Hello, I need some help please with this probem. Thank you! The Wellington Divis
ID: 2487355 • Letter: H
Question
Hello,
I need some help please with this probem. Thank you!
The Wellington Division of Sansuki Motor Corporation (SMC) manufactures sub-assemblies that are used in their final products. Lynn Hardt of the Wellington Division’s Profit Planning Department has been assigned the task of determining whether a component, JY-65, should continue to be manufactured by the Wellington Division or purchased from Marley Company, an outside supplier. JY-65 is part of a sub-assembly manufactured by the Wellington Division.
Marley Company has submitted a bid to manufacture and supply the 32,000 units of JY-65 that the Wellington Division will need for next year at a unit price of $17.30. Marley Company has assured SMC that the units will be delivered according to SMC’s production specifications and needs. While the contract price of $17.30 is only applicable to next year, Marley Company is interested in entering into a long-term arrangement.
Lynn Hardt has gathered the following information regarding the Wellington Division’s costs to manufacture JY-65 in the current year. These annual costs will be incurred to manufacture 30,000 units.
Direct material $195,000
Direct labour 120,000
Factory space rental 84,000
Equipment leasing costs 36,000
Other manufacturing overheads 225,000
Total manufacturing costs $660,000
Lynn Hardt has collected the following information relating to manufacturing JY-65:
Direct materials used in the production of JY-65 are expected to increase by 8% next year.
The Wellington Division’s direct-labour contract calls for a 5% increase next year.
The factory space used to manufacture JY-656 is rented under a month-to-month rental agreement. Thus the Wellington Division can withdraw from the rental agreement without any penalty. The Division has been informed there would be no rent increases for the next year. If JY-65 is not manufactured the Division will have no need for this space.
Equipment leasing costs represent special equipment that is used in the manufacture of JY-65. Such leasing costs stay same for the next two years. This lease can be terminated by paying the equivalent of one month’s lease payment for each year left on the lease agreement. Wellington has two years left on the lease agreement, from the beginning of next year.
40% of the other manufacturing overhead is considered variable. Variable overhead changes with the number of units produced, and this rate per unit is not expected to change next year. The fixed manufacturing overhead costs are not expected to change regardless of whether JY-65 is manufactured or not.
John Porter, the manager of the Wellington Division, stopped at the Lynn Hardt’s office to voice his concern regarding the outsourcing of JY-65. Porter commented:
I am really concerned about outsourcing JY-65. I have a son-in-law and a nephew, not to mention a member of our bowling team, who work on JY-65. They could lose their jobs if we buy that component from Marley. I really would appreciate anything you can do to make sure the cost analysis comes out right to show we could continue making JY-65. Corporate is not aware of the material increases and maybe you could leave out some of those fixed costs. I just think we could continue making JY-65!
Required:
i) Using an analysis of relevant costs calculate the cost of making JY-65 by the Wellington Division of SMC, and the cost of purchasing JY-65 from Marley Company next year. In your analysis show relevant costs of 32,000 units.
Alternatives
Make JY-65 ($) Buy JY-65 ($)
(a) Variable Costs
Q4 (ii) Based solely on financial results as per (i) above, recommend whether the 32,000 units of JY-65 for next year should be made by the Wellington Division or purchased from Marley Company. Explain why? In your answer quote the dollar values and cost savings.Explanation / Answer
Answer i. Make JY-65 - 32000 Units Cost Per Unit Total Cost Variable Costs Direct Material 7.02 224,640.00 Direct Labor 4.20 134,400.00 Other Manufacturing Ovehead 3.00 96,000.00 Fixed Costs Factory Space Rental 2.63 84,000.00 Equipment Leasing Cost 1.13 36,000.00 Total Cost to Make 17.97 575,040.00 Buy JY-65 - 32000 Units Bid Price - Marley 17.30 553,600.00 Equipment Lease Penalty 6,000.00 Total Cost to Purchase 559,600.00 Answer ii. Wellington should purchase the 32000 Units as it will increase its Net Operating Profit by $ 15440 (575040 - 559600) Answer iii. Variable Costs : Variable costs are those costs that vary depending on a company's production volume; they rise as production increases and fall as production decreases. In the above examples, Variable Costs are: 1. Direct Material 224,640.00 2. Direct Labor 134,400.00 3. Part of Other Manufacturing Overhead 96,000.00 Total Variable Costs 455,040.00 Relevant Cost: Relevant costs are decision specific, meaning that a relevant cost may be important in one situation but irrelevant in another. Examples of when management uses relevant costs can be seen when it is determining whether to sell or keep a business unit, make or buy an item, or accept a special order. In the above example Relevant Cost is all the cost to make or purchases the equipment is relevant costs Avoidable Costs: Avoidable cost refers to variable costs that can be avoided, unlike most fixed costs, which are typically unavoidable.While avoidable costs are often viewed as negative costs, they may be necessary to achieve certain goals or thresholds. Incremental Costs: An incremental cost is the increase in total costs resulting from an increase in production or other activity. Oppourtunity Costs: the loss of other alternatives when one alternative is chosen. Answer iv. The reasons are: 1. Lynn Hardtt is not concerned about the Company Loss or Profit, he is only concerned about his son-in-law and nephew, who will loose the job, if the company stops producing the Product JY-65. 2. Lynn wants to change in the figures of Fixed Overhead, so that company continue to manufacture the Product JY-65 and to misled the upper management for the same. 3. Lynn can also change some information in future for his personal gain and in future it will led the Company into Loss.
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