Tolkien Transporthas a small facility adjacent to its Leeds depot which it uses to manufacture tarpaulins for its lorries. The facility currently produces3000 tarpaulins a year. The company’s Finance Manager has estimated the cost per tarpaulin at this level of output to be: Cost per unit Direct Materials £50 Direct Labour (cutting, trimming and sewing) £45 Variable manufacturing overhead £37 Fixed manufacturing overhead £43 An outside supplier has offered to supply all the tarpaulins required by Tolkien for £145 each. If Tolkien decided not to make the tarpaulins, there would be no other use for the production facilities and none of the fixed manufacturing overhead cost could be avoided. Required: Calculate how much higher or lower Tolkien’s net operating income would be if it purchased the tarpaulins from the outside supplier, showing all calculations. Would you advise Tolkien to accept the offer? Clearly explain to Tolkien’s Finance Manager how opportunity cost might affect the make or buy decision. Illustrate with a numerical example.
Tolkien Transporthas a small facility adjacent to its Leeds depot which it uses to manufacture tarpaulins for its lorries. The facility currently produces3000 tarpaulins a year. The company’s Finance Manager has estimated the cost per tarpaulin at this level of output to be: Cost per unit Direct Materials £50 Direct Labour (cutting, trimming and sewing) £45 Variable manufacturing overhead £37 Fixed manufacturing overhead £43 An outside supplier has offered to supply all the tarpaulins required by Tolkien for £145 each. If Tolkien decided not to make the tarpaulins, there would be no other use for the production facilities and none of the fixed manufacturing overhead cost could be avoided. Required: Calculate how much higher or lower Tolkien’s net operating income would be if it purchased the tarpaulins from the outside supplier, showing all calculations. Would you advise Tolkien to accept the offer? Clearly explain to Tolkien’s Finance Manager how opportunity cost might affect the make or buy decision. Illustrate with a numerical example.
Chapter1: Financial Statements And Business Decisions
Section: Chapter Questions
Problem 1Q
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Question
Tolkien Transporthas a small facility adjacent to its Leeds depot which it uses to manufacture tarpaulins for its lorries. The facility currently produces3000 tarpaulins a year. The company’s Finance Manager has estimated the cost per tarpaulin at this level of output to be:
|
|
Cost per unit |
|
Direct Materials |
£50 |
|
Direct Labour (cutting, trimming and sewing) |
£45 |
|
Variable manufacturing |
£37 |
|
Fixed manufacturing overhead |
£43 |
An outside supplier has offered to supply all the tarpaulins required by Tolkien for £145 each. If Tolkien decided not to make the tarpaulins, there would be no other use for the production facilities and none of the fixed
Required:
- Calculate how much higher or lower Tolkien’s net operating income would be if it purchased the tarpaulins from the outside supplier, showing all calculations. Would you advise Tolkien to accept the offer?
- Clearly explain to Tolkien’s Finance Manager how opportunity cost might affect the make or buy decision. Illustrate with a numerical example.
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