SkyStar company uses a special machine to manufacture streetlights. It currently

Question

SkyStar company uses a special machine to manufacture streetlights. It currently produces 400 streetlights per month at a total cost of $66,000. Forward Inc., has been pressuring SkyStar Company to purchase as many streetlights as it needs from Forward at a cost of $158 per light.

Requirement: What is the average total cost of manufacturing a streetlight? How does it compare to the cost of purchasing the lights from Forward? Can SkyStar use the average cost of manufacturing to determine the cost of manufacturing 500 streetlights?

Explanation / Answer

Average cost of manufactuing streetlight = total cost / number of streetlights produced

= 66000 / 400

= $165

The cost of purchasing the streetlight from Forward Inc is $158 which is less than the cost of manufacturing by $7. It is beneficial to purchase the strrtlight from Forward rather than produce it.

No SkyStar cannot use the average cost of manufacturing to determine the cost of 500 streetlights becuase fixed costs per streetlight will be the same and hence with increase in the number of strrtlights the fixed costs will decrease which is incorrect. The company will need separate data of variable and fixed costs. The fixed costs remain constant for any number produced whereas the variable costs vary with the number of products.

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