Make or Buy ‘The Gamma Company is considering the feasibility of purchasing from a nearby jobber a component that it now makes. The jobber will furnish the component in the necessary quantities at a unit price of $4.50.

Transportation and storage costs would be negligible.

Gamma produces the component from a single raw material. The firm at present orders material in economic lots of 1,000 units at a unit cost of $1;

average annual usage is 10,000 units. The yearly storage cost (including rent, taxes, and return on inventory investment) is computed at 50¢ per unit. The minimum inventory is set at 200 units. Direct-labor costs for the component are $3 per unit; fixed manufacturing overhead is applied at a rate of $2 per unit based on a normal annual activity of 10,000 units. In addition to these costs, the machine on which the components are produced is leased at a rate of $100 per month.

Should Gamma make or buy the component?

Inventory Control (SIA, adapted) A large appliance manufacturing company markets its products through a number of sales divisions. Each division is decentralized and accountable for its profit contributions. Warehousing and manufacturing, however, is centralized. Warehousing and stockkeeping costs are charged to the divisions based on average divisional inventory levels. The rate during 19_3 was 20 percent and is not expected to change during 19_4.

Only over- or underapplied overhead from the manufacturing operation is charged to divisions.

A decline in divisional profits in the Residential Sales Division during 19_3 was caused by allocated charges from warehousing and from manufacturing. Apparently, the major portion of this allocated cost was incurred by one standard household product “Clean-O-Matic.”

Warehousing reported that 19_3 shipments to customers totaled 250,000 units, deliveries from Manufacturing averaged 5,000 units per week, over a 50 work-week period, and that the 19_3 safety stock was 80,000 units. The unit cost is $48.00, bringing the average inventory value of this product to

$3,960,000. Furthermore, the raw-material inventory included a high-value part worth $12.00, of which 2 are required to manufacture one Clean-O-Matic.

Parts were purchased in lots of 30,000 during 19_3. The safety stock is 90,000 parts.

Manufacturing reported that the underapplication charged to the Residential Division was caused by high setup costs for production runs of the Clean-O-Matics. One setup, including labor testing and spoilage, amounts to $720, or $36,000 for 50 production runs during 19_3.

The divisional sales manager recommended the following changes for 19_4:

Safety stock of Clean-O Matics should be reduced gradually to 40,000 units by the end of 19_4.

Production runs should be larger to reduce total annual setup costs.

Safety stock of parts should be reduced to one average month (19_4) usage immediately, and the order size should be equal to the requirement for one production run.

Expected 19_4 sales: 280,000 Clean-O-Matics.

. Compute the,  lop5