X Company currently buys 7,500 units of a component part each year from a suppli

Question

X Company currently buys 7,500 units of a component part each year from a supplier for $8.30 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 $31,740 a year to make the 7,500 units. What is the approximate rate of return if X Company makes the part instead of buying it from the supplier?

Explanation / Answer

Savings in cost if it makes part = (7500*8.3 ) = 62250

Cost of manufacturing                                            (31740)

Net savings if product is manufactured               30510

Rate of return = savings per year /Investment

                          = 30510 / 150000

                            = .2034 or 20.34% per year

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