E17-21. Outsourcing (Make-or-Buy) Decision Assume a division of Hewlett-Packard

ID: 2553379 • Letter: E

Question

E17-21. Outsourcing (Make-or-Buy) Decision Assume a division of Hewlett-Packard currently makes 10,000 circuit boards per year used in produc- ing diagnostic electronic instruments at a cost of $36 per board, consisting of variable costs per unit of $24 and fixed costs per unit of $12. Further assume Sanmina Corporation offers to sell Hewlett-Pack- ard the 10,000 circuit boards for $36 each. If Hewlett-Packard accepts this offer, the facilities currently used to make the boards could be rented to one of Hewlett-Packard's suppliers for $30,000 per year In addition, $5 per unit of the fixed overhead applied to the circuit boards would be totally eliminated. Required Should HP outsource this component from Sanmina Corporation? Support your answer with relevant cost calculations.

Explanation / Answer

Incremental Cost Due to Outsourcing Option

(36-24) x 10000

120000

Benefit Due to Outsourcing option

saving in fixed cost

50000

rental income

30000

80000

Net Benefit / (Loss)

(40000)

Note : Fixed Cost are sunk cost therefore not considered in decision making