Silven Industries, which manufactures and sells a highly successful line of summ

Question

Silven Industries, which manufactures and sells a highly successful line of summer lotions and insect repellents, has decided to diversify in order to stabilize sales throughout the year. A natural area for the company to consider is the production of winter lotions and creams to prevent dry and chapped skin After considerable research, a winter products line has been developed. However, Silven's president has decided to introduce only one of the new products for this coming winter. If the product is a success, further expansion in future years will be initiated. The product selected (called Chap-Off) is a lip balm that will be sold in a lipstick-type tube. The product will be sold to wholesalers in boxes of 24 tubes for $12 per box. Because of excess capacity, no additional fixed manufacturing overhead costs will be incurred to produce the product. However, a $103,500 charge for fixed manufacturing overhead will be absorbed by the product under the company's absorption costing system Using the estimated sales and production of 115,000 boxes of Chap-Off, the Accounting Department has developed the following manufacturing cost per box Direct material Direct labor Manufacturing overhead Total cost $ 5.20 3.60 2.20 $11.00 The costs above relate to making both the lip balm and the tube that contains it. As an alternative to making the tubes for Chap-Off, Silven has approached a supplier to discuss the possibility of buying the tubes. The purchase price of the supplier's empty tubes would be $1.90 per box of 24 tubes. If Silven Industries stops making the tubes and buys them from the outside supplier, its direct labor and variable manufacturing overhead costs per box of Chap-Off would be reduced by 10% and its direct materials costs would be reduced by 25%.

Explanation / Answer

5 Maximum price=Costs which can be avoided=$1.79 Costs which can be avoided Direct material (5.20*25%) 1.3 Direct labor (3.6*10%) 0.36 Variable manufacturing overhead (1.3*10%) (Note:1) 0.13 1.79 Notes: Segregation of fixed and variable manufacturing overhead: Manufacturing overhead per unit 2.2 Fixed manufacturing overhead based on 115000 boxes (Fixed overhead/115000) (103500/115000) 0.90 Variable manufacturing overhead per unit 1.30 6 Advantage from buying: Cost which can be avoided (143000*1.79) 255970 Additional cost for equipment 48000 303970 Less:Purchase price of tubes (143000*1.9) 271700 Financial advantage 32270 It is better to purchase Tubes from outside suppliers since it will result in financial advantage of $32270 7 Better option Make 115000 units Buy 28000 units (143000-115000)

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