Question

Problem 5-63 Learning Curves (Appendix B) (LO 5-9)

Krylon Company purchases eight special tools annually from CO., Inc. The price of these tools has increased each year, reaching $100,000 per unit last year. Because the purchase price has increased significantly, Krylon management has asked for a cost estimate to produce the tools in its own facilities.

A team of employees from the engineering, manufacturing, and accounting departments has prepared a report for management that includes the following estimate to produce the first unit. Additional production employees will be hired to manufacture the tools. However, no additional equipment or space will be needed.

The report states that total incremental costs for the first unit are estimated to be $120,000, as shown here.

Materials	$	40,000
Direct labor, consisting entirely of hourly production workers (varies with production volume)		80,000

Overhead and administrative costs are not affected by producing this tool.

The current purchase price is $100,000 per unit, so the report recommends that Krylon continue to purchase the product from CO., Inc.

Required:

a. Complete the table below to determine the average cost of a tool for the production of 1 to 8 units. Assume that Krylon could experience labor-cost improvements on the tool production consistent with an 80 percent learning curve. (Note that the 80 percent learning rate coefficient is ?0.3219.) (Do not round intermediate calculations. Round your final answers to 2 decimal places.)

b. Should Krylon produce or purchase its annual requirement of eight tools?

	Krylon should produce the tool itself.
	Krylon should purchase the tool.

Answer 1

With 80% learning Curve, average cost will be $80000 ($100000*80% learning curve) for first product.

When 2 product is produced, the average cost (hours consumed) shall be 80% of $80000 = $64000/ unit. The cumulative cost for 2 product will only be 2 x 64000 = 128000

When 4 product is produced, the average cost (hours consumed) shall be 80% of $64000 = $51200/ unit. The cumulative cost for 4 product will only be 4 x 51200 = 204800

when 8th product is produced (doubled from 4) the average cost (hours consumed) shall be 80% of $51,200 = $40960/ unit. The cumulative cost will only be 8 x $40960 = $327,680.

The total cost for 8 products shall then be = Direct Material + Direct LAbour

                                                          = 8unit x $40000 + $327,680 = $647,680

Average cost at $80,960 ($647680/8unit).