Question

Silven Industries, which manufactures and sells a highly successful line of summer lotions and insect repellents, has decided to diversify in order to stabilize sales throughout the year. A natural area for the company to consider is the production of winter lotions and creams to prevent dry and chapped skin.

After considerable research, a winter products line has been developed. However, Silven’s president has decided to introduce only one of the new products for this coming winter. If the product is a success, further expansion in future years will be initiated.

The product selected (called Chap-Off) is a lip balm that will be sold in a lipstick-type tube. The product will be sold to wholesalers in boxes of 8 tubes for $7.20 per box. Because of excess capacity, no additional fixed manufacturing overhead costs will be incurred to produce the product. However, a $80,000 charge for fixed manufacturing overhead will be absorbed by the product under the company’s absorption costing system.

Using the estimated sales and production of 100,000 boxes of Chap-Off, the Accounting Department has developed the following cost per box:

Direct materials	$	3.40
Direct labor		1.00
Manufacturing overhead		1.50
Total cost	$	5.90

The costs above include costs for producing both the lip balm and the tube that contains it. As an alternative to making the tubes, Silven has approached a supplier to discuss the possibility of purchasing the tubes for Chap-Off. The purchase price of the empty tubes from the supplier would be $1.10 per box of 8 tubes. If Silven Industries accepts the purchase proposal, direct labor and variable manufacturing overhead costs per box of Chap-Off would be reduced by 10% and direct materials costs would be reduced by 20%.

Instead of sales of 100,000 boxes, revised estimates show a sales volume of 122,000 boxes. At this new volume, additional equipment must be acquired to manufacture the tubes at an annual rental of $40,000. Assume that the outside supplier will not accept an order for less than 122,000 boxes.

a.	Calculate the total relevant cost of making 122,000 boxes and total relevant cost of buying 122,000 boxes. (Do not round intermediate calculations.)
	Total cost (Making) : __________
	Total cost (Buying): ___________

b.	Based on the above calculations, should Silven Industries make or buy the boxes?
	Make Buy

4.	Refer to the data in (3) above. Assume that the outside supplier will accept an order of any size for the tubes at $1.10 per box. Which of these is the best alternative?
	Make all 122,000 boxes Buy all 122,000 boxes Make 100,000 boxes and buy 22,000 boxes Make 40,000 boxes and buy 40,000 boxes

Answer 1

Solution 1a:
Computation of variable Manufacturing Overhead per unit
Total Manufacturing overhead per unit		1.50
Less: Fixed manufacturing overhead per unit
Total fixed overhead	80000
/ number of Boxes	100000	0.80
Variable manufacturing overhead per unit		0.70
Total variable cost of producing one box of Chap-Off
Direct materials	3.40
Direct labor	1.00
Variable manufacturing overhead	0.70
Total variable cost of producing one box of Chap-Off	5.10
Solution 1b:
Avoidable manufacturing costs per box of Chap-off
	Existing	Reduction %	Avoidable cost
Direct materials	3.40	20%	0.68
Direct labor	1.00	10%	0.10
Variable manufacturing overhead	0.70	10%	0.07
Avoidable manufacturing costs per box of Chap-off	0.85
Computation of Total variable cost of producing one box of Chap-Off, if purchased from outside supplier
Total variable cost of producing one box of Chap-Off	5.10
Less: Avoidable manufacturing costs per box of Chap-off	-0.85
Add: purchased from outside supplier per box of tubes	1.10
Total variable cost per box of Chap-Off, if purchased	5.35
Solution 1c:
Should Silven Industries make or Buy the Tubes =	Make
(Because buying cost is higher than making cost)
Solution 2:
Maximum Price = Avoidable costs per box of Chap-off	0.85
Solution 3a and 3b:
For Revised volume of Boxes of Tubes:	Cost to Make	Cost to Buy
Number of Boxes	122000	122000
*Cost per box	5.10	5.35
Normal Costs	622200	652700
Add: Annual Rent on Extra Equipment	40000	0
Total Relevent costs to make or buy	662200	652700
a. Financial advantage (Disadvantage) if buy:	Advantage
(Cost to make - Cost to buy)	9500
b. make or Buy the boxes of Tubes?	Buy
Solution 4:
Number of Boxes of tubes manufactured by Silven	100000
Number of Boxes of tubes purchased from outside	22000