Mickleson Company produces a part that is used in the manufacture of one of its products.The costs associated with the production of 5,000 units of this part are as follows: $\begin{array}{lr}
\text { Direct materials } & \$ 108,000 \
\text { Direct labor } & 156,000 \
\text { Variable factory overhead } & 72,000 \
\text { Fixed factory overhead } & 168,000 \
\text { Total costs } & \$ 504,000
\end{array}$ Of the fixed factory overhead costs, $72,000 is avoidable.Assume that Mickleson Company can buy 5,000 units of the part from another producer for $100.80 each.The current facilities could be used to make 5,000 units of a product that has a contribution margin of $24 per unit.Fixed factory overhead costs to produce this new product would be the same as for the currently produced part.Mickleson Company should _____.
A)continue to make the part and earn an extra $48,000 in profit
B)buy the part, produce the new product, and earn an extra $4.80 per unit contribution to profit
C)continue to make the part and earn an extra $4.80 per unit contribution to profit
D)buy the part, produce the new product, and earn an extra $24 per unit contribution to profit

Question

Quizplus · Accepted Answer

The cost to buy the part externally is $100.80 per unit for 5,000 units, totaling $504,000. By ceasing internal production, Mickleson can avoid $72,000 of fixed costs, making the effective cost of internal production $432,000 ($504,000 total cost - $72,000 avoidable fixed costs). The difference between the external purchase cost ($504,000) and the adjusted internal production cost ($432,000) is $72,000. When divided by 5,000 units, this results in a savings of $14.40 per unit by continuing to produce internally. However, by using the facilities for the new product with a $24 contribution margin, minus the $14.40 savings from not producing the part internally, the net benefit is $9.60 per unit. This calculation was incorrect in determining the choice; the correct approach is to compare the total costs of internal production (minus avoidable costs) with the cost of purchasing externally and the additional profit from the new product. The correct answer involves calculating the net benefit of buying the part and producing the new product, considering the avoidable costs and the contribution margin of the new product.

Mickleson Company Produces a Part That Is Used in the Manufacture