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Make vs buy

Make vs buy. WEEK 10. Illustrative questions. Q 11.2 Maxitank makes two products. Its costs are:.

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Make vs buy

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  1. Make vs buy WEEK 10

  2. Illustrative questions Q 11.2 Maxitank makes two products. Its costs are: Maxitank’s sales are limited by the bottleneck (machine) capacity of the factory. Which of the two products should be produced first in order to maximize the throughput contribution generated from the limited capacity?

  3. Solution 11.2 Labour hours are irrelevant for throughput

  4. Variation to Q11.2 Maxitanks’ cost of labour is now included: Which of the two products should be produced first in order to maximize the profits generated from the limited capacity, taking material and labour costs into account?

  5. Solution 11.2

  6. Q 11.5 Harrison products capacity is 20,000 units per year. Their results for last year are: Harrison expects its regular sales next year to be 15,000 units. They also expect fixed costs to increase by $100,000. A foreign distributor has offered to buy a guaranteed 8,000 units at $95 per unit next year and the company can produce on the maximum capacity. Should Harrison accept this offer?

  7. Solution 11.5

  8. Operating decisions & relevant costs • Relevant costs are those that are relevant to a particular decision. • Relevant costs are the future, incremental cash flows that result from a decision • Sunk costs are not relevant • Relevant costs are avoidable costs. • Unavoidable costs are not relevant because, irrespective of what a decision is, unavoidable costs will still be incurred • Relevant costs may be opportunity costs • the loss of a future cash flow that takes place as a result of making a particular decision

  9. Applying relevant costs • Make versus buy: Outsourcing decisions • Fixed costs are not relevant • Equipment replacement • Sunk costs and depreciation are not relevant • Relevant cost of materials • Material purchased specifically - relevant cost is the purchase price • Material already in stock and used regularly - relevant cost is the replacement price • Material already in stock but surplus - relevant cost is the opportunity cost • Higher of scrap value or its value in any alternative use

  10. Relevant costs: make v. buy

  11. Equipment replacement

  12. Q 12.4 • Cirrus Company has calculated that the cost to make a component is made up of materials $120, labour $60, variable overhead $30 and fixed overhead of $25. Another company has offered to make the component for $140. • If the company has spare capacity and wishes to retain its skilled labour force, should it make or buy the component?

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