Han Products manufactures 27,000 units of part S-6 each year for use on its production line. At this level of activity, the cost per unit for part S-6 is:

Direct materials $3.50

Direct labor 10.00

Variable manufacturing overhead 2.50

Fixed manufacturing overhead 12.00

Total cost per part $28.00

An outside supplier has offered to sell 27,000 units of part S-6 each year to Han Products for $22 per part. If Han Products accepts this offer, the facilities now being used to manufacture part S-6 could be rented to another company at an annual rental of $77,000. However, Han Products has determined that two-thirds of the fixed manufacturing overhead being applied to part S-6 would continue even if part S-6 were purchased from the outside supplier.

Required:

What is the financial advantage (disadvantage) of accepting the outside supplier's offer?

Question

Business

Aileen Ball

28 December, 11:35

Han Products manufactures 27,000 units of part S-6 each year for use on its production line. At this level of activity, the cost per unit for part S-6 is:

Direct materials $3.50

Direct labor 10.00

Variable manufacturing overhead 2.50

Fixed manufacturing overhead 12.00

Total cost per part $28.00

An outside supplier has offered to sell 27,000 units of part S-6 each year to Han Products for $22 per part. If Han Products accepts this offer, the facilities now being used to manufacture part S-6 could be rented to another company at an annual rental of $77,000. However, Han Products has determined that two-thirds of the fixed manufacturing overhead being applied to part S-6 would continue even if part S-6 were purchased from the outside supplier.

Required:

What is the financial advantage (disadvantage) of accepting the outside supplier's offer?

+2

Answers (1)

Know the Answer?

Reynaldo Chang · Answer 1

Financial advantage of accepting the outside supplier's offer = $23,000

Explanation:

The relevant cash flow from the accepting the offer of the outside suppliers include

Extra variable cost of buying

Savings in direct fixed manufacturing overhead

Gains from annual rental income from facility

Unit variable cost of making: 3.5 + 10 + 2.50 = $16

Direct fixed manufacturing overhead (1/3 * 12 * 27,000) = 108,000.00

$

Variable cost of external purchase (22 * 27,000) 594000

Variable cost of making (16 * 27,000) (432000)

Extra variable cost of buying (162000)

Savings in manufacturing cost 108,000

Revenue from rental charge 77,000

Net financial advantage from buying 23000

Financial advantage of accepting the outside supplier's offer = $23,000