ProPrinters uses part 87A in the production of colour printers. Unit manufacturing costs of part 87A are as follows:
ProPrinters uses 100,000 units of 87A per year. Printers R Us has offered to sell ProPrinters 100,000 units of 87A per year for $12. Fixed overhead is unavoidable. $\begin{array}{lr}
\text { Direct materials } & \$ 8 \
\text { Direct labour } & 2 \
\text { Variable overhead } & 1 \
\text { Fixed overhead } & 4
\end{array}$
-Refer to the Figure.Suppose that ProPrinters discovers that other costs will increase by $7,000 per year if the component is purchased rather than made internally.What is the financial effect of this make-or-buy decision?
A)make the part because it will save $100,000 over buying it
B)buy the part because it will save $100,000 over making it
C)make the part because it will save $107,000 over buying it
D)buy the part because it will save $107,000 over making it

Question

Quizplus · Accepted Answer

The total cost to make 100,000 units of part 87A internally is the sum of direct materials, direct labor, variable overhead, and fixed overhead, which equals $8 + $2 + $1 + $4 = $15 per unit. For 100,000 units, this totals $1,500,000. The cost to buy is $12 per unit, totaling $1,200,000 for 100,000 units. However, with an additional $7,000 in other costs if bought, the total cost of buying becomes $1,207,000. Therefore, making saves $1,500,000 - $1,207,000 = $293,000, not accounting for the fixed overhead that is unavoidable whether the part is made or bought. Since fixed overhead is unavoidable, it should not be considered in the incremental analysis, making the relevant saving $107,000 ($293,000 - $186,000 in fixed overhead that would be incurred regardless).

ProPrinters Uses Part 87A in the Production of Colour Printers