X Company currently makes a part and is considering buying it from a company has

Question

X Company currently makes a part and is considering buying it from a company has offered to supply it for $18.18 per unit. This year, per-unit production costs to produce 52,000 units were:

$197,600 of the total overhead costs were variable; $16,744 of the fixed overhead costs can be avoided if X Company buys the part. In addition, the resources that were used for production can be rented to another company for $75,000. Production next year is expected to increase to 56,250 units.

3. If X Company continues to make the part instead of buying it, it will save

4. X Company is uncertain about next year's production level. At what production level will the company be indifferent between making and buying the part?

Explanation / Answer

Cost when purchased = 18.18

Production in the next year = 56,250

Relavent costs = Variable costs + Avoidable fixed costs + Additional fixed costs

Variable overhead costs per unit = 197,600 / 52,000 = 3.8

Variable costs = Direct materials + Direct labour + Variable overhead costs

= (6.7 * 56,250) + (5.7 * 56,250) + (3.8 * 56,250)

= 376,875 + 320,625 + 213,750

= 911,250.

Avoidable fixed costs = 16,744

Additional fixed costs = 75,000

Total relavent costs = 911,250 + 16,744 + 75,000 = 1,002,994

Relavent cost per unit = 1,002,994 / 56,250 = 17.83

3.

Savings = (18.18 - 17.83) * 56,250 = 19,687.5

4.

(Total relavent costs * No of units) = (Purchase cost * No of units)

[(Direct materials + Direct labour + Variable overhead) * No of units] + avoidable fixed costs + additional fixed costs = (Purchase cost * No of units)

[(6.7 + 5.7 + 3.8) *  No of units] + 16,744 + 75,000 =  (No of units * 18.18)

(16.2 *  No of units) + 91,744 =  (No of units * 18.18)

91,744 = (1.98 *  No of units)

No of units = 46,355.   

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