\"In my opinion, we ought to stop making our own drums and accept that outside s
ID: 2550256 • Letter: #
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"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 48 florins per drum, we would be paying 10 florins less than it costs us to manufacture the drums in our own plant. (The currency in Aruba is the florin, denoted by Afl.) Since we use 60,000 drums a year, we would save 600,000 florins on an annual basis." Antilles Refining's present cost to manufacture one drum follows (based on 60,000 drums per year) Direct material Direct labour Variable overhead Fixed overhead (Af17.60 general compa Af122.70 14.00 5.00 overhead, Afl5.20 depreciation and Af13.50 supervision) 16.30 Total cost per drum Afl58.00 A decision about whether to make or buy the drums is especially important at this time, since the equipment being used to make the drums is completely worn out and must be replaced. The choices facing the company are as follows Alternative 1: Purchase new equipment and continue to make the drums. The equipment would cost Af1810,000; it would have a six-year useful life and no salvage value. The company uses straight-line depreciation Alternative 2: Purchase the drums from an outside supplier at Af48 per drum under a six-year contract. The new equipment would be more efficient than the equipment that Antilles Refining has been using and, according to the manufacturer, would reduce direct labour and variable overhead costs by 30%. The old equipment has no resale value. Supervision cost (Af1210,000 per year) and direct materials cost per drum would not be affected by the new equipment. The new equipment's capacity would be 210,000 drums per year. The company has no other use for the space being used to produce the drums The company's total general company overhead would be unaffected by this decisionExplanation / Answer
Answer-1(a): Statement Showing Total Cost and Cost/Drum under 2 Alternative For 60000 Drum Differential Cost Per Drum Total Differential Cost Make (inAfI) Buy (in AfI) Make (inAfI) Buy (in AfI) Outside Supplier's Price 48 2880000 Direct Material 22.7 1362000 Direct Labour (14*70%) 9.8 588000 Variable Overhead (5*70%) 3.5 210000 Supervision 3.5 210000 Depreciation 2.25 135000 Total Cost 41.75 48 2505000 2880000 Answer-1(b): The Company Should Make Answer-2(a): Statement Showing Total Cost and Cost/Drum under 2 Alternative For 75000 Drum Differential Cost Per Drum Total Differential Cost Make (inAfI) Buy (in AfI) Make (inAfI) Buy (in AfI) Outside Supplier's Price 48 3600000 Direct Material 22.7 1702500 Direct Labour (14*70%) 9.8 735000 Variable Overhead (5*70%) 3.5 262500 Supervision (210000/75000) 2.8 210000 Depreciation 1.8 135000 Total Cost 40.6 48 3045000 3600000 Answer-2(b): The Company Should Make Answer-3(a): Statement Showing Total Cost and Cost/Drum under 2 Alternative For 210000 Drum Differential Cost Per Drum Total Differential Cost Make (inAfI) Buy (in AfI) Make (inAfI) Buy (in AfI) Outside Supplier's Price 48 10080000 Direct Material 22.7 4767000 Direct Labour (14*70%) 9.8 2058000 Variable Overhead (5*70%) 3.5 735000 Supervision (210000/210000) 1 210000 Depreciation 0.64 134400 Total Cost 37.64 48 7904400 10080000 Answer-3(b): The Company Should Make Working Note for Depreciation Cost of Equipment 810000 Useful Life 6 year Annual Depreciation 135000 Per Unit Depreciation Annual Depreciation/No. of Drum Per Unit Deprciation, If 60000 Drum ($135000/60000Drum) 2.25 /Drum Per Unit Deprciation, If 75000 Drum ($135000/75000Drum) 1.8 /Drum Per Unit Deprciation, If 75000 Drum ($135000/210000 Drum) 0.64 /Drum
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