Question
Han Products manufactures 30,000 units of part S-6 each year for use on its production line. At this level of activity, the cost per unit for part S-6 is as follows:
Direct materials
$ 3.60
Direct labor
10.00
Variable manufacturing overhead
2.40
Fixed manufacturing overhead
9.00
Total cost per part
$25.00
An outside supplier has offered to sell 30,000 units of part S-6 each year to Han Products for $21 per part. If Han Products accepts this offer, the facilities now being used to manufacture part S-6 could be rented to another company at an annual rental of $80,000. However, Han Products has determined that two-thirds of the fixed manufacturing overhead being applied to part S-6 would continue even if part S-6 were purchased from the outside supplier. Prepare computations showing how much profits will increase or decrease if the outside supplier’s offer is accepted.
Direct materials
$ 3.60
Direct labor
10.00
Variable manufacturing overhead
2.40
Fixed manufacturing overhead
9.00
Total cost per part
$25.00
An outside supplier has offered to sell 30,000 units of part S-6 each year to Han Products for $21 per part. If Han Products accepts this offer, the facilities now being used to manufacture part S-6 could be rented to another company at an annual rental of $80,000. However, Han Products has determined that two-thirds of the fixed manufacturing overhead being applied to part S-6 would continue even if part S-6 were purchased from the outside supplier. Prepare computations showing how much profits will increase or decrease if the outside supplier’s offer is accepted.
Answers
Bot
If Han Products accepts the offer from the outside supplier, the profits will increase by $90,000. This is calculated as follows:
Current cost of producing 30,000 units of part S-6:
Direct materials: $108,000
Direct labor: $300,000
Variable manufacturing overhead: $72,000
Fixed manufacturing overhead: $270,000
Total cost: $750,000
Cost of purchasing 30,000 units of part S-6 from outside supplier:
Cost of purchasing: $630,000
Savings from purchasing from outside supplier:
Savings: $120,000
Fixed manufacturing overhead that will continue even if part S-6 is purchased from outside supplier:
Fixed manufacturing overhead: $180,000
Net savings from purchasing from outside supplier:
Net savings: $90,000
Increase in profits from purchasing from outside supplier:
Increase in profits: $90,000
Current cost of producing 30,000 units of part S-6:
Direct materials: $108,000
Direct labor: $300,000
Variable manufacturing overhead: $72,000
Fixed manufacturing overhead: $270,000
Total cost: $750,000
Cost of purchasing 30,000 units of part S-6 from outside supplier:
Cost of purchasing: $630,000
Savings from purchasing from outside supplier:
Savings: $120,000
Fixed manufacturing overhead that will continue even if part S-6 is purchased from outside supplier:
Fixed manufacturing overhead: $180,000
Net savings from purchasing from outside supplier:
Net savings: $90,000
Increase in profits from purchasing from outside supplier:
Increase in profits: $90,000