Problem 20-2A The management of Shatner Manufacturing Company is trying to decid

Question

Problem 20-2A The management of Shatner Manufacturing Company is trying to decide whether to continue manufacturing a part or to buy it from an outside supplier. The part, called CISCO, is a component of the company's finished product The following information was collected from the accounting records and production data for the year ending December 31, 2017 1. 8,000 units of CISco were produced in the Machining Department. 2. Variable manufacturing costs applicable to the production of each CISCO unit were direct materials $5.23, direct labor $4.71, indirect labor $0.48, utilities $0.39 3. Fixed manufacturing costs applicable to the production of CISCO were Cost Item Direct Allocated Depreciation $2,100 $960 370 650 $3,510 $1,980 Property taxes Insurance 500 910 All variable manufacturing and direct fixed costs will be eliminated if CISCO is purchased. Allocated costs will have to be absorbed by other production departments. 4. The lowest quotation for 8,000 CISCO units from a supplier is $86,830 5. If CISCO units are purchased, freight and inspection costs would be $0.38 per unit, and receiving costs totaling $1,280 per year would be incurred by the Machining Department. (a) Prepare an incremental analysis for CISCO. (Enter negative amounts using either a negative sign preceding the number e.g. -45 or parentheses e.g. (45).) Net Income Increase Make CISCO Buy CISCO (Decrease) Direct material Direct labor Indirect labor Utilities Deprecation Property taxes Insurance Purchase price Freight and inspection Receilving costs Total annual cost$

Explanation / Answer

Solution:

This question is related to the decision making whether to make product in house or purchase from outside supplier.

In decision making, relevant cost play a very important role.

Relevant Cost is the cost which will incur in future and different in each alternative course of action.

Since, the fixed cost directly related to the making of product is eliminated i.e. not incur in future if product is outsourced, this cost is relevant.

Here is the incremental analysis

Make CISCO

Buy CISCO

Net Income Increase (Decrease)

Direct materials

41840

Direct labor

37680

Indirect labor

3840

Utilities

3120

Depreciation

2100

Property taxes

500

Insurance

910

Purchase Price

86830

Freight and Inspection

3040

Receiving Costs

1280

89990

91150

-1160

Net Income will be decrease if the product is purchase from outside supplier = $1,160

Or

Make CISCO

Buy CISCO

Net Income Increase (Decrease)

Direct materials

41840

41840

Direct labor

37680

37680

Indirect labor

3840

3840

Utilities

3120

3120

Depreciation

2100

2100

Property taxes

500

500

Insurance

910

910

Purchase Price

86830

-86830

Freight and Inspection

3040

-3040

Receiving Costs

1280

-1280

89990

91150

-1160

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Make CISCO

Buy CISCO

Net Income Increase (Decrease)

Direct materials

41840

Direct labor

37680

Indirect labor

3840

Utilities

3120

Depreciation

2100

Property taxes

500

Insurance

910

Purchase Price

86830

Freight and Inspection

3040

Receiving Costs

1280

89990

91150

-1160

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