Item4

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Item 4

In my opinion, we ought to stop making our own drums and accept that outside suppliers offer, said Wim Niewindt, managing director of Antilles Refining, N.V., of Aruba. At a price of 72 florins per drum, we would be paying 10 florins less than it costs us to manufacture the drums in our own plant. (The currency in Aruba is the florin, denoted by Afl.) Since we use 140,000 drums a year, we would save 1,400,000 florins on an annual basis. Antilles Refinings present cost to manufacture one drum follows (based on 140,000 drums per year):

Direct material	Afl	26.70
Direct labour		18.00
Variable overhead		9.00
Fixed overhead (Afl11.60 general company overhead, Afl9.20 depreciation and, Afl7.50 supervision)		28.30
Total cost per drum	Afl	82.00

A decision about whether to make or buy the drums is especially important at this time, since the equipment being used to make the drums is completely worn out and must be replaced. The choices facing the company are as follows:

• Alternative 1: Purchase new equipment and continue to make the drums. The equipment would cost Afl1,890,000; it would have a six-year useful life and no salvage value. The company uses straight-line depreciation.
• Alternative 2: Purchase the drums from an outside supplier at Afl72 per drum under a six-year contract.

The new equipment would be more efficient than the equipment that Antilles Refining has been using and, according to the manufacturer, would reduce direct labour and variable overhead costs by 30%. The old equipment has no resale value. Supervision cost (Afl1,050,000 per year) and direct materials cost per drum would not be affected by the new equipment. The new equipments capacity would be 1,050,000 drums per year. The company has no other use for the space being used to produce the drums.

The companys total general company overhead would be unaffected by this decision.

Required:

1-a. Calculate the total costs and costs per drum under the two alternatives. Assume that 140,000 drums are needed each year. (Round "Cost Per Drum" answers to 2 decimal places.)

	Differential Costs Per Drum				Total Differential Costs140,000 Drums
	Make		Buy		Make		Buy
Outside supplier's price			Afl				Afl
Direct materials	Afl				Afl
Direct labour
Variable overhead
Supervision
Depreciation
Total cost	Afl	0.00	Afl	0.00	Afl	0	Afl	0

1-b. Should the company make or buy based on analysis in part (1-a)?

• Make

• Buy

2-a. Calculate the total costs and costs per drum under the two alternatives. Assume that 100,000 drums are needed each year. (Round "Cost Per Drum" answers to 2 decimal places.)

	Differential Costs Per Drum				Total Differential Costs100,000 Drums
	Make		Buy		Make		Buy
Outside supplier's price			Afl				Afl
Direct materials	Afl				Afl
Direct labour
Variable overhead
Supervision
Depreciation
Total cost	Afl	0.00	Afl	0.00	Afl	0	Afl	0

2-b. Should the company make or buy based on analysis in part (2-a)?

• Make

• Buy

2-c. Calculate the total costs and costs per drum under the two alternatives. Assume that 1,050,000 drums are needed each year. (Round "Cost Per Drum" answers to 2 decimal places.)

	Differential Costs Per Drum				Total Differential Costs1,050,000 Drums
	Make		Buy		Make		Buy
Outside supplier's price			Afl				Afl
Direct materials	Afl				Afl
Direct labour
Variable overhead
Supervision
Depreciation
Total cost	Afl	0.00	Afl	0.00	Afl	0	Afl	0

2-d. Should the company make or buy based on analysis in part (2-c)?

• Make

• Buy