Exercise 10-10 Make or Buy a Component [LO10-3] For many years Futura Company ha
ID: 2583602 • Letter: E
Question
Exercise 10-10 Make or Buy a Component [LO10-3]
For many years Futura Company has purchased the starters that it installs in its standard line of farm tractors. Due to a reduction in output, the company has idle capacity that could be used to produce the starters. The chief engineer has recommended against this move, however, pointing out that the per unit cost to produce the 40,000 starters needed would be greater than the current $8.40 per unit purchase price:
Per Unit Total
Direct materials $ 3.10
Direct labor 2.70
Supervision 1.50 $ 60,000
Depreciation 1.00 $ 40,000
Variable manufacturing overhead 0.60
Rent 0.30 $ 12,000
Total product cost $ 9.20
A supervisor would have to be hired to oversee production of the starters. However, the company has sufficient idle tools and machinery so that no new equipment would have to be purchased. The rent charge above is based on space utilized in the plant. The total rent on the plant is $80,000 per period. Depreciation is due to obsolescence rather than wear and tear.
Required:
1.
Determine the total relevant cost per unit if starters are made inside the company. (Round your answer to 2 decimal places.)
2.
Determine the total relevant cost per unit if starters are purchased. (Round your answer to 2 decimal places.)
3.
What is the increase or decrease in profits as a results of purchasing the parts from the starters rather than making them inside the company? (Do not round intermediate calculations.)
Explanation / Answer
1)
Note:
a) As no machine will have to be purchased, the depreciation on the old machine is irrelevant cost
b) as the old machine will occupy the space irrespective of whether starters are purchased or produced by the company, the rent expense is also irrelevant
2) The relevant cost for purchase of starter = purchase price of the starter = $8.40 per unit
3)
If 40000 starters are purchased there will be a net loss of operating income by 40000 x $0.50 = $20000
Relevant per unit Cost of production of Starters: Direct Material $ 3.10 Direct Labour $ 2.70 Supervision $ 1.50 Variable Manufacturing Overhead $ 0.60 Total relevant cost per unit $ 7.90Related Questions
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