Question

11-26 Make versus Buy; Continuation of Exercise 9-22 m (Chapter 9 ) Vista Company manufactures electronic equipment. In 2018, it purchased from an outside supplier the special switches used in each of its products. The supplier charged Vista $2 per switch. As an alternative, Vista's CEO considered purchasing either machine A or machine B so the company could manufacture its own switches. The CEO decided at the beginning of 2019 to purchase machine A, based on the following data: Machine A Machine B $204,00 $135,000 0 Annual fixed cost (depreciation) Variable cost per switch 0.65 0.30 Required 1. Assume that machine A has not yet been purchased. What is the annual volume (rounded up to nearest whole number) that would make the company indifferent between the two decision alternatives (i.e., purchasing and then using machine A to make the switches versus purchasing the switches from the outside vendor)? 2. Assume that machine A has already been purchased. Is it preferable to use machine A to make the switches or to purchase the switches from the external supplier? 3. Assume that machine A has already been purchased. At what annual volume level (rounded to the nearest whole number) should Vista consider replacing machine A with machine B? 4. Use the Goal Seek function in Excel to confirm the volume-indifference level you calculated in requirement 3.

Answer 1

1. Answer; 100,000 units.

Let the annual volume be X.

Total cost of production using Machine A = 135,000 + 0.65 X

Total cost of purchasing from the outside vendor = 2X

At the indifference level,

135,000 + 0.65 X = 2 X

or X = 100,000 units

2. It would be preferable to use Machine A to make the switches. The relevant cost for making the switches equals the variable cost of $ 0.65 per switch. Depreciation on the equipment is a sunk cost, and therefore is not relevant. The cost of outsourcing is $ 2 per switch. Therefore, it makes financial sense to make the switch in-house, if Machine A has already been purchased.

3.Let the annual volume be X.

Total cost of production on Machine A =135,000 + 0.65 X

Total cost of production on Machine B = 204,000 + 0.30 X

At the indifference level between Machine A and Machine B,

135,000 + 0.65 X = 204,000 + 0.30 X

or X = 197,143 units.

At an annual activity level exceeding 197,143 units, Vista would consider replacing Machine A with Machine B.