(L.OBJ. 4) Making outsourcing and sell as is or process further decisions [10 min]
Suppose an Olive Tree restaurant is considering whether to (1) bake bread for its restaurant in-house or (2) buy the bread from a local bakery. The chef estimates that variable costs of making each loaf include $0.56 of ingredients, $0.22 of variable overhead (electricity to run the oven), and $0.76 of direct labor for kneading and forming the loaves. Allocating fixed overhead (depreciation on the kitchen equipment and building) based on direct labor assigns $1.00 of fixed overhead per loaf. None of the fixed costs are avoidable. The local bakery would charge $1.74 per loaf.
Requirements
1. What is the unit cost of making the bread in-house (use absorption costing)?
2. Should Olive Tree bake the bread in-house or buy from the local bakery? Why?
3. In addition to the financial analysis, what else should Olive Tree consider when making this decision?
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