5-31 (a) The original cost of $50,000, accumulated depreciation of $40,000, and annual operating costs (before overhaul) of $18,000 are all irrelevant when the choice is between overhauling the old machine and replacing it with a new machine. Note that the $18,000 operating costs are not sunk costs, yet they are irrelevant.
(b) Relevant costs include the acquisition cost of the new machine, the cost of overhauling the old machine, current salvage of $4,000 for the old machine and the annual operating costs for both the new machine and the overhauled old machine.
(c) | Replacement | Overhauling | Difference | |
Net acquisition cost | $66,000a | $25,000 | $41,000 | |
Operating costs for 5 years | 65,000b | 70,000c | (5,000) | |
Total relevant costs | $131,000 | $95,000 | $36,000 | |
a $70,000 – $4,000 = $66,000
b $13,000 5 = $65,000
c $14,000 5 = $70,000
It costs Ideal Company $36,000 more with the new grinding machine than overhauling the old one. Therefore, the plant manager should overhaul the old grinding machine. However, this analysis is incomplete as it ignores the time value of money, considered in Chapter 11.
5-32 | (a) | Insource (Make) | Outsource (Buy) | |
TV sets: | ||||
$600 1,000 | $600,000 | $600,000 | ||
Picture tube: | ||||
$55.00 1,000 | 55,000 | |||
$65.00 1,000 | 65,000 | |||
Relevant costs | $655,000 | $665,000 | ||
(b) | Insource | Outsource | |
TV sets: | |||
$600 1,000 | $600,000 | $600,000 | |
Picture tube: | |||
$42.00 1,000 | 42,000 | ||
$65.00 1,000 | 65,000 | ||
Relevant costs | $642,000 | $665,000 | |
5-34 Premier should make the gear model G37 because it costs $87,000 less to make than to buy.
Make | Buy | |
Cost of purchase: $120 20,000 = | $2,400,000 | |
Direct material cost: $55 20,000 = | $1,100,000 | |
Direct labor cost: $30 20,000 = | 600,000 | — |
Variable support: $25 20,000 = | 500,000 | — |
Fixed support $15 20,000 = | 300,000 | 300,000 |
Savings in facility-sustaining costs | — | (113,000) |
Relevant costs | $2,500,000 | $2,587,000 |
5-35 | Year 1 | Year 2 | Year 3 | Year 4 | Year 5 | |
Cash inflow: | ||||||
Sale of old machine | $40,000 | (5,000) | ||||
Saving because old machine not repaired | 20,000 | |||||
Salvage value of new machine | $10,000 | |||||
Decrease in annual operating costs | 20,000 | $20,000 | $20,000 | $20,000 | $20,000 | |
Cash outflow: | ||||||
Purchase of new machines | (120,000) | 0 | 0 | 0 | 0 | |
Net cash inflow (outflow) | ($40,000) | $20,000 | $20,000 | $20,000 | $25,000 | |
Cumulative cash inflow (outflow) | ($40,000) | ($20,000) | $0 | $20,000 | $45,000 | |
Joyce Printers should not replace the machines if they do not expect to use the new machines for more than four years. (See Chapter 11 for formal coverage of net present value analysis.)
5-36 (a) The offer by Superior Compressor should not be accepted if facility-sustaining support costs are unavoidable.
Cost per unit | Make | Buy | |
Cost of purchase | $200 | ||
Variable cost: | |||
Direct material | $ 80 | ||
Direct labor | 60 | ||
Unit-related support | 26 | ||
Batch-related support | 22 | ||
Product-sustaining support | 8 | ||
Relevant cost per unit | $196 | $200 | |
(b) The maximum acceptable purchase price is $213 per unit if the plant facilities are fully utilized at present and the incremental cost of adding more capacity is approximated well by the $17 per unit facility-sustaining support cost.
5-44 (a) Acquisition cost and depreciation expense for the existing elevator system are irrelevant.
(b) | Relevant cost | Existing System | New System |
Acquisition cost | — | $875,000 | |
Salvage value of existing system at present | — | (100,000) | |
Operating costs for 6 years | $900,000 | 48,000 | |
Salvage value after 6 years | (25,000) | (100,000) | |
$875,000 | $723,000 | ||
The decision to replace the existing elevator system with the new one will require net present value analysis that considers the time value of money.
5-45 | (a) | Selling price per unit | $4.00 |
Variable cost per unit | 3.30 | ||
Contribution margin per unit | $0.70 | ||
Number of units | 50,000 | ||
Increase in operating income | $35,000 | ||
Genis Battery Company should accept the special order because it is operating under capacity and this order can generate $35,000 in additional operating income.
(b) Average unit costs can be misleading. The decision must be based on incremental costs.
(c) Other customers may also demand a reduced price. Therefore, their reaction to the reduced price for the special order must also be taken into account.
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