Determine the course of 8-48 Lamb Company manufactures several lines of machine products. One valve stem re- Roplacement quires special tools that must soon be replaced. The tools are fully depreciated and decision, have no resale value. Management has decided that the only alternative to replacing Lamb has been using 80,000 stems over the past few years and this volume is expected to continue, although there could be some decline over the next few years. MACRS (CMA these tools is to buy the stem from an outside supplier at $20 per unit. adapted) Cost records show the following at 80,000 units. Material Labor Variable overhead Fixed overhead Total unit cost $ 3.80 3.70 2.20 4.50 $14.20 Replacing the specialized tools will cost $2,500,000. The new tools have a life of eight years and $100,000 salvage value. Lamb will use MACRS. The tools qualify for a five year recovery period. Cost of capital is 12% and the tax rate is 40%. Lamb's managers have had discussions with the toolmaker's sales engineers and with another manufacturer that uses similar tools. Indications are that labor and was able overhead will drop, but that material cost will increase because the new tools require higher-quality material than the ones currently used. Their best estimates for low. Material Labor Variable overhead Fixed overhead Total unit cost $ 4.50 3.00 1.80 5.00 $14.30 Capital Budgeting Decisions-Part II Cash fixed costs associated with the new tools are $100,000 per year; with the exist- ing tools these costs are $50,000 per year. There will be no such costs if Lamb buys the stem from the outside supplier. Required: 1. Determine whether Lamb should buy the stem or manufacture it using the new tools. 2. Lamb's managers are concerned about making such a large investment when there is a possibility that the volume of the part might drop. Determine the vol- ume of parts that makes Lamb indifferent between making it and buying it