Question

Question 5: Kane Company is considering outsourcing a key component. A reliable supplier has quoted a price of $64.50 per unit. The following costs of the component when manufactured in-house are expressed on a per unit basis (assume Direct Labor is a variable cost):

            Direct Materials                       $23.40

            Direct Labor                16.10

            Variable Overhead      26.70

            Fixed Overhead $ 6.90

            Total costs                   $73.10

a) What assumptions need to be made about the behavior of overhead costs for Kane in order to analyze the outsourcing decision?

SAVING ITEMS	RELEVANT
Direct Materials Cost	=$
Direct labor Costs	=$
Variable overhead costs	=$
Fixed overhead costs	=$

ADDITIONAL COSTS	RELEVANT COSTS
Direct labor Costs	=$
Direct materials Costs	=$
Fixed Overhead Costs	=$
Variable overhead cost	=$

b) Should Kane Company outsource the component? ???

c) What other factors are relevant to this decision? ???

Answer 1

a	Possibility of avoiding fixed costs
b	If the variable costs (direct materials, direct labor, and variable overhead) are allavoidable, then Kane will certainly reduce costs by outsourcing the component.Fixed overhead costs may be unavoidable if the facility cannot be converted toalternative uses when the component is outsourced. However, even if the fixedoverhead costs are unavoidable, Kane would reduce costs by outsourcing. In thiscase, the cost savings per unit if the component is outsourced would be
	Purchase Price                                                     64.50
	Avoidable Cost(73.10 - 6.90)                          66.20
	Savings per unit                                                    1.70
c	Other factors relevant to the decision are the supplier’s ability to live up toexpected quality and delivery standards, and the likelihood of suppliers increasingprices of components in the near future.