Crystal Lattice produces exercise mats and has spare annual capacity of 2,000 mats. Resteasy hotel chain placed a one-time order for 3,000 mats at $90 per mat instead of the normal $100 price. Accepting the order would earn a contribution margin of $50 per mat compared to $60 normally, for a net benefit of $70,000 after factoring in the $20,000 cost of an embossing machine needed for the order. Qualitative factors like reactions from other customers and Resteasy's potential as a long-term customer should also be considered before accepting the order.
RSA Conference Exhibitor List 2024 - Exhibitors Data
Costing Analysis for Special Order and Make vs Buy Decisions
1. Topic 5
Chapter 12
Costing in an entity
Discussion Questions
Problems
P12.4 Special order with no spare capacity
Crystal Lattice produces exercise mats for use in fitness centres.
Production capacity is 20 000 mats per year. Due to a chain of fitness
centres closing, Crystal Lattice now has spare capacity of 2 000 mats per
year. An international hotel chain, Resteasy, has recently contacted
Crystal Lattice to place a one-off order for 3000 mats. The hotel chain
has recently remodelled a number of its hotels to incorporate fitness
centres for guests.
• Budgeted costs for 20 000 mats are:
• variable manufacturing costs $800 000
• fixed manufacturing costs $900 000.
Mats normally sell for $100 each, and Resteasy has offered to pay $90
per mat. Resteasy has also requested that each mat be embossed with its
company logo. An embossing machine costing $20 000 would therefore
need to be purchased by Crystal Lattice. The machine could not be used
for other products.
Required
a. From a financial perspective, should Crystal Lattice accept the
special order? Show calculations.
b. What other factors should be considered before the order is
accepted?
12.1
2. (a) Analysis of special order
Production capacity 20 000 mats per year
Idle capacity 2000 mats
Special Order for 3000 mats from Resteasy Hotel Chain
Variable Manufacturing Costs $800 000 / 20 000 mats = $40 per mat
Contribution Margin:
Normal Sales Special Order
Sales Price $100 $90
Variable Costs 40 40
Contribution Margin $ 60 $50
Benefit of Special Order
3000 units × $50 $150 000
Less incremental fixed cost (20 000)
$130 000
Opportunity Cost
1 000 units × $60 60 000
Net benefit of special order $70 000
Comment: From a financial perspective, Crystal Lattice should accept the
special order.
b. What other factors should be considered before the order is
accepted?
Qualitative Factors
• Reaction of other customers if they find out that Resteasy is paying a lower price
per mat
• Potential of Resteasy to be a long term customer paying normal sales price.
12.2
3. Chapter 12: Costing in an entity
P12.6 Make or buy?
The management of SouthPak Company has asked for your assistance in
deciding whether to continue manufacturing a part or to buy it from an outside
supplier. The part, called AlphaB, is a component of SouthPak’s finished
product. An analysis of the accounting records and the production data revealed
the following information for the year ending June 2008:
1. The production department produced 72000 units of AlphaB.
2. Each unit of AlphaB requires 20 minutes to produce. Six people in
the production department work full-time (4000 hours each per
year) producing AlphaB. Each person is paid $12 per hour.
3. The cost of materials per AlphaB unit is $4.
4. Manufacturing costs directly applicable to the production of
AlphaB are:
All of the above costs will be eliminated if AlphaB is purchased.
5. The lowest price for AlphaB from an outside supplier is $8 per
unit. Delivery costs will be $0.80 per unit, and a part-time dispatch
employee at $17 000 per year will be required.
6. If AlphaB is purchased, the excess space will be used to store
SouthPak’s finished product. Currently, SouthPak rents storage
space at approximately $1.60 per unit stored per year.
Approximately 9000 units per year are stored in the rented space.
Required
Should SouthPak make or buy the part? Show all calculations.
12.3
4. Alpha B – total production is 72 000 units – (how is this determined):
Total hours available = 24 000 hrs (6 people × 4000 hrs each)
= 24 000 h × 60 m = 1 440 000 minutes / 20 minutes per product = 72 000 products
Comparative cost statement
Costs Make Buy
Direct Labour (24 000 hrs × $12) $288 000
Direct Material (72 000 units × $4) $288 000
Purchase Costs (72 000 × $8) $576 000
Delivery costs (72 000 × 0.80) $57 600
Part-time dispatch employee $17 000
Savings in storage space (9000 units × $1.60) ($14 400)
Fixed Costs (Total) $23 600 -
Total Costs $599 600 $636 200
Additional costs to outsource $36 600
Comment: SouthPak should make the part.
12.4
5. Chapter 12: Costing in an entity
P12.7 Saguaro Systems produces and sells speakers and CD players. The
following information about the costs related to the systems has been
collected:
Saguaro normally produces 25 000 of these systems per year.
The managers have recently received an offer from a Mexican company
to buy these systems for $48 each. The managers estimate that $260 000
of Saguaro’s fixed costs could be eliminated if it accepts the offer.
Required
a. Perform a quantitative analysis for the decision
b. Identify as many uncertainties as you can for this decision.
c. Prepare a brief report to management on your recommendations.
12.5
6. a. Perform a quantitative analysis for the decision
Comparative cost statement
Costs Make Buy
Direct materials (25 000 × $22) $550,000
Direct Labur (25 000 × $16) $400,000
Variable Overhead (25 000 × $2) $ 50,000
Fixed Overhead $360,000 $ 100,000
Purchase Price (25 000 × $48) $1 200 000
Total Costs $1 360 000 $1 300 000
$60 000 benefit to outsource
b. Identify as many uncertainties as you can for this decision.
1. The estimate of fixed cost savings — if this is understated then the outsourced
option is more financially attractive, if overstated then the opposite
2. Guarantee of supply for the time period needed by Saguaro
3. The quality of the product and whether it will match Saguaro’s production quality
4. The contract price of $48. What is the likelihood of this increasing in the near
future?
c. Prepare a brief report to management on your recommendations.
The report to management will focus on the findings of the financial analysis (part a)
and discuss the uncertainties identified in part (b) above.
12.6