MSI is considering outsourcing the production of the handheld control module use

Question

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 11,000 units of the module per year for $17.00 each. The following information pertains to MSI’s production of the control modules: Direct materials $ 8 Direct labor 4 Variable manufacturing overhead 4 Fixed manufacturing overhead 8 Total cost per unit $ 24 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? Make Buy 3-a. Suppose that the MSI space currently used for the modules could be utilized by a new product line that would generate $41,000 in annual profit. Recompute the difference in cost between making and buying under this scenario. 3-b. Does this change your recommendation to MSI? Yes No

Explanation / Answer

Req 1: Cost of buying the modules (11000 units@17) 187000 Cost of manufacturing the module: Direct material(11000 units@8) 88000 Labour(11000 units@4) 44000 Variable overheads(11000 units@4) 44000 Total cost 176000 Note: Fixed cost is irrelevant cost as it is incurred for both the options Req 2: Hence, MSI should continue to make them. Req 3: When, idle capacity is utilized for earning $41,000, then, Revised cost of buying the Module: Cost of buying the module 187,000 Less: Annual profits earned from idle capacity 41000 Net cost incurred incurred in buying 146000 And, Cost to make the module(as computed above) 176000 In such situation, MSI should buy the module from outside supplier.

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