That old equipment for producing carburetors is worn out,\" said Bill Seebach, p

Question

That old equipment for producing carburetors is worn out," said Bill Seebach, president of Hondrich Company. "We need to make a decision quickly." The company is trying to decide whether it should rent new equipment and continue to make its carburetors internally or whether it should discontinue production of its carburetors and purchase them from an outside supplier. The alternatives follow Alternative 1 Rent new equipment for producing the carburetors for $110,000 per year. Alternative 2: Purchase carburetors from an outside supplier for $18.40 each Hondrich Company's costs per unit of producing the carburetors internally (with the old equipment) are given below. These costs are based on a current activity level of 25,000 units per year Direct materials Direct labour Variable overhead Fixed overhead ($2.20 supervision, $1.90 depreciation 5.80 9.00 2.80 and $5.00 general company overhead) Total cost per unit $26.70 The new equipment would be more efficient and, according to the manufacturer, would reduce direct labour costs and variable overhead costs by 25%. Supervision cost ($55,000 per year) and direct materials cost per unit would not be affected by the new equipment. The new equipment's capacity would be 50,000 carburetors per year The total general company overhead would be unaffected by this decision Required: 1. Seebach is unsure what the company should do and would like an analysis showing the unit costs and total costs for each of the two alternatives given above. Assume that 25,000 carburetors are needed each year. a. What will be the total relevant cost of 25,000 subassemblies if they are manufactured internally as compared to being purchased? Total relevant cost (25,000 subassemblies) b. What would be the per unit cost of the each subassembly manufactured internally? (Do not round intermediate calculations. Round your answer to 2 decimal places.) r unit cost of subassembly c. Which course of action would you recommend to the president? O Indifferent between the two alternatives O Purchase from the outside supplier O Manufacture internally

Explanation / Answer

As per the question:

Alternative 1: rent new equipment for $110000 per year

Alternative 2 : purchase carbuecarb from outside supplier for $18.40 each

1)

Calculation of per unit cost of carburetor manufactured internally:

Direct Materials : $5 8

Direct labour (9-25%). . $6.75

Variable Overhead (2.8-25%). $ 2.1

Dixed Overhead (2.2+5). $7.2

(No depreciation as on rent)

Total per unit cost. $21.85

1)a. Total relevent cost of 25000 subassemblies in case of intenal manufacture = 21.85*25000

=$546250

Total relevant cost for external purchase =25000 * 18.4

= .$460000

b) per unit cost of unit manufactured internally =$21.85

c) The beat economical action is to purchase from outside supplier

2) The cost breakup given in question is for 25000 capacity and hence we will find the same for 44000 capacity in this case by cross multiplication

Direct Material (5.8*25000/44000) $3.295

Direct labour (9*25000/44000 less 25%) $ 3.835

Variable Overhead. $ 1.193

Fixed Overhead. 6.25

Total per unit cost. $14.57

a 1) total coat of 44000 subassembly manufactured = 44000* 14.57 = 641080

a 2) per unit coat of subassembly is $ 14.57

a 3) manufacture internatally

b1 and b2 can be done on similar lines and per unit cost for manufacture would be $ 11.15 and total relevant cost $ 557500

IntenalI manufacture is best option at tist capacity level

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