Question

Diamond Computer Company has been purchasing carrying cases for its portable computers at a purchase price of $59 per unit. The company, which is currently operating below full capacity, charges factory overhead to production at the rate of 40% of direct labor cost. The fully absorbed unit costs to produce comparable carrying cases are expected to be as follows:

Direct materials $35.00
Direct labor 18.00
Factory overhead (40% of direct labor) 7.20
Total cost per unit $60.20

If Diamond 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 February 24 to determine whether the company should make (Alternative 1) or buy (Alternative 2) the carrying case.
(b) On the basis of the data presented, would it be advisable to make the carrying cases or continue buying them? Explain.

Answer 1

Answer:

Part(a) Differential analysis as at February 24

Make (Alternative 1) :

Direct Materials                             $35.00

Direct labor                                    $18.00

Variable Overheads                      $2.70

Fixed Overheads                           $0.00

Total Make Costs                         $55.70

Buy (Alternative 2) :

Total Purchase Cost                    $59.00

(b) On the basis of the data presented, would it be advisable to make the carrying cases or continue buying them?

It is clear that from comparison of the cost of Purchase and the Cost of Making the Carrying Cases, the Cost of Making the Carrying Cases is lower than the Cost of Purchasing the Cases by $3.30

It is thus advisable to make carrying cases instead of buying them

Explanation:

Total Make Costs;

The Factory fixed overheads are irrelevant to this decision hence they were ignored in the make cost calculations.