Winston Company manufactured 5,000 units of a component part that is used in its

Question

Winston Company manufactured 5,000 units of a component part that is used in its product and incurred the following costs: Direct materials $35,000 Direct labor 25,000 Variable manufacturing overhead 20,000 Fixed manufacturing overhead 18,000 $98,000 Another company has offered to sell the same component part to the company for $17.50 per unit. The fixed manufacturing overhead consists mainly of depreciation on the equipment used to manufacture the part and would not be reduced if the component part was purchased from the outside firm. If the component part is purchased from the outside firm, Winston Company has the opportunity to use the factory equipment to produce another product which is estimated to have a contribution margin of $19,000.

Prepare an incremental analysis report for Winston Company which can serve as informational input into this make or buy decision.

Explanation / Answer

Income is expected to increase by $11,500 if the component part is purchased from the outsidefirm and the new product is manufactured.

Particulars Make Buy Increase/(Decrease) Direct materials $35,000 0 $35,000 Direct labor $25,000 0 $25,000 Variable manufacturing overhead $20,000 0 $20,000 Fixed manufacturing overhead $18,000 $18,000 0 Purchase price (5,000 × $17.50) 0 $87,500 ($87,500) Total annual cost $98,000 $105,500 ($7,500) Opportunity cost $19,000 0 $19,000 Total cost $117,000 $105,500 $11,500

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