That old equipment for producing carburetors is worn out,\" said Bill Seebach, p

Question

That old equipment for producing carburetors is worn out," said Bill Seebach, president of Hondrich Company. "We need to make a decision quickly." The company is trying to decide whether it should rent new equipment and continue to make its carburetors internally or whether it should discontinue production of its carburetors and purchase them from an outside supplier. The alternatives follow: Alternative 1: Rent new equipment for producing the carburetors for $150,000 per year. Alternative 2: Purchase carburetors from an outside supplier for $17.80 each Hondrich Company's costs per unit of producing the carburetors internally (with the old equipment) are given below. These costs are based on a current activity level of 30,000 units per year: Direct materials Direct labour Variable overhead Fixed overhead ($2.50 supervision, $1.80 depreciation $ 4.90 10.00 1.20 and $4.00 general company overhead) 8.30 Total cost per unit $24.40 The new equipment would be more efficient and, according to the manufacturer, would reduce direct labour costs and variable overhead costs by 25%. Supervision cost ($75,000 per year) and direct materials cost per unit would not be affected by the new equipment. The new equipment's capacity would be 60,000 carburetors per year The total general company overhead would be unaffected by this decision Required: 1. Seebach is unsure what the company should do and would like an analysis showing the unit costs and total costs for each of the two alternatives given above. Assume that 30,000 carburetors are needed each year. a. What will be the total relevant cost of 30,000 subassemblies if they are manufactured internally as compared to being purchased? Total relevant cost (30.000 subassemblies

Explanation / Answer

Lets break the two situations seperately and see the cost

1. If rents and produce internally. One thing which shall be added to the cost is the rent paid for the machine. With 30,000 units produces and rent paid is $150,000 with per unit cost (assuming it to be 60,000) will be 2.5

Ans1. Now as per the estimates given for the new machine producing the carburators the cost per unit inclusive of the resnt is as follows:

Please note this is inclusive of the rent. If we exclude the rent the total cost will be  $ 589,200, and per unit cost will be $19.64. The fixed overhead does not include depriciation as it is rented The other expenses as a part of the fixed overhead are included. The variable overhead and direct labour is adjusted based on the information provided above.

Ans1b. The per unit cost with the inclusion of rent is $24.64 and $19.64 without the inclusion of rent.

Ans1c Based on only the expense it would be better to buy it at $17.80 each which would cost $ 534,000 to produe 30,000 units.

Ans2. Incasee of 50,000 units produced the expenses from the point of view of rented machine is as follows:

Please note the cost without rent is  $19.64 and total cost is $982,000.

b. The per unit will $22.64 with rent and $19.64 without the rent

c. when we compare the 50,000 being produced the total cost is $ 890,000

Type of cost Cost ($) Cost per unit ($) Rent 150000 5 Direct material 147000 4.9 Direct Labour 240000 8 Variable Overhead 7200 0.24 Fixed Overhead 195000 6.5 Total Cost 739200 24.64

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