X Company currently buys 7,000 units of a component part each year from a suppli

Question

X Company currently buys 7,000 units of a component part each year from a supplier for $7.90 each, but it is considering making the part instead. In order to make the part, X Company will have to buy equipment that will cost $150,000. The equipment will last for six years, at which time it will have zero disposal value. X Company estimates that it will cost $27,610 a year to make the 7,000 units. What is the approximate rate of return if X Company makes the part instead of buying it from the supplier?

Explanation / Answer

Annual cost saving $ ( 55,300- 52,610) = $ 2,690.

Total cost saving $ 2,690 x 6 = $ 16,140.

The rate of return is 16,140/150,000 x 100 = 10.76%

Buy Make $ $ Purchase cost for 7000 units@ $ 7.90 55,300 Cost of making 7000 units 27,610 Annual depreciation of equipment 25,000 Total cost 55,300 52,610

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