Question

Problem 12-2 The management of Ayayai Manufacturing Company is trying to decide whether to continue manufacturing a part or to buy it from an outside supplier. The part, called CISCO, is a component of the company's finished product. The following information was collected from the accounting records and production data for the year ending December 31, 2017. 1. 7.900 units of CISCO were produced in the Machining Department. 2. Variable manufacturing costs applicable to the production of each CISCO unit were: direct materials $4.50, direct labor $4.00, indirect labor $0.40, utilities $0.35. 3. Fixed manufacturing costs applicable to the production of CISCO were: Cost Item Depreciation Property taxes Insurance Direct $1,900 460 860 $3,220 Allocated $860 260 560 $1,680 All variable manufacturing and direct fixed costs will be eliminated if CISCO is purchased. Allocated costs will have to be absorbed by other production departments. 4. The lowest quotation for 7,900 CISCO units from a supplier is $73,349. 5. If CISCO units are purchased, freight and inspection costs would be $0.34 per unit, and receiving costs totaling $1,260 per year would be incurred by the Machining Department.

Answer 1

Incremental analysis:

	Make CISCO	Buy CISCO	Net Income Increase (Decrease)
Direct materials (7900 x $4.50)	35550	0	35550
Direct labor (7900 x $4.00)	31600	0	31600
Indirect labor (7900 x $0.40)	3160	0	3160
Utilities (7900 x $0.35)	2765	0	2765
Depreciation ($1900 + $860)	2760	860	1900
Property taxes ($460 + $260)	720	260	460
Insurance ($860 + $560)	1420	560	860
Purchase price	0	73349	-73349
Freight and inspection (7900 x $0.34)	0	2686	-2686
Receiving costs	0	1260	-1260
Total annual cost	77975	78975	-1000

The company should make.

Buying CISCO would result in a decrease in net income of $1,000 and hence Ayayai should make CISCO.

Yes.

The opportunity cost of making $3,000 will increase the total cost of making. Thus, the decision would be buy.