Question

Oxford Engineering manufactures small engines. The engines are sold to manufacturers who install them in such products as lawn mowers. The company currently manufactures all the parts used in these engines but is considering a proposal from an external supplier to supply the starter assembly used in these engines.

The starter assembly is currently manufactured in Division 3 of Oxford Engineering. Last year, Division 3 manufactured 148,000 starter assemblies, but over the next several years, it is expected that 171,000 assemblies will be needed each year. Total costs related to the starter assembly for last year were as follows:

Direct material	$293,040
Direct labor	$216,080
Total overhead	$740,000
Total	$1,249,120

Further analysis of overhead revealed the following information:

• $407,000 of total overhead was fixed.
• $125,000 of the fixed overhead were allocated costs that will continue even if the production of the starter assembly is discontinued.

Tidnish Electronics, a reliable supplier, has offered to supply starter assembly units at $5.80 per unit. If the company buys the assembly from Tidnish, sales of another product can be increased, resulting in additional contribution margin of $36,000.

REQUIRED

By how much will Oxford Engineering's total profits change if they decide to buy the starter assembly from Tidnish Electronics instead of making it themselves?   (Note: if the buy costs are less than the make costs, enter the difference as a positive number; if the buy costs are more than the make costs, enter the difference as a negative number.)

Answer 1

			Positive/ (negative)
Particulars	Buy	Make	Effect of buying
Purchase price	$                5.80		$             (5.80)
Direct materials	$                     -	$              1.98	$              1.98
Direct labor	$                     -	$              1.46	$              1.46
Variable OH	$                     -	$              2.25	$              2.25
Variable cost per unit	$                5.80	$              5.69	$             (0.11)
× number of units	$    171,000.00	$ 171,000.00	$ 171,000.00
Total variable costs	$          991,800	$        972,990	$        (18,810)
Add: fixed costs
Traceble fixed costs	$                     -	$        282,000	$        282,000
Allocated fixed costs	$          125,000	$        125,000	$                   -
Less: incremental contribution	$           (36,000)	$                   -	$          36,000
Total costs	$       1,080,800	$    1,379,990	$        299,190

Buying will increase overall profit of the firm by $299,190

Better to buy from outside.

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