Professional Documents
Culture Documents
$600,000
210,000
810,000
460,000
$350,000
The production and sale of the liens Department not be discontinued. If the
liens Department is discontinued then overall profit of the company will
decrease.
Exercise 13-15: Han products manufactures 30,000 units of part S-6 each
year for use on its production line. At this level of activity, the cost per unit
for part S-6 is as follows:
Direct materials .. $ 3.60
Direct labor... 10.00
Variable Manufacturing overhead
2.40
Fixed Manufacturing overhead.
9.00
Total cost per part
$ 25.00
An outside supplier has offered to sell 30,000 units of part S-6 each year to
Han Products for $ 21 per part.If Han Products accept this offer, the facilities
now being used to manufacture part S-6 could be rented to another company
at an annual rental of $ 80,000. However, Han Products has determined that
two-thirds of the fixed manufacturing overhead being applied to part S-6
would continue even if part S-6 were purchased from the outside supplier.
Required: Prepare computation showing how much profit will increase or
decrease if the outside suppliers offer is accepted.
Solution:
The costs that are relevant in a make-or-buy decision are those costs that
can be avoided as a result of purchasing from the outside. The analysis for
this exercise is:
Per unit differential
cost
30,000
Units
Make
Buy
Cost of purchasing .
$ 630,000
Cost of making:
Direct materials
Direct labor
Variable overhead
Fixed overhead
00
Total cost
570,000
$ 630,000
Buy
Make
$ 21.00
$ 3.60
10.00
2.40
3.00
$19.00
$ 108,000
300,000
72,000
90,0000
$ 21.00
The $80,000 rental value of the space being used to produce part S-6
represents an opportunity cost of continuing to produce the part internally.
Thus, the completed analysis would be:
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
Problem 13-21:
Birth Company normally produces and sells 30,000 units of RG-6 each
month. RG-6 is a small electrical relay used as a component part in the
automotive industry. The selling price is $ 22 per unit, variable costs are $ 14
per unit. Fixed manufacturing overhead costs total $ 1, 50,000 per month,
and fixed selling costs total $ 30,000 per month.
Employment contract strikes in the companies that purchase the bulk of the
RG-6 units have caused Birch Companys sales to temporarily drop to only
8,000 units per month. Birch Company estimates that the strikes will last for
the two months, after which time sales of RG-6 should return to normal. Due
to the current low level of sales, Birch Company is thinking about closing
down its own plant during the strikes, which would reduce its fixed
manufacturing overhead costs by $45,000 per month and its fixed selling
costs by 10%. Start-up costs at the end of shutdown period would total
$8,000. Since Birch Company uses just-in-time (JIT) production methods, no
inventories are on hand.
Required:
1. Assuming that the strikes continue for the two months, would you
recommend that Birch Company close its own plant? Explain, show
computations to support your answer.
2. At what level of sales (in units) for the two-month period should Birch
Company be indifferent between closing the plant or keeping it open?
Show computations.
Solution:
1. Product RG-6 yields a contribution margin of $8 per unit ($22 $14 = $8). If the plant closes,
this contribution margin will be lost on the 16,000 units (8,000 units per month 2 months) that
could have been sold during the two-month period. However, the company will be able to avoid
certain fixed costs as a result of closing down. The analysis is:
96,000
(32,000)
8,000
$ (40,000)
No, the company should not close the plant; it should continue to operate at the reduced level of
8,000 units produced and sold each month. Closing will result in a $40,000 greater loss over the
two-month period than if the company continues to operate. An additional factor is the potential
loss of goodwill among the customers who need the 8,000 units of RG-6 each month. By closing
down, the needs of these customers will not be met (no inventories are on hand), and their
business may be permanently lost to another supplier.
2. Birch Company will be indifferent at a level of 11,000 total units sold over the two-month
period. The computations are:
Cost avoided by closing the plant for two months
(see above) .................................................................. $96,000
Less start-up costs ...................................................
8,000
Net avoidable costs ..................................................
$88,000
Net avoidable cost
= $88,000 =
Per unit contribution margin
$8 per unit
The End
11,000 units