Question

Make-or-Buy Decision Fremont Computer Company has been purchasing carrying cases for its portable computers at a purchase price of $56 per unit. The company, which is currently operating below full capacity, charges factory overhead to production at the rate of 37% of direct labor cost. The unit costs to produce comparable carrying cases are expected to be as follows: Direct materials $30 Direct labor 20 Factory overhead (37% of direct labor) 7.4 Total cost per unit If Fremont Computer Company manufactures the carrying cases, fixed factory overhead costs will not increase and variable factory overhead costs associated with the cases are expected to be 15% of the direct labor costs. a. Prepare a differential analysis dated September 30 to determine whether the company should make (Alternative 1) or buy (Alternative 2) the carrying case. If required, round your answers to two decimal places. If an amount is zero, enter "0". Use a minus sign to indicate a loss. Differential Analysis Make Carrying Case (Alt. 1) or Buy Carrying Case (Alt. 2) September 30 Make Carrying Case (Alternative 1) Buy Carrying Case (Alternative 2) Differential Effect on Income (Alternative 2) Sales price Unit costs: Purchase price Direct materials Direct labor Variable factory overhead Fixed factory overhead Income (Loss) to manufacture the carrying cases. Fixed factory b. Assuming there were no better alternative uses for the spare capacity, it would overhead is to this decision.

Answer 1

a)

Differential Analysis
Make Carrying Case (Alt. 1) or Buy Carrying Case (Alt. 2)
September 30
	Make Carrying Case (Alt. 1)	Buy Carrying Case (Alt. 2)	Differential Effect on Income (Alt. 2)
Sales Price	$                           0	$                           0	$                           0
Unit Costs:
Purchase Price	0	56	(56)
Direct Materials	30	0	30
Direct Labor	20	0	20
Variable Factory Overhead	3	0	3
Fixed Factory Overhead	4.4	4.4	0
Income (Loss)	$                      57.4	$                      60.4	$                        (3)

Note:

Total Factory Overhead – Given = $7.4

Out of which Variable Factory Overhead = 15% of Direct Labor = 15% of $20 = $3               

Therefore, Fixed Factory Overhead = $7.4 - $3 = $4.4

b) Assuming there were no better alternative uses for the spare capacity, it would be advisable to manufacture the carrying cases. Fixed Factory Overhead is irrelevant to this decision.