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The Chemplast Company manufactures and sells a range of high quality industrial containers. It has established a reputation in the industry for quality and timely delivery of its containers. The company is considering closing the container department and outsourcing the production of its containers to another company, Containers Inc, who has offered to supply the required number of containers at $1,100,000 each year for the next 5 years. The annual expenses of the container department are as follows:

Materials for the next year are already in inventory and will have to be discarded if the outsourcing contract with Containers Inc is agreed upon. Even if this department is closed, another managerial position was becoming available to which Smith would move without loss of pay or prospects. The company was paying $80,000 per year in rent for a warehouse for other corporate purposes. If the container department is closed, Chemplast would have all the space it needs and not need to rent the said warehouse. Currently, the company spends $280,000 annually on general administrative expenses that it allocates equally to each of its 4 departments. The company does not expect any savings in its administrative expenses from closing down the container department. The machine used in the production process was purchased 4 years ago for $800,000. Depreciation for book and tax purposes is straight line over 8 years. The book value of the machine is $400,000, and is expected to last for 5 more years. If the department is closed, the machine can be sold today for $200,000. Assume that the company has a 5 year horizon for this project, that the companys cost of capital is 10%, and that its tax rate is 40%. Should the company outsource its production? (Assume all cash flows for a period occur at the end of the period)

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$ 700,000 400,000 Material. Labor...... Overheads..... Manager Smith's salary...... Rent..... Depreciation of machinery... Other expenses... Allocation of general administrative expenses....... 100,000 50,000 100,000 60,000 70,000 380,000 $ 1,480,000 Total annual cost of department