Response to the following problem:
Ace Bicycle Company produces bicycles. This year's expected production is 10,000 units. Currently Ace also makes the chains for its bicycles. Ace's accountant reports the following costs for making the 10,000 chains: Description Per unit Costs Costs for 10,000 Units Direct materials $4.00 $40,000 Direct manufacturing labor 2.00 20,000 Variable manufacturing overhead (power & utilities) 1.50 15,000 Inspection, setup, material handling 2,000 Machine lease 3,000 Allocated fixed plant administration, taxes, and insurance 30,000 Total $110,000 Ace has received an offer from an outside vendor to supply any number of chains.
Ace requires at $8.20 per chain. The following additional information is available:
a. Inspection, setup, and material handling costs vary with the number of batches in which the chains are produced. Ace produces chains in batch sizes of 1,000 units. Ace estimates that it will produce the 10,000 units in 10 batches.
b. The costs for the machine lease are the payments Ace makes for renting the equipment used in making the chains. If Ace buys all its chains from the outside vendor, it does not need this machine.
Required:
1. Assume that if Ace purchases the chains from the outside supplier, the facility where the chains are currently made will remain idle. Should Ace accept the outside supplier's offer at the anticipated production (and sales) volume of 10,000 units?
2. For this question, assume that if the chains are purchased outside, the facilities where the chains are currently made will be used to upgrade the bicycles by adding mud flaps and reflector bars. As a consequence, the selling price on bicycles will be raised by $20. The variable per unit cost of the upgrade would be $18, and additional tolling costs of $16,000 would be incurred. Should Ace make or buy the chains, assuming that 10,000 units are produced (and sold)? The sales manager at Ace is concerned that the estimate of 10,000 units may be high and believes that only 6,200 units will be sold. Production cut back, which opens up more work space. Now there is room to add the mud flaps and reflectors whether Ace goes outside for the chains or makes them in-house. At this lower output; Ace will produce the chains in 8 batches of 775 units each. Should Ace purchase the chains from the outside vendor?