E7-6 Analyzing Make-or-Buy Decision [LO 7-2, 7-4] MSI is considering outsourcing

Question

E7-6 Analyzing Make-or-Buy Decision [LO 7-2, 7-4]

MSI is considering outsourcing the production of the handheld control module used with some of its products. The company has received a bid from Monte Legend Co. (MLC) to produce 10,000 units of the module per year for $16.00 each. The following information pertains to MSI’s production of the control modules:        

MSI has determined that it could eliminate all variable costs if the control modules were produced externally, but none of the fixed overhead is avoidable. At this time, MSI has no specific use in mind for the space that is currently dedicated to the control module production.

Required:
1. Compute the difference in cost between making and buying the control module.



2. Should MSI buy the modules from MLC or continue to make them?

3-a. Suppose that the MSI space currently used for the modules could be utilized by a new product line that would generate $36,000 in annual profit. Recompute the difference in cost between making and buying under this scenario.



3-b. Does this change your recommendation to MSI?

Direct materials $ 9 Direct labor 3 Variable manufacturing overhead 3 Fixed manufacturing overhead 7 Total cost per unit $ 22

Explanation / Answer

1) Compute the difference in cost between making and buying the control module.

Difference in cost = 150000-160000 = 10000

2) MSI should continue to make them.

3a) Compute the difference in cost between making and buying the control module.

Difference in cost = 186000-160000 = 26000

3b) Yes, MSI should buy the modules

Make Buy Direct material 90000 Direct labour 30000 Variable manufacturing cost 30000 Purchase cost 160000 Total 150000 160000

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