Question

X Company currently makes a part and is considering buying it from a company that has offered to supply it for $20.05 per unit. This year, per-unit production costs to produce 16,000 units were:

Direct materials   $8.40

Direct labor 6.30

Overhead   6.10

Total   $20.80

$38,400 of the total overhead costs were fixed. $15,744 of the fixed overhead costs are unavoidable if X Company buys the part. If the company buys the part, the resources that are used to make it cannot be used for anything else. Production next year is expected to be 16,800 units.

If X Company continues to make the part instead of buying it, it will save ...

Answer 1

Total overhead cost = 16,000 * $6.10 = $97,600

Variable overhead per unit = $97,600 - 38,400 / 16,000 = $3.7 per unit

	Make decision	Buy decision	Net effect
Direct material	$141,120 (16,800*$8.40)		$(141,120)
Direct labor	105,840 (16,800*$6.30)		(105,840)
Variable overhead	62,160 (16,800*$3.7)		(62,160)
Avoidable fixed cost (38,400-15,744)	22,656		(22,656)
Purchase price		$336,840 (16,800*$20.05)	336,840
Total	$331,776	$336,840	$5,064

Savings in income if company continues to make part instead of buying it is $5,064