Question

Han Products manufactures 22,000 units of part S-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 $5.60
Direct labor 6.00
Variable manufacturing overhead 3.60
Fixed manufacturing overhead 12.00
Total cost per part $27.20
An outside supplier has offered to sell 22,000 units of part S-6 each year to Han Products for $44.50 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 $551,600. However, Han Products has determined that two-thirds of the fixed manufacturing overhead being applied to part S-6 would continue even if part S-6 were purchased from the outside supplier.
Required:
a. Calculate the per unit and total relevant cost for buying and making product. Round per unit answer to 2 decimal place.
b. How much will profits increase or decrease if the outside suppliers offer is accepted?

Answer 1

Profit decrease = $6,000

Explanation:

As per the data given in the question,

a)

Calculation for buying and making product :

Particulars Per unit Differential cost 22,000 units

Make Buy Make Buy

Cost of buying $44.50 $979,000

Cost of making :

Direct material $5.60 $123,000

Direct labor $6.00 $132,000

Variable manufacturing

overhead $3.6 $79,200

Fixed manufacturing

overhead $4 $88,000

($12 × 1 ÷ 4)

Opportunity cost $551,600

Total cost $19.2 $44.50 $973,800 $979,000

b) As we can see that the Profit is decrease by $6,000 in case of outside supplier offer accepted by taking the difference between the making and buying cost i.e

= $979,000-$973,800

= $6,000