Make or Buy Omark Corporation currently manufactures a sub-assembly for its main
ID: 2583167 • Letter: M
Question
Make or Buy Omark Corporation currently manufactures a sub-assembly for its main product. The manufacturing costs for the sub-assembly PER UNIT are as follows Direct materials Direct labor Variable overhead Fixed overhead $2.00 20.00 10.00 16.00 $48.00 Total Reliance Corporation has contacted Omark with an offer to sell Omark the sub-assemblies for $44 each. $50,000 of total fixed overhead costs can be eliminated if the sub-assemblies are purchased from Reliance. Omark produces 5,000 sub-assemblies each period. Should Omark continue to make the sub-assemblies themselves or should they purchase the sub-assemblies from Reliance Corporation? Why?Explanation / Answer
Answer:-
Total Fixed overhead costs=$16 per unit*5000 units = $80000
$50000 of Total fixed overhead costs can be eliminated if the sub-assemblies are purchased from Reliance.Hence avoidable fixed overhead cost= $50000
Unavoidable fixed overhead cost=Total Fixed overhead- Avoidable fixed overhead cost
=$80000-$50000 =$30000
Unavoidable fixed overhead cost will continue to occur whether to make the sub-assemblies or purchase.Hence not relevant for decision.
Decision:-Hence Omark should continue to make the sub-assemblies instead of purchase from Reliance Corporation because cost of making the sub-assemblies are less than purchase of sub-assemblies. Hence resultant profit per unit of making sub-assemblies $2 per unit (ie-$44 per unit -$42 per unit).
Statement of Comparative cost Manufaturing Amount Purchase from outside Supplier Amount Per unit $ Per unit $ Direct Material 2.00 Purchase Cost 44.00 Direct Labor 20.00 Variable overhead 10.00 Avoidable Overhead 10.00 Total Manufaturing cost 42.00 Total Purchase cost 44.00