Teach inc. is considering whether to continue to make a component or to buy it f

Question

Teach inc. is considering whether to continue to make a component or to buy it from an outside supplier. The company uses 15,000 of the components each year. the unit product cost of the component according to the company's absorption cost accounting system is given as follows: Assume that direct labor is a variable cost. Of the fixed manufacturing overhead 10% is avoidable if the component were bought from the outside supplier; the remainder is not avoidable. in addition, making the component uses 3 minutes on the machine that is the company's current constraint, if the component were bought, time would be freed up for use on another product that requires 6 minutes on these machine and that has a contribution margin of $8.10 per unit. When deciding whether to make or buy the component, what cost of making the component should be compared to the price of buying the component? A.$15.55 per unit B.$11.50 per unit C.$19.15 per unit D.$15.10 per unit

Explanation / Answer

Calculation of Cost of making the component which should be compare to the buying price:

Particulars Amount Direct Materials                                                                         (Variable in nature)                                                                                           $                       7.90 Add: Direct Labour                                                                                   (Variable in nature)                                                                                           $                       2.10 Add: Variable Manufacturing Overheads                                                                                   (Variable in nature)                                                                                           $                       1.10 Add: Fixed Manufacturing Overhead     (As only 10% of the overhead is avoidable. So $.40 is relevant only.) $                       0.40 Add: Opportunity Costs ( by this product is not manufactured machine time can be freed up & can be use on another products) I.e ( 8.10 * 3/6 ) $                       4.05 Total $                     15.55

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