10:16 Part SOO is used in one of Morsey Corporation\'s products. The company mak

Question

10:16

Part SOO is used in one of Morsey Corporation's products. The company makes 6,000 units of this part each year. The company's Accounting Department reports the following costs of producing the part at this level of activity: An outside supplier has offered to produce this part and sell it to the company for $16.10 each. If this offer is accepted, the supervisor's salary and all of the variable costs, including direct labor, can be avoided. The special equipment used to make the part was purchased many years ago and has no salvage value or other use. The allocated general overhead represents fixed costs of the entire company. If the outside supplier's offer were accepted, only $6,000 of these allocated general overhead costs would be avoided. If management decides to buy part SOO from the outside supplier rather than to continue making the part, what would be the annual impact on the company's overall net operating income?

Explanation / Answer

Solution -

Here we have taken depreciation as zero for calculating the cost per unit as depreciation is not included in the manufacturing unit price calculation

Now If management decides to buy part S00 from the outside supplier rather than to continue making the part at $16.10 each then the amount we pay to supplier will be

However lets see how much amount we save after this deal is final and is there any cost which we still pay and that csot need to add to the supplier' pay to arrive at the actual expenses

Below table shows that we will end up spending 3000 more as most of the expenses will be avoided however allocated general overheads will be reduced by only 6000 thus 21 K would need to add back to expenses towards supplier and then we see it is crossing the total cost by 3000

A) Net operating income would decline by $3,000 per year.

Units 6000 Total Cost Direct Materials 1.4 8400 Direct Labor 2.4 14400 Variable Manufacturing Overheads 7.2 43200 Supervisors Salary 3.6 21600 Depreciation of Special Equipment 0 0 Allocated General Overheads 4.5 27000 Total Cost 19.1 114600

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