A company begins the manufacture of a new product. The product will be sold to w

Question

A company begins the manufacture of a new product. The product will be sold to wholesalers and large drugstore chains in packages of 30 containers for $18 per package. Management allocates $200,000 of fixed manufacturing overhead costs. The manufacturing cost per package of 30 containers for expected production of 100,000 packages is as follows:
Direct material $6.50
Direct Labor $3.50
Overhead (fixed & variable) $3.00
Total $13.00
The company has contacted a number of packaging suppliers to determine whether it is better to buy or manufacture the spray containers. The lowest quote for the containers is $1.75 per 30 units. It is estimated that purchasing the containers from a supplier will save 10% of direct materials, 20% of direct labor and 15% of variable overhead. The manufacturing space is highly constrained, by purchasing the spray containers, the company will not have to lease additional manufacturing space that is estimated to cost $15,000 per year. If the containers are purchased, one supervisory position can be eliminated. Salary plus benefits for this position are $70,000 per year.
Required
Should the company make or buy the containers? What is the incremental cost (benefit) of buying the containers as opposed to making them?

Explanation / Answer

Saving to the company by purchase from supplier:- Material 0.65 Labor 0.70 Overhead 0.30 Total $1.65 Rent of the space saved $15,000 Supervisor salary saved $70,000 Total saving per year $85,000 Saving per Package = $0.85 Total saving = $1.65 + $0.85 = $2.50 Since the container is available at $1.75 which is much below than the total saving, the offer should be accepted, and container be purchased from the supplier.

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