Make or buy, activity-based costing, opportunity costs. (N. Melumad and S. Reichelstein, adapted) The Ace Bicycle Company produces bicycles. This year’s expected production is 10,000 units. Currently, Ace makes the chains for its bicycles. Ace’s accountant reports the following costs for making the 10,000 bicycle chains:

Costs for Costs per Unit 10,000 Units Direct materials $4.40 $ 44,000 Direct labour 2.20 22,000 Variable manufacturing overhead (power and utilities) 1.65 16,500 Inspection, setup, materials-handling 2,200 Machine rent 3,300 Allocated fixed costs of plant administration, taxes, and insurance 33,000 Total costs $121,000 Ace has received an offer from an outside vendor to supply any number of chains Ace requires at $9.02 per chain. The following additional information is available:

a. Inspection, setup, and materials-handling costs vary with the number of batches in which the chains are prodticed. Ace produces chains in batch sizes of 1,000 units. Ace estimates that it will produce the 10,000 units in ten batches.

b. Ace rents the machine used to make the chains. IfAce buys all its chains from the outside vendor, it does not need to pay rent on 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, fihould 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 reflectors. As a consequence, the selling price on bicycles will be raised by $22. The vari¬

able per-unit cost ofthe upgrade would be $19.80, and additional tooling costs of $17,600 would be incurred. $hould Ace make or buy the chains, assuming that 10,000 units are produced (and sold)?

3. The sales manager at Ace is concerned that the estimate of 10,000 units may be decision making and high and believes that only 6,200 emits will be sold. Production will be cut back,

and this opens up work space, which can be used 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 eight batches of 775 units each. Should Ace purchase the chains from the outside vendor?