Question

Make sure you understand the two alternatives.

• The "make" means that KCSB assembles and ships all of its regular bicycles.
• The "buy" means that KCSB pays another firm to assemble and ship some of its regular bicycles and uses the freed-up resources to make and sell specialty racing bicycles.
• TIP: The analysis can be simplified by ignoring all irrelevant tiems - the revenue and the costs for the bicycles that are not being outsourced. Instead, just focus on 1) the make versus buy costs of the outsourced bikes, and 2) the contribution margin of the specialty racing bikes.

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King City Specialty Bikes (KCSB) produces high-end bicycles. Costs to manufacture and market the bicycles at last year's volume level of 1,850 bicycles per month are shown in the following table:

Variable manufacturing per unit	$228.00
Total fixed manufacturing	$234,950
Variable nonmanufacturing per unit	$70.00
Total fixed nonmanufacturing	$253,450

KCSB expects to produce and sell 2,200 bicycles per month in the coming year. The bicycles sell for $650 each.

An outside contractor makes an offer to assemble 850 of KCSB's bicycles per month and ship them directly to KCSB's customers as orders are received from its sales force. It will charge KCSB $160 per bicycle. KCSB would provide the materials for each bicycle, but the outside contractor would assemble, box, and ship the bicycles. If KCSB accepts the offer, its variable manufacturing costs would be reduced by 35% for the 850 bicycles assembled by the outside contractor, and its variable nonmanufacturing costs for those 850 bicycles would be cut by 55%. In addition, it would be able to save $23,495 of fixed manufacturing costs; fixed nonmanufacturing costs would be unchanged.

KCSB's marketing manager thinks that it could sell 90 specialty racing bicycles per month for $5,500 each, and its production manager thinks that it could use the idle resources to produce each of these bicycles for variable manufacturing costs of $4,300 per bicycle and variable nonmanufacturing costs of $400 per bicycle.

REQUIRED [Note: Round unit cost computations to the nearest cent]

What is the difference in KCSB's monthly costs between accepting the proposal and rejecting the proposal?   (Note: If the costs of accepting the proposal are less than the costs of rejecting it, enter the difference as a positive number; if the accept costs are more than the reject costs, enter the difference as a negative number.)

Answer 1

The difference between the two alternatives is $60,050 and it is computed as follows

Total cost when 2,200 bicycles are manufactured in own factory

Particulars	Make
Variable manufacturing cost (2,200 × $228)	$501,600
Variable non-manufacturing cost (2,200 × $70)	$154,000
Fixed manufacturing costs	$234,950
Fixed non-manufacturing costs	$253,450
Total manufacturing costs	$1,144,000

Total cost when 850 units were sourced from outside supplier

Particulars	Buy
Variable manufacturing cost ((2,200 − 850) × $228)	$307,800
Variable non-manufacturing cost ((2,200 − 850) × $70	$94,500
Purchase price paid to contractor (850 units × $160)	$136,000
Variable manufacturing cost paid to contractor (850 × ($228 × (1-35%)))	$125,970
Variable non-manufacturing cost paid to contractor (850 × ($70 × (1-55%)))	$26,775
Fixed manufacturing costs ($234,950 − $23,495)	$211,455
Fixed non-manufacturing costs	$253,450
Total costs	$1,155,950

Additional contribution margin from unused facilities

Particulars	Amount
Selling price	$5,500
Deduct: Variable manufacturing cost	($4,300)
Deduct: Variable non-manufacturing cost	($400)
Contribution margin per unit	$800
× Number of units	90
Total contribution margin	$72,000

Total difference = $60,050 ($1,144,000 − $1,155,950 + $72,000)