Question

98) Assume that a company manufactures numerous component parts, one of which is called Part A. The company’s absorption costing system indicates that it costs $23.00 to make one unit of Part A as shown below:

98) Assume that a company manufactures numerous component parts, one of which is called Part A. The company’s absorption costing system indicates that it costs $23.00 to make one unit of Part A as shown below:

Direct materials $ 10.00
Direct labor 6.00
Variable overhead 2.00
Fixed overhead 5.00
Total absorption cost per unit $ 23.00 The company is trying to decide between two alternatives:

Alternative 1: Continue making 80,000 units of Part A per year using its existing equipment at the unit cost shown above. The equipment used to make this part does not wear out through use and it has no resale value.

Alternative 2: Replace the existing equipment with a new piece of equipment that the company would rent for $152,000 per year. The new piece of equipment would be used to make 80,000 units per year and it would reduce Part A’s direct labor cost per unit by 20% and its variable overhead per unit by 30%. The direct materials cost per unit will remain constant.

What is the financial advantage or (disadvantage) of renting the new piece of equipment? Multiple Choice

$(4,080)

$(8,000)

$(8,160)

$(2,080)

Answer 1

To calculate the financial advantage or disadvantage of renting the new piece of equipment, we compare the total costs of the two alternatives. For Alternative 1, the total cost is $1,840,000. For Alternative 2, the total cost is $1,832,000. The financial advantage of renting the new equipment is $8,000.

Step-by-step explanation:

To calculate the financial advantage or disadvantage of renting the new piece of equipment, we need to compare the total costs of the two alternatives.

For Alternative 1, the total cost of making 80,000 units of Part A using the existing equipment is:
80,000 units x $23.00 per unit = $1,840,000

For Alternative 2, the total cost of making 80,000 units of Part A using the new rented equipment is:
80,000 units x ($10.00 + $4.80 + $1.40 + $5.00) = $1,832,000

The financial advantage of renting the new piece of equipment is the difference in total costs between the two alternatives:
$1,840,000 - $1,832,000 = $8,000

Therefore, the financial advantage of renting the new piece of equipment is $8,000.