Kaiman Company currently produces a key part at a total cost of $210,000.Annual variable costs are $170,000.Of the annual fixed costs,$10,000 relate specifically to this part.The remaining fixed costs are unavoidable.
Another manufacturer has offered to supply the part annually for $200,000.The facilities currently used to manufacture the part could be used to manufacture a new product with an expected contribution margin of $30,000 per year.Alternatively,the facilities could be rented out at $60,000 per year.Given all of these alternatives,what is Kaiman Company's lowest net relevant cost for the parts?
A) $130,000
B) $140,000
C) $170,000
D) $180,000

Question

Quizplus · Accepted Answer

The relevant costs for Kaiman Company are the variable costs and the specific fixed costs.

Current cost of production = $170,000 (variable costs) + $10,000 (specific fixed costs) = $180,000

Option 1: Purchase from another manufacturer = $200,000

Option 2: Produce new product

- Contribution margin = $30,000 
- Additional variable cost = $0 (since same facilities are used) 
- Additional specific fixed cost = $0 
- Net contribution margin = $30,000

Option 3: Rent facilities

- Rent earned = $60,000 
- Additional variable cost = $0 
- Additional specific fixed cost = $0 
- Net rent earned = $60,000

Therefore, the lowest net relevant cost is option 2, producing the new product with a net contribution margin of $30,000.

Net relevant cost for option 2 = $180,000 (current cost) - $30,000 (contribution margin) = $150,000

Since option 2 has the lowest net relevant cost, it is the best choice for Kaiman Company.

Kaiman Company Currently Produces a Key Part at a Total