Question

Exercise 11-11 Make or Buy Decision (LO11-3] Han Products manufactures 37,000 units of part 5-6 each year for use on its production line. At this level of activity, the cost per unit for part S-6 is: 2.0 Direct materials Direct labor Variable manufacturing overhead Fixed manufacturing overhead Total cost per part An outside supplier has offered to sell 37000 units of part 5-6 each year to Han Products for $19 per part. If Han Products accepts this offer, the facilities now being used to manufacture part 5-6 could be rented to another company at an annual rental of $87.000. However, Han Products has determined that two-thirds of the fixed manufacturing overhead being applied to part 5-6 would continue even if part 5-6 were purchased from the outside supplier Required: What is the financial advantage (disadvantage of accepting the outside supplier's offer?

Answer 1

Calculation of financial advantage (disadvantage) if outside supplier's offer is accepted
	Make	Buy
Direct materials (3.60*37000)	$133,200
Direct labor (9*37000)	$333,000
Variable manufacturing overhead (2.40*37000)	$88,800
Fixed manufacturing overhead (6*37000)	$222,000	$148,000
		(6*37000)*(2/3)
Purchase price (37000*19)		$703,000
Annual rental		-$87,000
Net cost	$777,000	$764,000
Financial advantage	$13,000	777000-764000
The net cost under buying option is lower than under make option and thus there is financial advantage of $13,000 from accepting the offer.