Question

Q 43

Tabri makes two component, A and B, for which costs in the next year are expected to be as follows:

A B

Production (units) 30,000 20,000

Variables costs per unit: GHS GHS

Direct materials 6 5

Direct labour 3 9

Variable production overheads 1 3

Variable production cost 10 17

Direct labour is paid GHS12 per hour. There will be only 19,500 hours of direct labour time available next year, and any additional components must be purchased from an external supplier.

Total fixed costs per annum are expected to br as follows:

GHS

Incurred as a direct consequence of making A 40,000

Incurred as a direct consequence of making B 50,000

Other fixed costs 30,000

120,000

An external supplier has offered to supply units of A and for GHS12.5 and units of B for GHS23

Required:

a) Recommend whether Tabri should shut down internal production of component A or component B and switch to external purchasing

b) Recommend the quantities that Tabri should make of the component and the quantities that it should buy externally, in order to obtain the required quantities of both component at the minimum cost. Calculate what the total annual cost will be

NB: To answer part (b), you will need to consider that labour is a limiting factor

Answer 1

1. Anlysis of Costs to make Recomenadation
Sl. No.	Particulars	A	B	Total
A	Annual Production (Units)	30,000	20,000
B	Variable Costs Per Unit
	i.Direct Material	GHC                6.00	GHC                5.00
	ii.Direct Labour	GHC                3.00	GHC                9.00
	iii.Variable Production Overheads	GHC                1.00	GHC                3.00
C	Variable Production Cost per unit (Sum of B)	GHC              10.00	GHC              17.00
D	Total Variable Production Cost (A*C)	GHC   300,000.00	GHC   340,000.00	GHC       640,000.00
E	Fixed Costs per Annum
	-Incurred in Direct Consequence of A	GHC     40,000.00		GHC         40,000.00
	-Incurred in Direct Consequence of B		GHC     50,000.00	GHC         50,000.00
F	Total Cost (Individually)	GHC   340,000.00	GHC   390,000.00	GHC       730,000.00
G	Common Fixed Cost			GHC         30,000.00
H	Total Cost (F+G)			GHC       760,000.00
I	Total Cost per Unit (F/A)	GHC              11.33	GHC              19.50
J	Offer Price of External Supplier	GHC              12.50	GHC              23.00
K	Total Cost if Purchased from Supplier	GHC   375,000.00	GHC   460,000.00	GHC       835,000.00
L	Recommendation	Produce A	Produce B	Produce A&B
		(Based on F & K)	(Based on F & K)	(Based on H & K)
Note:
1. For Decision making of either to produce A or B, Common Fixed costs are Irrelevant. But, that is relevant only in case of shut down of production of both products.
2. Ranking and Calculation of Units to be Produced Internally and Purchased from External Supplier
Sl. No.	Particulars	A	B	Total
A	Annual Production (Units)	30,000	20,000
B	Variable Costs Per Unit
	i.Direct Material	GHC                6.00	GHC                5.00
	ii.Direct Labour	GHC                3.00	GHC                9.00
	iii.Variable Production Overheads	GHC                1.00	GHC                3.00
C	Variable Production Cost per unit (Sum of B)	GHC              10.00	GHC              17.00
D	Direct Labour rate per hour	GHC              12.00	GHC              12.00
E	No. Of Direct Labour hours per unit (B(ii)/D)	0.25 hrs	0.75 hrs
F	Cost Per limiting factor i.e. Labour hrs (C/E)	GHC              40.00	GHC              22.67
G	Ranking (Minimum Cost)	II	I
H	Allocation of Hours To Each Product	4500	15000	19500
		(Bal. Fig.)	(20,000*0.75 hrs)
I	No.of Units of Product A can be produced (H/E)	18,000
J	Units of Product A to buy Externally (A-I)	12,000
3. Calculation of Minimum Cost considering Limiting factor of Direct Labour hours
Sl. No.	Particulars	A	B	Total
A	Total Cost for Product B (From 1F)		GHC   390,000.00
B	Cost of External Purchase of Product A	GHC   150,000.00
		(12,000*GHC12.5)
C	Variable cost for 18,000 units	GHC   180,000.00
		(18,000*GHC10)
D	Fixed Cost for Product A	GHC     40,000.00
E	Total Cost (Individually)	GHC   370,000.00	GHC   390,000.00	GHC       760,000.00
F	Common Fixed Cost			GHC         30,000.00
G	Minimum Cost (E+F)			GHC       790,000.00