Han Products manufactures 23,000 units of part S-6 each year for use on its production line. At this level of activity, the cost per unit for part S-6 is:
Direct materials | $ | 3.70 |
Direct labor | 11.00 | |
Variable manufacturing overhead | 2.30 | |
Fixed manufacturing overhead | 9.00 | |
Total cost per part | $ | 26.00 |
An outside supplier has offered to sell 23,000 units of part S-6 each year to Han Products for $22 per part. If Han Products accepts this offer, the facilities now being used to manufacture part S-6 could be rented to another company at an annual rental of $73,000. However, Han Products has determined that two-thirds of the fixed manufacturing overhead being applied to part S-6 would continue even if part S-6 were purchased from the outside supplier.
Required:
What is the financial advantage (disadvantage) of accepting the outside supplier’s offer?
Financial advantage [Refer working note below] | $50,000 | ||
Working note: | |||
Differential Analysis | |||
Make Part S-6 (Alt. 1) or Buy S-6 (Alt. 2) | |||
Make part S-6 (Alternative 1) |
Buy S-6 (Alternative 2) |
Net Income Increase / (Decrease) (if Alternative 2 is chosen) |
|
Purchase price [23,000 units x $22] | $506,000 | ($506,000) | |
Cost of making: | |||
Direct material cost [23,000 units x $3.70] | $85,100 | $85,100 | |
Direct Labor Cost [23,000 units x $11] | $253,000 | $253,000 | |
Variable manufacturing Overhead [23,000 units x $2.30] | $52,900 | $52,900 | |
Fixed manufacturing Overhead [23,000 units x $9 x 1/3] [Refer note below] | $92,000 | $92,000 | |
Opportunity Cost (annual rent) [Opportunity cost] | $73,000 | $73,000 | |
Total | $556,000 | $506,000 |
$50,000 [$556,000 - $506,000] |
**Company’s income would increase by $50,000 if the company decided to buy the part S-6 from the outside supplier | |||
Note: The remaining fixed overhead cost (23,000 units x $9 × 2/3) would not be relevant, because it will continue regardless of whether the company makes or buys the parts. |
Han Products manufactures 23,000 units of part S-6 each year for use on its production line....
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Han Products manufactures 29,000 units of part S-6 each year for use on its production line. At this level of activity, the cost per unit for part S-6 is: Direct materials $ 3.70 Direct labor 12.00 Variable manufacturing overhead 2.30 Fixed manufacturing overhead 9.00 Total cost per part $ 27.00 An outside supplier has offered to sell 29,000 units of part S-6 each year to Han Products for $23 per part. If Han Products accepts this offer, the facilities now...
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