Question

Assume you own a company that produces mountain bikes. Your company has manufactured mountain bikes locally in the United States for over 30 years. Because low-cost competition is increasingly gaining market share and your company costs are relatively high, you are considering outsourcing production to India.

1. Describe how differential analysis can be used to assist in making this type of make-or-buy decision. Include specific examples related to producing mountain bikes in your response.

2. What additional factors would you consider outside of the financial information analyzed with differential analysis? These are called qualitative factors in the text. Be sure to state why you would consider the qualitative factors included in your response.

Answer 1

1)Make versus Buy ,as used here,in differential analysis involves comparison of the relavant costs to make them internally with the cost to purchase externally.

Relevent costs represent those costs which can be avoided if we decide not to make the product internally. Examples include Variable costs,Avoidable fixed cost ,forgone contributions etc.

If the relevant cost are less than purchase price, the decision should be to make the product internally.If the outside purchase price is less than these avoidable costs, then the decision should be to buy them externally.

For Example, Consider the scenario

ABC company manufactures 5000 mountain bikes each year.The cost of Manufacturing 1 unit is shown below.

The company can outsource unlimited quantities of mountain bikes from India at a a unit cost of $950.Because the relevant cost (500+300+250) $1050 is greater than $950, logical decison would be to outsource the production to Inida to remain competitive in the market. By outsourcing to India , Company can save $100 (1050-950) per bike.

2)Addition Factors like Oppurtunity costs and qualitative facors also need to be considered in some situation , when making differential analysis for make or buy decision.

Final Decision to outsource to an external supplier should consider certain qualitative factors like assurance of product quality, supplier dependability etc to ensure the following

• Suppliers reputation for quality and dependability

A supplier should be expected to ensure on time delivery, acceptable quality so as the company can meet and maintain its customer preferences.

• Company's Strategy

A company must be cautious not to liberate its core competencies to outsiders . Core competencies are backbone of company strategies. Hence it should be careful enough not to relinquish its control to the outside supliers.

• Intellectual Property Rights

Some countries may not respect Inteellectual Property rights and comapanies must determine if they are willing to risk exposing it to misappropriation.