Question

Soca Engineering Company manufactures a range of products. Shown below are the budgeted total unit cost for one of the components and one of the products manufactured by the company.

	Component ABC per unit			Product XYZ per unit
	$			$
Direct materials	180			480
Direct labour	160			440
Variable overhead	80			220
Fixed overhead	220			600
Component ABC				640
Total	640			2380

Component ABC is incorporated into product XYZ manufactured and sold by the company. It is possible to purchase component ABC for $525 per unit from another company. The anticipated selling price of product XYZ per unit is $2750.

Fixed Overhead:

• Soca Engineering Company will incur $125 per unit whether it purchases or manufactures component ABC.
• The company could avoid spending $280 per unit if product XYZ was NOT produced.

Advise the management of the company whether it would be profitable to

1. make or buy component ABC                                                                        [6 marks]

2. accept a special offer of $1750 per unit from an outside company for product XYZ.

Provide a justification for your answer.                                                         [9 marks]

Answer 1

	Component ABC total Cost	640
	LESS:Unavoidable Fixed Cost	125
	Avoidable Cost	515
	Buy Price of Component	525
i	AS buy price is higher than avoidable cost so company should make component
	Product XYZ total cost	2380
	LESS:Unavoidable Fixed Cost	445
	(320+125)
	Avoidable Cost	1935
	Offer price	1750
ii	AS offer price is lesser than avoidable cost so company should accept offer.