Make or Buy Decision with Limited Capacity Standard costs and other data for two

Question

Make or Buy Decision with Limited Capacity Standard costs and other data for two component parts used by Griffon Electronics are presented below: 13-24 Part B5 $ 8.00 4.70 2.00 14.70 8,000 Part A4 Direct material Direct labor100 Factory overhead Unit standard cost $5.40 Units needed per year .. Machine hours per unit Unit cost if purchased. $.00 $0.40 4.00 6,000 15.00 In past years, Griffon has manufactured all of its required components; however, in 20XI only 30,000 hours of otherwise idle mhetme can be devoted to the produc tion of components. Accordingly, some of the parts must be purchased from outside suppliers. In producing parts, factory overhead is applied at $1.00 per standard ma chine hour. Fixed capacity costs, which will not be affected by any make-buy decision, represent 60%of the applied overhead. The 30,000 hours of available machine time are to be utilized such that Griffon realizes maximum potential cost savings on Products A4 and B5. ic- Required (a) What are the relevant unit costs for making this decision? (b) H ow should machine time be allocated to the products? (AICPA adapted)

Explanation / Answer

a) The relevant costs are the variable costs per unit: Part A4 Part B5 Direct material 0.40 8.00 Direct labor 1.00 4.70 Variable factory overhead 1.60 0.80 Variable cost per unit 3.00 13.50 b) Unit costs if purchased 5.00 15.00 c) Cost saved per unit if made inhouse 2.00 1.50 d) Machine hours required per unit 4.00 2.00 e) Costs saved per machine hour if made inhouse 0.50 0.75 f) As the costs saved per machine hour is more for B, it should be produced to the maximum requirement. Accordingly 8000 units of B5 should be produced utilizing 8000*2 = 16000 machine hours. The balance 14000 hours (30000-16000) should be used for A4 to produce 14000/4 = 3500 units. Hence, the allocation of machine hours would be: A4 - 14000 hours to produce 3500 units B5 - 16000 hours to produce 8000 units

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