Teloxy Engineering has received a onetime contract
to design and build 10,000 units of a new product. During the proposal process,
management felt that the new product could be designed and manufactured at a
low cost. One of the ingredients
necessary to build the product was a small component that could be purchased
for $60 in the marketplace, including quantity discounts. Accordingly, management budgeted $650,000 for
the purchasing and handling of $10,000 components plus scrap.
During the design phase, your engineering team
informs you that the final design will require a somewhat higher-grade
component that sells for $72 with quantity discounts. The new price is substantially higher than
you had budgeted for. This will create a
You meet with your manufacturing team to see if they
can manufacture the component at a cheaper price than buying it from the
outside. Your manufacturing team informs
you that they can produce a maximum of 10,000 units, just enough to fulfill
your contract. The set up cost will be
$100,000 and the raw material cost is $40 per component. Since Teloxy has never manufactured this
product before, manufacturing expects the following defects:
% defective 0 10 20 30 40
Probability of 10 20 30 25 15
All defective parts must be removed and repaired at
a cost of $120 per part.
value, it is economically better to make or buy the component?
thinking, why might management opt for other than the most economical choice?