Question

Part R-3 is used in one of Pries Corporation's products. The company makes 10,000 units of this part each year with a unit variable cost of $50 and a unit fixed cost of $20. An outside supplier has offered to provide the annual requirement of the part R-3 for only $60 each. The company estimates that 30% of the fixed costs above will continue if the parts are purchased from the outside supplier.

When deciding whether to make or buy the component, what cost of making the part R-3 should be compared to the price of buying the component?

Select one:

a. $600,000

b. $560,000

c. $640,000

d. $500,000

Answer 1

While deciding whether to purchase or make the product only those cost are to be considered which will reduce or Increase in case of any of the option is considered. In other words fixed cost should not be considered while taking the decision.

Also if any percentage of the fixed cost will reduce if the product is bought instead of make then that cost is to be taken into consideration as it will considered as opportunity cost

Therefore in this case cost of making to be considered will be

= Variable cost = $50

Fixed cost that will reduce = 20*70% (As 30% of it will be continue even if the parts are purchased.)

= $14

Total cost per unit

= $64

Units produced = 10,000 units

Total cost

= 10,000*64

= $640,000

Therefore the correct option is C

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