Question

The Ace Bicycle Company produces bicycles. This year’s expected production is 10,000 units. Currently Ace makes the chains for its bicycles. Ace’s accountant reports the following costs for making the 10,000 bicycle chains.

Description	Costs per units	Costs for 10,000 units
Direct materials	$4.00	$ 40,000
Direct labor	$2.00	$ 20,000
Variable manufacturing overhead	$1.50	$15,000
Inspection, setup, material handling		$ 2,000
Machine rent		$3,000
Allocated fixed costs of taxes and insurance		$ 30,000
Total		$110,000

Ace has received an offer from an outside vendor to supply any number of chains Ace requires at $9 per chain. The following additional information is available:

• Inspection, setup, and materials handling costs vary with the number of batches in which the chains are produced. Ace produces chains in batch sizes of 1,000 units. Ace estimates that it will produce the 10,000 units in ten batches.
• Ace rents the machine used to make the chains. If Ace buys all its chains from the outside vendor, it does not need to pay rent on this machine.

Assume that if Ace purchases the chains from the outside supplier, the facility where the chains are currently made will remain idle. What is per unit cost if ACE accept the offer at the anticipated production (and sales) volume of 10,000 units?

a) 11

b) 10

c) none of these

d) 12

Answer 1

Relevant costs under buy alternative:

Purchases, 10,000 * $9.0 = $90,000

Relevant costs under make alternative:

Direct materials $40,000

Direct manufacturing labour 20,000

Variable manufacturing overhead 15,000

Inspection, setup, materials handling 2,000

Machine rent 3,000

Total relevant costs under make alternative $80,000

The allocated fixed plant administration and insurance will not change whether Ace makes or buys the chains. Hence these costs are irrelevant to the make/buy decision.

The analysis indicates that Ace should not buy the chains from the outside supplier.

What is per unit cost if ACE accept the offer at the anticipated production (and sales) volume of 10,000 units?

Answer : $ 9 per chain ( as given in the problem ).

Therefore, option " c " is correct. ( None of the above ).