Guillory Company produces a part that has the following costs per unit: Homeland Corporation can provide the part to Guillory for $23 per unit. Guillory Company has determined that 50 percent of its fixed overhead would continue if it purchased the part. However, if Guillory no longer produces the part, it can rent that portion of the plant facilities for $70,000 per year. Guillory Company currently produces 12,000 parts per year. Which alternative is preferable and by what margin?
A) Make-$24,000
B) Make-$60,000
C) Buy-$10,000
D) Buy-$46,000

Question

Guillory Company produces a part that has the following costs per unit:  Homeland Corporation can provide the part to Guillory for $23 per unit. Guillory Company has determined that 50 percent of its fixed overhead would continue if it purchased the part. However, if Guillory no longer produces the part, it can rent that portion of the plant facilities for $70,000 per year. Guillory Company currently produces 12,000 parts per year. Which alternative is preferable and by what margin?
A) Make-$24,000 
B) Make-$60,000 
C) Buy-$10,000 
D) Buy-$46,000

Quizplus · Accepted Answer

Here is the calculation for each alternative:

Make:
12,000 units x ($11 + 0.5*$11) = $198,000 (total manufacturing cost)
- Revenue from selling 12,000 units at $23 each = $276,000
= $78,000 (contribution margin)
- Fixed overhead savings if not producing = $0
Net income = $78,000

Buy:
12,000 units x $23 = $276,000 (total cost if buying)
- Fixed overhead that continues if purchasing = $0.5*$50,000 = $25,000
- Additional fixed cost if not producing = $70,000
= $95,000 (total cost of purchasing)
- Revenue from selling 12,000 units at $23 each = $276,000
= $181,000 (contribution margin)
Net income = $181,000 - $95,000 = $86,000

Therefore, the preferred alternative is to buy the part from Homeland Corporation with a net income of $86,000. The margin between the two alternatives is $78,000 - $86,000 = -$8,000, meaning that buying is preferable by $10,000.

Guillory Company Produces a Part That Has the Following Costs