\"In my opinion, we ought to stop making our own drums and accept that outside s
ID: 2508214 • Letter: #
Question
"In my opinion, we ought to stop making our own drums and accept that outside supplier's offer," said Wim Niewindt, managing director of Antilles Refining, N.V., of Aruba. "At a price of $17 per drum, we would be paying $6.85 less than it costs us to manufacture the drums in our own plant. Since we use 50,000 drums a year, that would be an annual cost savings of $342,500." Antilles Refining's current cost to manufacture one drum is given below (based on 50,000 drums per year) Direct materials Direct labor Variable overhead Fixed overhead ($2.90 general $10.40 6.50 1.50 company overhead, $1.65 depreciation, and, $0.90 supervision) 5.45 Total cost per drum $23.85 A decision about whether to make or buy the drums is especially important at this time because the equipment being used to make the drums is completely worn out and must be replaced. The choices facing the company are Alternative 1: Rent new equipment and continue to make the drums. The equipment would be rented for $135,000 per year. Alternative 2: Purchase the drums from an outside supplier at $17 per drum The new equipment would be more efficient than the equipment that Antilles Refining has been using and, according to the manufacturer, would reduce direct labor and variable overhead costs by 40%. The old equipment has no resale value. Supervision cost ($45,000 per year) and direct materials cost per drum would not be affected by the new equipment. The new equipment's capacity would be 125,000 drums per year The company's total general company overhead would be unaffected by this decision. (Round all intermediate calculations to 2 decimal places.)Explanation / Answer
Option 1 Take on Rent Option 2 External Purchase Option 3 New Machine Disadvantage Drums 50000 -90000 Drums 100000 -180000 Drums 125000 -225000 Note: Fixed OH are not relevant for decision For 50000 Drums: Option 1 Option 2 Option 3 Direct Material 10.40 10.40 Direct Labor 6.50 3.90 (Cost reduction by 40%) Variable OH 1.50 0.90 (Cost reduction by 40%) Equipment Rent Cost 2.70 135000/50000 Purchase Cost 17.00 Additional Cost Total Cost 21.10 17.00 15.20 Least Cost 15.20 Option Option 3 External Purchase 17.00 Disadvantage -1.80 Units 50000 Disadvantage -90000 For 100000 Drums: Option 1 Option 2 Option 3 Direct Material 10.40 10.40 Direct Labor 6.50 3.90 (Cost reduction by 40%) Variable OH 1.50 0.90 (Cost reduction by 40%) Equipment Rent Cost 1.35 135000/100000 Purchase Cost 17.00 Additional Cost Total Cost 19.75 17.00 15.20 Least Cost 15.20 Option Option 3 External Purchase 17.00 Disadvantage -1.80 Units 100000 Disadvantage -180000 For 125000 Drums: Option 1 Option 2 Option 3 Direct Material 10.40 10.40 Direct Labor 6.50 3.90 (Cost reduction by 40%) Variable OH 1.50 0.90 (Cost reduction by 40%) Equipment Rent Cost 1.08 135000/125000 Purchase Cost 17.00 Additional Cost Total Cost 19.48 17.00 15.20 Least Cost 15.20 Option Option 3 External Purchase 17.00 Disadvantage -1.80 Units 125000 Disadvantage -225000
Related Questions
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.