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How much of the unit product cost of $56.70 is relevant in the decision of whether to make or buy the part?

05 / 03 / 2018 Assignment

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Arnold Company makes 20,000 units per year of a part it uses in the products it manufactures. The unit product cost of this part is computed as follows:

Direct materials……………… $24.70

Direct labor…………………. 16.30

Variable manufacturing overhead… 2.30

Fixed manufacturing overhead…… 13.40

Unit product cost………….. $56.70

An outside supplier has offered to sell the company all of these parts it needs at $51.80 a unit. If No-Win accepts this offer, the facilities now being used to make the part could be leased to another company. The incremental contribution margin from leasing the space would be $44,000 per year.

If the part were purchased from the outside supplier, all of the variable costs of the part would be avoided. However, $5.10 of the fixed manufacturing overhead cost being applied to the part would continue even if the part were purchased from the outside supplier. This fixed manufacturing overhead cost ($5.10) would be applied to the company’s remaining products. Ignore income taxes and the time value of money in this problem.

Questions:

1. How much of the unit product cost of $56.70 is relevant in the decision of whether to make or buy the part?

2. What is the net total dollar advantage (disadvantage) of purchasing the part ratherthan making it?

3. What is the maximum amount the company should be willing to pay an outside supplier per unit for the part if the supplier commits to supplying all 20,000 units required each year? They will still lease the facility if they purchase from an outside supplier.


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