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Structuring a MakeorBuy Problem
Fresh Foods, a large restaurant chain, needed to determine if it would be cheaper to produce 5,000 units of its main food ingredient for use in its restaurants or to purchase them from an outside supplier for $12 each. Cost information on internal production includes the following:
Total Cost
Unit Cost
Direct materials
$25,000
$5.00
Direct labor
15,000
3.00
Variable manufacturing overhead
7,500
1.50
Variable meeting overhead
10,000
2.00
Fixed plant overhead
30,000
6.00
Total
$87,500
$17.50
Fixed overhead will continue whether the ingredient is produced internally or externally. No additional costs of purchasing will be incurred beyond the purchase price.
Required:
1. What are the alternatives for Fresh Foods?
2. Which alternative is more cost effective? By how much?
3. Now assume that 20% of the fixed overhead can be avoided if the ingredient is purchased externally. Which alternative is more cost effective? By how much?
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