Johnson Company manufactures a part for its production cycle.The annual costs per unit for 10,000 units of the part are as follows: The fixed factory overhead costs are unavoidable.Spalding Company has offered to sell 10,000 units of the same part to Johnson Company for $60 per unit.The facilities currently used to make the part could be rented out to another manufacturer for $100,000 per year.Johnson Company should ________.
A)make the part to save $1 per unit
B)make the part to save $2.50 per unit
C)buy the part to save $1 per unit
D)buy the part to save $2.50 per unit

Question

Johnson Company manufactures a part for its production cycle.The annual costs per unit for 10,000 units of the part are as follows:  The fixed factory overhead costs are unavoidable.Spalding Company has offered to sell 10,000 units of the same part to Johnson Company for $60 per unit.The facilities currently used to make the part could be rented out to another manufacturer for $100,000 per year.Johnson Company should ________.
A)make the part to save $1 per unit 
B)make the part to save $2.50 per unit 
C)buy the part to save $1 per unit 
D)buy the part to save $2.50 per unit

Quizplus · Accepted Answer

To determine whether Johnson Company should make or buy the part, we need to compare the costs of producing the part to the cost of purchasing it.

The cost of producing the part includes variable costs and fixed costs. The variable costs per unit are $30 in materials, $18 in labor, and $3 in variable factory overhead, for a total of $51 per unit. The fixed overhead costs are $100,000 per year regardless of whether the company makes or buys the part. To determine the cost per unit of fixed overhead, we divide this amount by the annual production quantity of 10,000 units, resulting in a cost per unit of $10.

Thus, the total cost per unit for Johnson Company to make the part is $61 ($51 + $10), which is $1 more than the price offered by Spalding Company. Therefore, Johnson Company should buy the part from Spalding Company.

Option A and B are incorrect because they suggest that Johnson Company should make the part, which would actually result in higher costs than buying it from Spalding Company. Option D is incorrect because it overstates the savings from buying the part by double-counting the fixed overhead costs, which are incurred regardless of whether the part is made or bought.

Johnson Company Manufactures a Part for Its Production Cycle