Example of make and buy decision limited resource

Example of make and buy decision limited resource

	Product A	Product B	Product C
Sale price	100	120	140
Variable Cost	80	100	100
Hours per unit	3	2	3
Unit to produced	4000 Unit	4000 Units	4000 Units
Supplier offer	90	110	120
Available machine hours		15,000

Should Farhan and company buy or make the product

Solution

1. Cost per hour saved by making

	A	B	C
Variable cost Making	80	100	100
Variable cost buying	90	110	120
Variable over buying	10	10	20
Machine hour saved	3	2	3
Cost per hour saved	3.33	5	6.667

2. Make and buy mix

PRODUCT	UNITS	HOUR PER UNIT	TOTAL HR	UNIT RATE	AMOUNT
C	4000	3	12,000	100	400,000
B	1500	2	3,000	100	150,000
					550,000
	2,500			110	275,000
A	4000			90	360,000
					635,000
					1,185,000

Examples of Make or buy Decision

Make or Buy Decision

	Product A	Product B
Sale price	100	120
Variable Cost	80	100
Incremental Fixed cost	8000	5000
Unit to produced	5000 unit	5000 units
Supplier offer	90	90

Suggest company should buy or make the products.

Solution

1. Cost can be saved on making product

	Product A	Product B
Variable Cost of making	80	100
units	5000	5000
Variable cost saved	40,000	50,000
Incremental fixed cost	8,000	5,000
	48,000	55,000

2. Cost will be required to buy

	Product A	Product B
Variable Cost of making	90	100
units	5000	5000
Variable cost of buying	45,000	45,000

3. Differential Cost

	Product A	Product B
Cost of making Saved	(48,000)	(55,000)
Cost of buying	45000	45000
Variable cost of buying	(3,000)	(10,000)

Both products should be sub contracted because the cost offered by the supplier is less than cost saved by not making the product.

 If cost of supplier would be more than cost saved by not making the product then it would be a making case.

Example of further processing Decision

Example of further processing Decision

The basic rule for further processing decision is that when sale value minus further processing cost is more than sale value at split point then product is to be further processed.

Sale value at split point	100
Further processing cost	40
Sale value at finished stage	150
Units produced	100

Solution

Sale value	150
Less: further processing cost	40
	110
Sale value at split point	100
Decision	Further processing is feasible as per rule
Extra contribution per unit process	10
Total contribution	100 units x 10 = 1000

Allocation Example

Allocation Example

Example 1

Items	Production	Maintenance
Consumable	10,000	5000
Factory Rent	60,000
Electricity	80,000
Fuel (Liters)	4000	800
Area Sq Feet	1200	800
Fuel Rate $ 10
Solution
Items	Bases	Total	Production Department	Maintenance Department
Consumable material	Direct	15,000	10,000	5,000
Fuel	Direct	48,000	40,000	8,000
Factory Rent	Area	60,000	36,000	24,000
Electricity	Area	80,000	48,000	32,000
		203,000	134,000	69,000