Question

Problem 7-2A a-c (Video)

The management of Shatner Manufacturing Company is trying to decide whether to continue manufacturing a part or to buy it from an outside supplier. The part, called CISCO, is a component of the company’s finished product.

The following information was collected from the accounting records and production data for the year ending December 31, 2020.

1. 7,900 units of CISCO were produced in the Machining Department.
2. Variable manufacturing costs applicable to the production of each CISCO unit were:
    direct materials $5.11, direct labor $4.48, indirect labor $0.48, utilities $0.39.
3. Fixed manufacturing costs applicable to the production of CISCO were:

Cost Item		Direct		Allocated
Depreciation		$2,000		$900
Property taxes		540		330
Insurance		940		560
		$3,480		$1,790

All variable manufacturing and direct fixed costs will be eliminated if CISCO is purchased. Allocated costs will not be eliminated if CISCO is purchased. So if CISCO is purchased, the fixed manufacturing costs allocated to CISCO will have to be absorbed by other production departments.

4. The lowest quotation for 7,900 CISCO units from a supplier is $83,151.
5. If CISCO units are purchased, freight and inspection costs would be $0.37 per unit, and receiving costs totaling $1,280 per year would be incurred by the Machining Department.

(a) Prepare an incremental analysis for CISCO. (Enter negative amounts using either a negative sign preceding the number e.g. -45 or parentheses e.g. (45).)

		Make CISCO		Buy CISCO		Net Income Increase (Decrease)
Direct material		$		$		$
Direct labor
Indirect labor
Utilities
Depreciation
Property taxes
Insurance
Purchase price
Freight and inspection
Receiving costs
Total annual cost		$		$		$

(b) Based on your analysis, what decision should management make?

The company should buy CISCOmake CISCO .

(c) Would the decision be different if Shatner Company has the opportunity to produce $3,000 of net income with the facilities currently being used to manufacture CISCO?

YesNo

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Answer 1

Solution:

a)

Statement showing Incremental Analysis
	Make	Buy	Net income increase/ (Decrease)
Direct material (7,900 *5.11)	$40,369		$40,369
Direct labor (7,900*4.48)	$35,392		$35,392
Indirect labor (7,900*0.48)	$3,792		$3,792
Utilities (7,900*0.39)	$3,081		$3,081
Depreciation	$2,900	$900	$2,000
Property taxes	$870	$330	$540
Insurance	$1,500	$560	$940
Purchase price	$0	$83,151	($83,151)
Freight and inspection (7,900*0.37)	$0	$2,923	($2,923)
Receiving costs	$0	$1,280	($1,280)
Total annual cost	$87,904	$89,144	($1,240)

b)

As per above incremental analysis, it's advisable to continue to make

Make CISCO since cost is lower by $1,240

c)

Yes

Loss in buying CISCO	($1,240)
Additional income (opportunity)	$3,000
Net advantage	$1,760

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