Question

Riggs Company purchases sails and produces sailboats. It currently produces 1,280 sailboats per year, operating at normal capacity, which is about 80% of full capacity. Riggs purchases sails at $255 each, but the company is considering using the excess capacity to manufacture the sails instead. The manufacturing cost per sail would be $96.98 for direct materials, $87.16 for direct labor, and $90 for overhead. The $90 overhead includes $78,100 of annual fixed overhead that is allocated using normal capacity.

The president of Riggs has come to you for advice. “It would cost me $274.14 to make the sails,” she says, “but only $255 to buy them.

If Riggs suddenly finds an opportunity to rent out the unused capacity of its factory for $77,900 per year, would your answer to part (a) change?

Yes or No

. This is because the net income will

increase or decrease

by $ .

Answer 1

Solution:

Incremental Analysis
Particulars	Make	Buy	Net Income Increase (Decrease)
Direct Material	$96.98	$0.00	$96.98
Direct Labor	$87.16	$0.00	$87.16
Variable overhead ($90 - $78100/1280)	$28.98	$0.00	$28.98
Purchase Price	$0.00	$255.00	-$255.00
Total Unit Cost	$213.12	$255.00	-$41.88

excess cost of buying = $41.88*1280 = $53,600.80

Yes, This is because the net income will increase by 77900 - 53600.80 = $24,299.20