make OT buy Ralph's Enterprise (RE) manufactures hydraulic eomponents for the aireraft industry. One element eommon to a variety of produets is a speeialized valve that RE manufactures. The standard eost for this valve reveals the following:

direet material 8.20;

direet labor variable overhead fixed overhead 9.30;
3.10; and 9.30.
chapter 15 Quality problems have surfaeed and RE has decided the existing valve manufaeturing equipment must be replaced. An automated maehine is available, at a eost of2,500,000.
It has a 5 year life, no salvage, and would be depreciated as 5 year equipment (MACRS percentages of 20%, 32%, 19.2%, 11.52%, 11.52% and 5.76%) for tax purposes.
Straight line is used for book purposes. RE expects the direet material eost to remain the same, though direet labor will be eut in half if the new equipment is aequired. Also, variable overhead will remain at 1/3 of direet labor cost, although eash outlays presently in the fixed overhead, totaling 450,000 per year, will not be ineurred if the existing maehine is retired. (It has zero salvage now, as weil as a zero tax basis.) The marginaI tax rate is a eonstant 40%.
RE anticipates an annual demand of 50,000 valves. Just before signing the purchase contraet for the new equipment, another tirm in the industry offers to supply RE all the valves needed, at aguaranteed price of 30 per valve over the next 5 years.
The after tax discount rale is 9%.
a] Which option is best, make the valve with the new equipment or buy the valve from the outside supplier? What qualitative eoncems do you see here?
b] What will happen to the first year's aecounting ineome under eaeh of the altematives in [a]?
e] What annual demand for the valve leads to indifferenee between the two altematives?AppendixLO1