19 Aholt Corporation makes 40,000 units per year of a part it uses in the produc

Question

19

Aholt Corporation makes 40,000 units per year of a part it uses in the products it manufactures. The unit product cost of this part is computed as follows: Direct materials $ 11.30 Direct labor 22.70 Variable manufacturing overhead 1.20 Fixed manufacturing overhead 24.70 Unit product cost S59.90 An outside supplier has offered to sell the company all of these parts it needs for $46.20 a unit. If the company accepts this offer, the facilities now being used to make the part could be used to make more units of a product that is in high demand. The additional contribution margin on this other product would be $264,000 per year. If the part were purchased from the outside supplier, all of the direct labor cost of the part would be avoided. However, $21.90 of the fixed manufacturing overhead cost being applied to the part would continue even f the part were purchased from the outside supplier. This fixed manufacturing overhead cost would be applied to the company?s remaining products. How much of the unit product cost of $59.90 is relevant in the decision of whether to make or buy the part?? $38.00 per unit $59.90 per unit $35.20 per unit $22.70 per unit

Explanation / Answer

An outside supplier has offered to sell the company all these parts for $46.20 per unit. But the fixed manufacturing overhead cost will be $21.90 while Aholt Corporation is already incurring a Fixed manufacturing overhead of $24.70. So, the avoidable overhead is the difference between $24.70 and $21.90.

Avoidable overhead = $24.70 - $21.90

                                  = $2.80

In order to find out how much of the unit product cost of $59.90 is relevant to the decision of whether to make or buy, the following formula has to be used:

Relevant cost = Direct Materials + Direct Labor + Variable Overhead + Avoidable Overhead

Relevant cost = $11.30 + $22.70 + $1.20 + $2.80

Relevant cost = $38

So, $38 per unit is relevant to the decision of whether to make or buy. The correct answer is the 1st option.

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