Question

MAKE – OR – BUY (OUTSOURCING)

DiGabriele Co. is currently producing 20,000 components at a cost of $16 per unit. At this level of production, total fixed overhead costs are $100,000.

An outside supplier has offered to sell 20,000 units to DiGabriele for $14 a unit.

The normal production per-unit costs are shown below:

                                                                                                            Per Unit

                                                Direct materials                                $       2

                                                Direct Labor                                                4

                                                Variable overhead                                     5

                                                Fixed overhead                                         5

                                                                                                            $     16

REQUIRED:

1. Should DiGabriele make or buy the component?

Consider the following two situations INDEPENDENTLY

2. Assume the space used to produce the component could be leased to another company for $75,000. What decision should be made?

3. What would the answer be if 80% of the fixed costs were avoidable if DiGabriele outsourced instead of making it in-house?

Answer 1

	Particulars		In-house production cost	Buy from outside supplier	Decision to be taken
			Amt
	No. of components produced	20000
	Variable cost	11	220,000
	Fixed cost (1,00,000) / (20,000*5)		100,000
	Total production cost		320,000	280,000	DiGabriele should consider buying from outside given that the cost is lesser as compared to in house production
Situation 1	Total production cost in house		320,000
	Lease cost received		-                                   75,000
	Total cost		245,000	280,000	DiGabriele should consider producing it inhouse
Situation 2	Variable cost		220,000
	Fixed cost (80% is avoidable)		20,000
	Total cost		240,000	280,000	DiGabriele should consider producing it inhouse