Question

Han Products manufactures 28,000 units of part 5-6 each year for use on its production line. At this level of activity, the cost per unit for part S-6 is: Direct materials Direct labor Variable manufacturing overhead Fixed manufacturing overhead Total cost per part $ 3.60 11.00 2.40 6.00 $ 23.00 An outside supplier has offered to sell 28,000 units of part S-6 each year to Han Products for $21 per part. If Han Products accepts this offer, the facilities now being used to manufacture part S-6 could be rented to another company at an annual rental of $78,000. However, Han Products has determined that two-thirds of the fixed manufacturing overhead being applied to part S-6 would continue even if part 5-6 were purchased from the outside supplier. Required: What is the financial advantage (disadvantage) of accepting the outside supplier's offer? Financial advantage

Answer 1

Financial advantage

$ 22,000

Working

Total Cost of Buying	$ 510,000
Total Cost of manufacturing	$ 532,000
Financial advantage of accepting outside supplier offer	$ 22,000

.

Differential Analysis
	Make	Buy
Direct material	$ 100,800
Direct labor	$ 308,000
Variable Overheads	$ 67,200
Fixed overhead	$ 56,000
Purchase price		$ 588,000
Additional benefit from Buying from outside		-$ 78,000
Total relevant Cost	$ 532,000	$ 510,000

Answer 2

Financial   Advantage	22,000
Working Note 1:
Purchase price from outside supplier	(588,000)	(28000*21)
Saving in cost due if outside   offer accepted:
Direct material	100,800	(28000*3.6)
Direct labour	308,000	(28000*11)
variable mnufacturing OH	67,200	(28000*2.4)
Saving in Fixed Overhead	56,000	((28000*6)*0.33)
Income from freed capacity	78,000
Financial Advantage	22,000