The Sweet Home Company (SH hereinafter) produces and sells a wide range of kitchen suppliers. According to its market analysis, SH predicts the sales of electrical grills will grow by 50% as there is an increasing demand on grills due to the strict social distancing policy in place and a shifty-away from traditional charcoal grills due to the rising environmental awareness. Noticeably, however, the selling price for an electrical grill is not expected to change in 2021. SH manufactured and sold 20,000 electrical grills with a guide price of $200 in 2020.
According to the cost information, manufacturing an electrical grill includes direct
material costs of $25 and direct manufacturing labour costs of $35. The quality control department will then assess the grills in a batch of 50, at a cost of $500. Besides, there is also a fixed manufacturing overhead of $700,000. Within which, $500,000 are costs involving plant lease, insurance and administration. The rest $200,000 are specifically related to manufacturing the electrical grills. In 2021, all the variable costs float up by 10% due to the disruption caused by the pandemic. All the fixed costs nevertheless remained unchanged.
Alternatively, SH can outsource the 2021 electrical grill order to another manufacturer at a cost of $130 each.
Required:
a. How much operating income can electrical grill generate in 2021 if SH chooses to manufacture it on site? 5 marks
b. Suppose the capacity currently used to make electrical grills will become idle if SH chooses to outsource its 2021 order. What is the financially sensible decision for SH? Why? 10 marks
c. Suppose that if SH chooses to outsource the 2021 electrical grill order, its best alternative use of the capacity for electrical grills becomes available to produce and sell 20,000 baking ovens. The guide price for a baking oven is $150. Total expected variable manufacturing costs are $ 1,150,000. A fixed manufacturing costs related to only baking oven is $300,000. On the basis of financial
considerations alone, should SH outsource its 2021 electrical grill order? Why?
12 marks
d. Other than the financial consideration, what are the non-financial considerations when making outsourcing decisions. Please list at least two factors and explain the reasons. 7 marks