....................
$ 3.60
$108,000
Direct labor ...........................
10.00
300,000
Variable overhead .................
2.40
72,000
Fixed overhead .....................
3.00
*
90,000
Total cost ................................
$19.00
$21.00
$570,000
$630,000
*
The remaining $6 of fixed overhead cost would not be relevant,
because it will continue regardless of whether the company makes
or buys the parts.
The $80,000 rental value of the space being used to produce part S-6 is an
opportunity cost of continuing to produce the part internally. Thus, the
complete analysis is:
Make
Buy
Total cost, as above ........................................
$570,000
$630,000
Rental value of the space (opportunity cost) .....
80,000
Total cost, including opportunity cost ...............
$650,000
$630,000
Net advantage in favor of buying .....................
$20,000
Profits would increase by $20,000 if the outside supplier’s offer is accepted.
