Question

The management of Ireland Manufacturing Industries has asked for your help in deciding whether to continue manufacturing a part or to buy it from an outside supplier. The part, called Guinness, is a component of Ireland’s finished product.

An analysis of the accounting records and the production data revealed the following information for the year ending December 31, 2020:

1. The machinery department produced 40,000 units of Guinness.

2. Each Guinness unit requires 15 minutes to produce. Three people in the machinery department work full-time (2,500 hours per year each) producing Guinness. Each person is paid $15 per hour.

3. The cost of materials per Guinness unit is $3.

4. Manufacturing costs directly applicable to the production of Guinness are as follows: indirect labour, $6,000; utilities, $1,500; depreciation, $2,000; property taxes and insurance, $2,000. All of the costs will be eliminated if the company purchases Guinness.

5. The lowest price for Guinness from an outside supplier is $6 per unit. Freight charges would be $0.50 per unit, and the company would require a part-time receiving clerk at $10,000 per year.

6. If it purchases Guinness, Ireland will use the excess space that becomes available to store its finished product. Currently, Ireland rents storage space at approximately $1.50 per unit stored per year. It stores approximately 6,000 units per year in the rented space

Instructions

1. Prepare an incremental analysis for the make-or-buy decision. Should Ireland make or buy the part? Why?

b.   Prepare an incremental analysis, assuming the released facilities (freed-up space) can be used to produce $15,000 of net income in addition to the savings on the rental of storage space. What decision should the company make now?

c. What non-financial factors should it consider in the decision?

Answer 1

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Ireland Manufacturing Industry
Calculation of production costs:
	Per Unit	Note
Units produced	40,000.00	A
Material price	3.00	B
Material cost	120,000.00	C=A*B
Number of employee	3.00	D
Hours worked	2,500.00	E
Total Hours	7,500.00	F=D*E
Rate per hour	15.00	G
Labor cost	112,500.00	H=F*G
Calculation of Purchase costs:
	Per Unit	Total
Units purchased	40,000.00
Purchase price	6.00	240,000.00	This is Purchase price* Total units purchased
Freight charges	0.50	20,000.00	This is Freight charges* Total units purchased
Answer a
	Make	Outsource	Difference
Material cost	120,000.00		120,000.00
Labor cost	112,500.00		112,500.00
Indirect labor	6,000.00		6,000.00
Utilities	1,500.00		1,500.00
Depreciation	2,000.00		2,000.00
Property taxes and insurance	2,000.00		2,000.00
Purchase cost		240,000.00	(240,000.00)
Freight charges		20,000.00	(20,000.00)
Clerk Salary		10,000.00	(10,000.00)
Total	244,000.00	270,000.00	(26,000.00)
Outsourcing costs more by $ 26,000 for 40,000 units. So proposal should not be accepted.
Answer b
	Make	Outsource & idle facility	Difference
Material cost	120,000.00		120,000.00
Labor cost	112,500.00		112,500.00
Indirect labor	6,000.00		6,000.00
Utilities	1,500.00		1,500.00
Depreciation	2,000.00		2,000.00
Property taxes and insurance	2,000.00		2,000.00
Purchase cost		240,000.00	(240,000.00)
Freight charges		20,000.00	(20,000.00)
Clerk Salary		10,000.00	(10,000.00)
Savings on the rental of storage space		(15,000.00)	15,000.00
Total	244,000.00	255,000.00	(11,000.00)
Even if there is savings on the rental of storage space net Outsourcing still costs more by $ 11,000 for 40,000 units. So proposal should not be accepted.
Answer c
What non-financial factors should it consider in the decision?
It should ensure that supplier maintains the quality of the product. Defective units will cost the company.
It should ensure that supplier maintains the delivery time of the product. Delay will cause hassles to the company.