Question

Problem 16-11 (Algo)

One of your Taiwanese suppliers has bid on a new line of molded plastic parts that is currently being assembled at your plant. The supplier has bid $0.10 per part, given a forecast you provided of 100,000 parts in year 1; 400,000 in year 2; and 600,000 in year 3. Shipping and handling of parts from the supplier’s factory is estimated at $0.01 per unit. Additional inventory handling charges should amount to $0.003 per unit. Finally, administrative costs are estimated at $30 per month.

Although your plant is able to continue producing the part, the plant would need to invest in another molding machine, which would cost $10,000. Direct materials can be purchased for $0.04 per unit. Direct labor is estimated at $0.03 per unit for wages plus a 50 percent surcharge for benefits and, indirect labor is estimated at $0.011 per unit plus 50 percent benefits. Up-front engineering and design costs will amount to $40,000. Finally, management has insisted that overhead be allocated if the parts are made in-house at a rate of 100 percent of direct labor wage costs. The firm uses a cost of capital of 15 percent per year.

a. Calculate the difference in NPVs between the Make and Buy options. Express all costs as positive values in your calculations. It is suggested to use the NPV function in Excel. (Do not round intermediate calculations. Round your answer to 2 decimal places.)

Answer 1

lets consolidate the various cost associated with Buy option

we got the Per unit variable cost and Fixed Cost p.a.

Lets see for Make option

The direct labour to include an surcharge of 50% of its cost   toward benefits .(0.03*50%=0.015). so total cost 0.045 (0.03+0.015) per unit

similar surcharge applicable for indirect labour . so total indirect labour cost is 0.011+ 0.0055 =0.01650 per unit

overhead is 100% of Direct labour cost . so OH = 0.045 ( assumed including surcharge)

Thus the total cost per unit for making is 0.14650 per unit

it also involves an initial cash outflow of 50000 in year 0 as mentioned above..

lets construct a cash flow table for each option to evaluate

the excel formulas are

npv formula in excel is used, rate is taken as 0.15 (15% cost of capital)

the difference between the NPV of Buy and Make option is $75,439.58