X Company currently makes a part and is considering buying it from a company has

Question

X Company currently makes a part and is considering buying it from a company has offered to supply it for $14.18 per unit. This year, per-unit production costs to produce 50,000 units were:

$125,000 of the total overhead costs were variable; $18,000 of the fixed overhead costs can be avoided if X Company buys the part. In addition, the resources that were used for production can be rented to another company for $75,000. Production next year is expected to increase to 53,750 units.

3. If X Company buys the part instead of making it, it will save

4. X Company is uncertain about next year's production level. At what production level will the company be indifferent between making and buying the part?

Direct materials $5.50 Direct labor 4.50 Overhead    4.00 Total    $14.00

Explanation / Answer

3.If X Company buys the part:

Differential Analysis:

If X Company buys the part instead of making, it will save $ 2,700.

4. The production level at which the company would be indifferent : ( Avoidable Fixed Cost + Opportunity Cost ) / ( Bought out Cost - Variable Cost of making)

or ( 18,000 + 75,000) / ( 14.18 - 12.50) = 55,357.14 units.

Total relevant cost at 55,357.14 units:

Make : 12.50 x 55,357.14 + 18,000 + 75,000 = $ 784,964.25

Buy : 14.18 x 55,357.14 = $ 784,964.25

Alternative 1 : Make Alternative 2 : Buy Effect on NOI ( Alternative 2) $ $ $ Variable Costs Direct Materials ( 53,750 x $ 5.50) 295,625 0 295,625 Direct Labor (53,750 x $ 4.50) 241,875 0 241,875 Variable Overhead ( 53,750 x $ 2.50) 134,375 0 134,375 Avoidable Fixed Cost 18,000 0 18,000 Rent Revenue Lost ( Opportunity Cost) 75,000 0 75,000 Outsourced price ( 53,750 x $ 14.18) 762,175 (762,175) Totals 764,875 762,175 2,700

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