Question

To make an item inhouse, equipement costing $245,000 must be purchased. It will have a life of 4 years, an annual cost of $70,000, and each unit will cost $55 to manufacture. Buying the item externally will cost $100 per unit. At i = 15% per year, it is cheaper to make the item inhouse if the number produced per year is above ___________ units.

Answer 1

Solution: -

N. P. V of Equipment = $245,000

Annual Cost = $70,000

N. P. V of all cost = $245,000 + 70,000 [1/1.15 + 1/1.15^2 + 1/1.15^3 + 1/1.15^4]

                               = $245,000 + 70,000 [0.869 + 0.7561 + 0.657 + 0.5717]

                               = $245,000 + 70,000 [2.8538]

                               = $245,000 + 1,99,766

                               = $4,44,766

Thus EUAC = NPV i(1+i) ^n / (1+i) ^n - 1

                     = $4,44,766 * 0.35026535

                     = 1,55,786.12

There must be profit of 1,55,786.12 per year

Profit 1 unit is produced in house = 100 - 55 = 45

No of units produced = 1,55,786.12 / 45

                                       = 3,461.91 units