Finders Company manufactures sewing machines and requires 60,000 units of a component that is used in the manufacturing process. If Flinders buys the part from Serrano Brothers, the plant will be idle. Of the fixed overhead, 45% will continue regardless of the decision. The cost to buy the part from Serrano Brothers is $46. The unit cost to make the part is: $$\begin{array} { l r }
\text { Direct materials } & \$ 12 \
\text { Direct 1abor } & 20 \
\text { Variable overhead } & 12 \
\text { Average fixed overhead } & \underline { 10} \
\quad \text { Total } & \underline { \underline { \$ 54 } }
\end{array}$$ Which alternative is more profitable and by what amount?

Question

Finders Company manufactures sewing machines and requires 60,000 units of a component that is used in the manufacturing process. If Flinders buys the part from Serrano Brothers, the plant will be idle. Of the fixed overhead, 45% will continue regardless of the decision. The cost to buy the part from Serrano Brothers is $46. The unit cost to make the part is: $$\begin{array} { l r } 
\text { Direct materials } & \$ 12 \
\text { Direct 1abor } & 20 \
\text { Variable overhead } & 12 \
\text { Average fixed overhead } & \underline { 10} \
\quad \text { Total } & \underline { \underline { \$ 54 } }
\end{array}$$ Which alternative is more profitable and by what amount?

Quizplus · Accepted Answer

The cost to make the part is $54, but this includes $10 of fixed overhead. Since 45% of the fixed overhead will continue regardless of the decision, only 55% of the fixed overhead is relevant to this decision. The relevant cost to make the part is $12 + $20 + $12 + ($10 * 55%) = $44.50. The cost to buy the part is $46. Therefore, it is cheaper to make the part by $1.50 per unit. Over 60,000 units, this results in a savings of $1.50 * 60,000 = $90,000. However, since the plant will be idle if the parts are bought, the entire fixed overhead becomes relevant, making the savings even greater. The correct calculation for savings should consider the difference in costs including the avoidance of idle plant costs, leading to a preference for buying due to the misinterpretation of fixed costs distribution and the actual decision context. The correct approach involves comparing the total costs of each option directly, but the provided explanation and calculation led to an incorrect conclusion. The correct answer should reflect the total cost savings or additional costs associated with each option, considering all relevant costs.

Finders Company Manufactures Sewing Machines and Requires 60,000 Units of a Component