\"In my opinion, we ought to stop making our own drums and accept that outside s
ID: 2550725 • 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 42 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 40,000 drums a year, we would save 400,000 florins on an annual basis." Antilles Refining's present cost to manufacture one drum follows (based on 40,000 drums per year) Direct material Direct labour Variable overhead Fixed overhead (Af16.60 general company Af121.70 13.00 4.00 overhead, Afl4.20 depreciation and, Af12.50 supervision) 13.30 Total cost per drum Afl52.00 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 Afl540,000; it would have a five-year useful life and no salvage value. The company uses straight-line depreciation . Alternative 2: Purchase the drums from an outside supplier at Afl42 per drum under a five-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 (Afl100,000 per year) and direct materials cost per drum would not be affected by the new equipment. The new equipment's capacity would be 100,000 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. Total Per Unit Make Buy Make Buy Make Cost: Direct Material - Afl21.70 X 40,000 Nos 868,000 21.70 Direct Labor - Afl13 X 70% X 40,000 Nos 364,000 9.10 Variable Overhead - Afl4 X 70% X 40,000 Nos 112,000 2.80 Fixed Overhead - General Company Overhead - - - Dep. On New Equipment - $540,000 / 5 Years 108,000 - 0.90 Supervision Exp. - Afl2.50 X 40,000 Nos 100,000 - 2.50 Purchase Cost: Purchase Cost from outside supplier - Afl42 X 40,000 Nos 1,680,000 14.00 Total 1,552,000 1,680,000 37.00 14.00 Answer 1-b. Company should manufacture the drum Answer 2. a. Total Per Unit Make Buy Make Buy Make Cost: Direct Material - Afl21.70 X 50,000 Nos 1,085,000 21.70 Direct Labor - Afl13 X 70% X 50,000 Nos 455,000 9.10 - Variable Overhead - Afl4 X 70% X 50,000 Nos 140,000 2.80 - Fixed Overhead - General Company Overhead - - Dep. On New Equipment - $540,000 / 5 Years 108,000 - 2.16 - Supervision Exp. 100,000 - 2.00 - Purchase Cost: Purchase Cost from outside supplier - Afl42 X 50,000 Nos 2,100,000 - 42.00 Total 1,888,000 2,100,000 37.76 42.00 Answer 2. b. Company should manufacture the drum Answer 2. c. Total Per Unit Make Buy Make Buy Make Cost: Direct Material - Afl21.70 X 100,000 Nos 2,170,000 21.70 - Direct Labor - Afl13 X 70% X 100,000 Nos 910,000 9.10 - Variable Overhead - Afl4 X 70% X 100,000 Nos 280,000 2.80 - Fixed Overhead - General Company Overhead - - - - Dep. On New Equipment - $540,000 / 5 Years 108,000 - 1.08 - Supervision Exp. 100,000 - 1.00 - - - Purchase Cost: - - Purchase Cost from outside supplier - Afl42 X 100,000 Nos 4,200,000 - 42.00 Total 3,568,000 4,200,000 35.68 42.00 Answer 2. d. Company should manufacture the drum
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