Question

S Corporation makes 41,000 motors to be used in the production of its sewing machines. The average cost per motor at this level of activity is: Direct materials $10.00 Direct labor $9.00 Variable manufacturing overhead Fixed manufacturing overhead $ 3.70 4.65 An outside supplier recently began producing a comparable motor that could be used in the sewing machine. The price offered to S Corporation for this motor is $25.45. If S Corporation decides not to make the motors, there would be no other use for the production facilities and none of the fixed manufacturing overhead cost could be avoided. Direct labor is a variable cost in this company. The annual financial advantage (disadvantage) for the company as a result of making the motors rather than buying them from the outside supplier would be:

Answer 1

1.

	Cost of making	Cost of buying
Direct material	41,000 x 10 = 410,000	0
Direct labor	41,000 x 9 = 369,000	0
Variable manufacturing overhead	41,000 x 3.70 = 151,700	0
Fixed manufacturing overhead	41,000 x 4.65 = 190,650	41,000 x 4.65 = 190,650
Outside supplier's price	0	41,000 x 25.45 = 1,043,450
Total cost	$1,121,350	$1,234,100

Cost of buying from the outside supplier is more than cost of making. Hence, it is advantageous to make the motors.

Financial advantage of making the motors = 1,234,100 - 1,121,350

= $112,750

2.

Evaluation of special order

Sales revenue (3,900 x 95.40)	372,060
Expenses:
Direct material (3,900 x 52.10)	- 203,190
Direct labor (3,900 x 10)	- 39,000
Variable manufacturing overhead (3,900 x 3)	- 11,700
Variable selling and administrative expense (3,900 x 2.50)	- 9,750
Net income	$108,420

Financial advantage of accepting the special order = $108,420

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