Eggers Company needs 30,000 units of a part to use in producing one of its produ

Question

Eggers Company needs 30,000 units of a part to use in producing one of its products. If Eggers buys the part from McMillan Company for $125 instead of making it, Eggers will not use the released facilities in another manufacturing activity. Forty percent of the fixed overhead will continue irrespective of CEO Donald Mickey’s decision. The cost data are

Eggers Company needs 30,000 units of a part to use in producing one of its products. If Eggers buys the part from McMillan Company for $125 instead of making it, Eggers will not use the released facilities in another manufacturing activity. Forty percent of the fixed overhead will continue irrespective of CEO Donald Mickey’s decision. The cost data are

Explanation / Answer

For producing, 30,000 parts, we can compare the perunit cost of production in-house Vs. per unit cost of the part if purchased from ouside. If purchased from outside, the per unit cost is given as $ 125.

The per unit cost of producing the parts in-house would be:

Direct Material Cost = $48

Direct Labor Cost = $ 21

Variable Overhead Cost = $ 29

Fixed Overhead Cost = $ 30 (40% of the total cost - as given in the question) = $ 12

Addign all these costs,

Per Unit Production Cost of parts, if produced in house is: $ 110 ( $48 + $21 + $29 + $12)

If produced in-house, the cost is: $ 110 while, if purchased, the per unit cost is $125 (as given in the question) So, its better to produce it in-house. Also, the other factors that needs to be considered are: if the the company is purchasing it from outside than the facility which is left unused will not be used anywhere else (as given in the question) & if that is the case, then this facility remains unused & is an extra cost to the company as the machinery is kept idle.

Other nonfinancial factors that needs to be considered before making decision are: reliability and quality of the parts that were produced in-house versus the supplier's product, the result of price negotiation with the supplier, leakage of design when outsourced and many more such factors would play a role in decision making.

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