Relevant costs, outsourcing, capital budgeting. The Strubel Company currendy makes as many units of Part No. 789 as it needs. David Lin, general manager ofthe Strubel Company, has received a bid from the Gabriella Company for making Part No. 789. Current plans call for Gabriella to supply 1,000 units ofPart No. 789 per year at $60 a unit. Gabriella can begin supplying on January 1, 2007, and continue for five years, after which time Strubel will not need the part. Gabriella can accommodate any change in Strubel’s demand for the part and will supply it for $60 a unit, regardless of quantity.

Jack Tyson, the controller ofthe Strubel Company, reports the following costs for man¬

ufacturing 1,000 units of Part No. 789:

Direct materials $26,400 Direct manufacturing labour 13,200 Variable manufacturing overhead 8,400 Amortization on machine 12,000 Product and process engineering 4,800 Rent 2,400 Allocation of general plant overhead costs 6,000 Total costs $73,200 The following additional information is available:

a. Part No. 789 is made on a machine used exclusively for the manufacture of Part No. 789.

The machine was acquired on January 1, 2006, at a cost of $72,000. The machine has a useful fife of six years and zero terminal disposal price. Amortization is calculated on the straight-line method.

b. The machine could be sold today for $ 18,000.

c. Product and process engineering costs are incurred to ensure that the manufacturing process for Part No. 789 works smoothly. Although these costs are fixed in the short run, with respect to units of Part No. 789 produced, they can be saved in the long run if this part is no longer produced. If Part No. 789 is outsourced, product and process engineer¬

ing costs of $4,800 will be incurred for 2007 but not thereafter.

d. Rent costs of $2,400 are allocated to products on the basis of the floor space used for manufacturing the product. IfPart No. 789 is discontinued, the space currently used to manufacture it would become available. The company could then use the space for storage purposes and save $1,200 currently paid for outside storage.

e. General plant overhead costs are allocated to each department on the basis of direct man¬

ufacturing labour dollars. These costs will not change in total. But no general plant over¬

head will be allocated to Part No. 789 ifthe part is outsourced.

Assume that $trubel requires a 12% rate ofreturn for this project.

Required 1. Should David Lin outsource Part No. 789? Prepare a quantitative analysis.

2. Describe any sensitivity analysis that seems advisable, but you need not perform any sensi¬

tivity calculations.

3. What other factors should Lin consider in making a decision?

4. Lin is particularly concerned about his bonus for 2007. The bonus is based on Strubel’s accounting income. What decision will Lin make ifhe wants to maximize his bonus in 2007?