Question

Benson Chemical Company makes a variety of cosmetic products, one of which is a skin cream designed to reduce the signs of aging. Benson produces a relatively small amount (18,000 units) of the cream and is considering the purchase of the product from an outside supplier for $4.80 each. If Benson purchases from the outside supplier, it would continue to sell and distribute the cream under its own brand name. Benson’s accountant constructed the following profitability analysis:

Revenue (18,000 units X $11.50) Unit-level materials costs (18,000 units * $1.70) Unit-level labor costs (18,000 units * $0.80) Unit-level overhead costs (18,000 * $0.40) Unit-level selling expenses (18,000 * $0.50) Contribution margin Skin cream production supervisor's salary Allocated portion of facility-level costs Product-level advertising cost Contribution to companywide income $207,000 (30,600) (14,400) (7,200) (9,000) 145,800 (50,000) (11,900) (34,000) $ 49,900

1. Identify the cost items relevant to the make-or-outsource decision.

2. What is the avoidable cost per unit if the outsourcing decision is taken? Should Benson continue to make the product or buy it from the supplier?

3. Suppose that Benson is able to increase sales by 7,000 units (sales will increase to 25,000 units). Calculate the total avoidable costs. At this level of production, should Benson make or buy the cream?

Answer 1

Relevant costs are the avoidable costs
Material cost	30,600
Labor cost	14,400
Overhead cost	7,200
Production Supervisor Salary	50,000
Avoidable cost	102,200
Note: Selling, Distribution and Allocated expenses will remain the same
b.Per unit	5.68	per unit
BUY,since purchase cost is lower
c.Total avoidable cost is as follows:
Material cost	42,500
Labor cost	20,000
Overhead cost	10,000
Production Supervisor Salary	50,000
Avoidable cost	122,500
Unit level cost	4.90	per unit
Buy, purchase cost is still lower