Question

Han Products manufactures 28,000 units of part S-6 each year for use on its production line. At this level of activity, the cost per unit for part S-6 is:

    

Direct materials	$	4.10
Direct labor		6.00
Variable manufacturing overhead		2.40
Fixed manufacturing overhead		15.00
Total cost per part	$	27.50

   

An outside supplier has offered to sell 28,000 units of part S-6 each year to Han Products for $44.50 per part. If Han Products accepts this offer, the facilities now being used to manufacture part S-6 could be rented to another company at an annual rental of $747,000. However, Han Products has determined that two-thirds of the fixed manufacturing overhead being applied to part S-6 would continue even if part S-6 were purchased from the outside supplier.

    

Required:

a.	Calculate the per unit and total relevant cost for buying and making the product? (Round your Per Unit answers to 2 decimal places.)

        

b.	How much will profits increase or decrease if the outside supplier’s offer is accepted?

    

      

References

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Answer 1

	Per unit Differential cost		28,000 Units
	Make	Buy	Make	Buy
Cost of purchasing		$ 44.50		28,000*$44.50 = $1,246,000
Cost of making
Direct Material	$    4.10		28,000*$4.10 = $114,800
Direct Labour	$    6.00		28,000*6 = $168,000
Variable overhead	$    2.40		28,000*2.40 = $67,200
Fixed overhead	$ 15.00		28,000*15 = $420,000	$420,000*2/3 = $280,000
Total Cost	$ 27.50	$ 44.50	$                                 770,000	$                                    1,526,000

b.

	Make	Buy
Total cost	$ 770,000	$ 1,526,000
Less: Opportunity cost (rental income)		$   (747,000)
Net cost	$ 770,000	$     779,000

if company accepted outside supplier offer, net profit will decrease by 9,000 ($779,000-$770,000)