Johnson Corporation produces an executive jet for which it currently manufacture
ID: 2622356 • Letter: J
Question
Johnson Corporation produces an executive jet for which it currently manufactures a fuel valve; the cost of the valve is indicated below:
Cost per Unit
Variable costs
Direct material
$920
Direct labor
600
Variable overhead
300
Total variable costs
$1,800
Fixed costs
Depreciation of equipment
500
Depreciation of building
275
Supervisory salaries
300
Total fixed costs
1,000
Total cost
$2,800
The company has an offer from Spiffy Valves to produce the part for $2,000 per unit and supply 1,000 valves (the number needed in the coming year). If the company accepts this offer and shuts down production of valves, production workers and supervisors will be reassigned to other areas. The equipment cannot be used elsewhere in the company, and it has no market value. However, the space occupied by the production of the valve can be used by another production group that is currently leasing space for $55,000 per year. What is the incremental savings of buying valves?
Explanation / Answer
Incremental Savings = Decrease in per unit Total cost * 1000 + Lease revenue
= ( 2800 - 2000 ) * 1000 + 55000 = $855000
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