Troy Engines, Ltd., manufactures a variety of engines for use in heavy equipment
ID: 2563306 • Letter: T
Question
Troy Engines, Ltd., manufactures a variety of engines for use in heavy equipment. The company has always produced all of the necessary parts for its engines, including all of the carburetors. An outside supplier has offered to sell one type of carburetor to Troy Engines, Ltd., for a cost of $33 per unit. To evaluate this offer, Troy Engines, Ltd., has gathered the following information relating to its own cost of producing the carburetor internally:
*One-third supervisory salaries; two-thirds depreciation of special equipment (no resale value).
Required:
1. Assuming the company has no alternative use for the facilities that are now being used to produce the carburetors, what would be the financial advantage (disadvantage) of buying 18,000 carburetors from the outside supplier?
2. Should the outside supplier’s offer be accepted?
3. Suppose that if the carburetors were purchased, Troy Engines, Ltd., could use the freed capacity to launch a new product. The segment margin of the new product would be $180,000 per year. Given this new assumption, what would be financial advantage (disadvantage) of buying 18,000 carburetors from the outside supplier?
4. Given the new assumption in requirement 3, should the outside supplier’s offer be accepted?
Per Unit 18,000 UnitsPer Year Direct materials $ 15 $ 270,000 Direct labor 9 162,000 Variable manufacturing overhead 4 72,000 Fixed manufacturing overhead, traceable 6 * 108,000 Fixed manufacturing overhead, allocated 9 162,000 Total cost $ 43 $ 774,000
Explanation / Answer
Answer
Costs
If produced
If purchased
Direct Materials per unit
15
0
Direct Labor per unit
9
0
Variable manufacturing overhead per unit
4
0
Total Variable cost per unit
$ 28
0
Units
18000
18000
Total Variable cost
$504000
$0
Purchase Cost
0
[18000 x 33] 594000
Traceable fixed overhead (Salaries)
36000
0
Traceable fixed overhead (Depreciation)
72000
72000
Allocated Overhead
162000
162000
TOTAL COST
$774000
$828000
Since there will be $828000 of cost incurred if the 18000 units are purchased and only $774000 of cost if produced, there will be a FINANCIAL DISADVANTAGE to purchase 18000 units at $33 per unit. This is because, total cost to is higher if purchased.
Note: Fixed overhead of ‘Salaries’ will be incurred now, as the employees are not laid-off but are used in generating additional margin.
Purchase cost [18000 x $33]
$ 594000
Less: Additional margin from freed capacity (given)
180000
Net Purchase cost [594000 – 180000]
$ 414000
Costs
If produced
If purchased
Direct Materials per unit
15
0
Direct Labor per unit
9
0
Variable manufacturing overhead per unit
4
0
Total Variable cost per unit
28
0
Units
18000
18000
Total Variable cost
504000
0
Net Purchase Cost
0
414000
Traceable fixed overhead (Salaries)
36000
36000
Traceable fixed overhead (Depreciation)
72000
72000
Allocated Overhead
162000
162000
TOTAL COST
774000
684000
Since there will be only $684000 of cost incurred if the 18000 units are purchased and $774000 of cost if produced, there will be a FINANCIAL ADVANTAGE to purchase 18000 units at $33 per unit. This is because; total cost is lesser if purchased.
Costs
If produced
If purchased
Direct Materials per unit
15
0
Direct Labor per unit
9
0
Variable manufacturing overhead per unit
4
0
Total Variable cost per unit
$ 28
0
Units
18000
18000
Total Variable cost
$504000
$0
Purchase Cost
0
[18000 x 33] 594000
Traceable fixed overhead (Salaries)
36000
0
Traceable fixed overhead (Depreciation)
72000
72000
Allocated Overhead
162000
162000
TOTAL COST
$774000
$828000
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