Question

PROBLEM 7-2 Use incremental analysis related to make or buy, consider opportunity cost, and identify nonfinancial factors. The management of Shicago Manufacturing Company is trying to decide whether to continue manufacturing a part or to buy it from an outside supplier. The part, called CISCO, is a component of the company's finished product. The following information was collected from the accounting records and production data for the year ending December 31, 2017. • • 8,000 units of CISCO were produced in the Machining Department. Variable manufacturing costs applicable to the production of each CISCO unit were: direct materials $4.80, direct labor $4.30, indirect labor $0.43, utilities $0.40. Fixed manufacturing costs applicable to the production of CISCO were: • Cost Item Direct Allocated Depreciation $2,100 $ 900 Property taxes 500 200 Insurance 900 600 $3,500 $1,700 • All variable manufacturing and direct fixed costs will be eliminated if CISCO is purchased. Allocated costs will have to be absorbed by other production departments. The lowest quotation for 8,000 CISCO units from a supplier is $80,000. If CISCO units are purchased, freight and inspection costs would be $0.35 per unit, and receiving costs totaling $1,300 per year would be incurred by the Machining Department. • Instructions Prepare an incremental analysis for CISCO. Your analysis should have columns for • Make CISCO, • Buy CISCO, and • Net Income Increase (Decrease). (6) Based on your analysis, what decision should management make?

Answer 1

Solution a:

Incremental Analysis - Shicago Manufacturing Company
Particulars	Make CISCO	Buy CISCO	Net Income Increase (Decrease)
Direct material	$38,400.00		$38,400.00
Direct labor	$34,400.00		$34,400.00
Indirect labor	$3,440.00		$3,440.00
Utilities	$3,200.00		$3,200.00
Depreciation	$3,000.00	$900.00	$2,100.00
Property taxes	$700.00	$200.00	$500.00
Insurance	$1,500.00	$600.00	$900.00
Purchase price		$80,000.00	-$80,000.00
Frieght and inspection		$2,800.00	-$2,800.00
Receiving costs		$1,300.00	-$1,300.00
Total annual costs	$84,640.00	$85,800.00	-$1,160.00

Solution b:

Company should make the CISCO

Solution c:

Yes, decision would be different and net benefit from buying CISCO = $3,000 - $1,160 = $1,840

Solution d:

Non financial factory management to consider before making its decision:

1. Quality of goods supplies by outside supplier

2. Credit period allowed

3. Capacity of supplier to serve the order on time