Lincoln Company produces a part that is used in the manufacture of one of its products. The unit manufacturing costs of this part, assuming a production level of 5,000 units, are as follows:
$$\begin{array} { | l | r | r | }
\hline \text { Direct materials } & \$ 3 & \
\hline \text { Direct labor } & 5 & \
\hline \text { Variable manufacturing overhead } & 4 & \
\hline \text { Fixed manufacturing overhead } & 2 & \
\hline \text { Total cost } & \$ 14 & \
\hline
\end{array}$$ The fixed overhead costs are unavoidable.
Assume Lincoln Company can purchase 5,000 units of the part from Allgood Company for $14 each, and the facilities currently used to make the part could be used to manufacture 5,000 units of another product that would contribute $5 per unit to fixed costs. If no additional fixed costs would be incurred, what should Lincoln Company do?

Question

Lincoln Company produces a part that is used in the manufacture of one of its products. The unit manufacturing costs of this part, assuming a production level of 5,000 units, are as follows:
$$\begin{array} { | l | r | r | } 
\hline \text { Direct materials } & \$ 3 & \
\hline \text { Direct labor } & 5 & \
\hline \text { Variable manufacturing overhead } & 4 & \
\hline \text { Fixed manufacturing overhead } & 2 & \
\hline \text { Total cost } & \$ 14 & \
\hline
\end{array}$$ The fixed overhead costs are unavoidable.
Assume Lincoln Company can purchase 5,000 units of the part from Allgood Company for $14 each, and the facilities currently used to make the part could be used to manufacture 5,000 units of another product that would contribute $5 per unit to fixed costs. If no additional fixed costs would be incurred, what should Lincoln Company do?

Quizplus · Accepted Answer

The cost to make the part is $12 per unit (direct materials $3, direct labor $5, variable manufacturing overhead $4, excluding fixed costs since they are unavoidable and would be incurred regardless). Buying the part costs $14, but making the new product contributes $5 per unit to fixed costs. Therefore, the net benefit of buying the part and making the new product is $3 per unit ($5 contribution - $2 extra cost to buy the part instead of making it).

Lincoln Company Produces a Part That Is Used in the Manufacture