Question

 

Spahr Company produces a part that is used in the manufacture of one of its products. The unit manufacturing costs of this part, assuming a production level of 5,000 units, are as follows:

Direct materials	$2.00
Direct labour	$4.00
Variable manufacturing overhead	4.00
Fixed manufacturing overhead	$2.00
Total cost	$12.00
The fixed overhead costs are unavoidable.

1. Erickson Company has offered to sell 5,000 units of the same part to Spahr Company for $11 per unit. Assuming the company has no other use for its facilities, what should Spahr Company do?
   1. Make the part and save $1 per unit.
   2. Make the part and save $3 per unit.
   3. Buy from Erickson and save $1 per unit.
   4. Make the part and save $5 per unit.

 

 

 

 

 

2. Assuming no other use for its facilities, what is the highest price per unit that Spahr Company should be willing to pay for the part?
   1. $10
   2. $8
   3. $12
   4. $6

Answer 1

Option A) Make the part and save $1 per unit

Explanation: Total Purchasing Cost from Erickson Company = $11 per unit

Add: Unavoidable Fixed Costs = $2 per unit

So, TOTAL Purchasing Cost    = $13per unit

Therefore, Purchasing Cost Per unit = $13

Less:     Manufacturing Cost Per unit =   ($12)

Savings from making product = $1

(NOTE : Fixed Cost are unavoidable so even if we plan to purchase from Erickson we will incurr the $2 fixed cost ,Hence in calculating the total purchasing cost we also add the fixed cost which will be incurred at our . )

Option A) $10 . Is correct

Explanation: Highest Price To pay = Direct Materials + Direct Labor + Variable Manufacturing Overhead

= $2 + $4 + $4

= $10.

(NOTE: In calculating the highest price per unit that Saphr company will be willing to pay , we will not add the portion of fixed cost because they are unavoidable and the company will incurr that $2 (fixed cost) whether it produces the product or purchase it from outside.)