Question

Great Products Company currently outsources a relay switch that is a component in one of its products. The switches cost $40 each. The company is considering making the switches internally at the following projected annual production costs:

Unit-level material cost	$8
Unit-level labor cost	$7
Unit-level overhead	$6
Batch-level set-up cost (4,000 units per batch)	$30,000
Product-level supervisory salaries	$40,000
Allocated facility-level costs	$25,000

  
The company expects an annual need for 4,000 switches. If the company makes the product, it will have to utilize factory space currently being leased to another company for $2,000 a month. If the company decides to make the parts, total costs will be which choice below:?

• $25,000 less than if the switches are purchased.

• $43,000 more than if the switches are purchased.

• $22,000 less than if the switches are purchased.

• $18,000 more than if the switches are purchased.

Answer 1

Cost of making parts

Unit-level material cost (4,000 x 8)	32,000
Unit-level labor cost (4,000 x 7)	28,000
Unit-level overhead (4,000 x 6)	24,000
Batch-level set-up cost	30,000
Product-level supervisory salaries	40,000
Allocated facility-level costs	25,000
Opportunity cost (2,000 x 12)	24,000
Total cost of making	$203,000

Cost of buying = Outside supplier's price + Allocated facility level cost

= (4,000 x 40) + 25,000

= $185,000

Thus, if the company decides to make the parts, total cost will be $18,000 (203,000 - 185,000) more than if the switches are purchased.

Fourth option is the correct option.