In addition to fine chocolate, International Chocolate Company also produces chocolate-covered pretzels in its Savannah plant. This product is sold in five-pound metal canisters, which also are manufactured at the Savannah facility. The plant manager, Marsha Mello, was recently approached by Catawba Canister Company with an offer to supply the canisters at a price of $1.00 each. International Chocolate’s traditional product-costing system assigns the following costs to canister production.

Direct material ............... $ 300,000

Direct labor (12,000 hrs. at $15 per hr.) ..... 180,000

Variable overhead ($10 per direct-labor hr.) ..... 120,000

Fixed overhead ($45 per direct-labor hr.) .... 540,000

Total cost .................$ 1,140,000

Unit costs: $1,140,000 ÷ 760,000 canisters = $1.50 per canister

Mello’s conventional make-or-buy analysis indicated that Catawba’s offer should be rejected, since only $708,000 of costs would be avoided (including $80,000 of supervisory salaries and $28,000 of machinery depreciation). In contrast, the firm would spend $760,000 buying the canisters. The controller, Dave Mint, came to the rescue with an activity-based costing analysis of the decision. Mini concluded that the cost driver levels associated with canister production are as follows:

10 product specs...........30 inspections

2,000 supervisory hours.........15 setups

6,000 material-handling hour’s.....70,000 machine hours

55 purchase orders

Additional conventional and ABC data from the Savannah plant are given in Exhibits (a) and (b).

(a)

(b)

Required:
1. Show how Mello arrived at the $708,000 of cost savings in her conventional make-or-buy analysis.
2. Determine the costs that will he saved by purchasing canisters, using Mint’s ABC data.
3. Complete the ABC relevant-costing analysis of the make-or-buy decision. Should the firm buy from Catawba’?
4. If the conventional and ABC’ analyses yield different conclusions, briefly explainwhy.

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A. Manufacturing Overhead Budget for Savannah Plant Variable overhead: Electricity O and lubricants Equipment maintenance Total variable overhead $ 700000 120000 180 000 $1,000000 Variable overhead rae: $1,000,000 Fixed overhead: 100,000 direct tabor hours # $10 per hour Plant depreciation Product development .. Supervisery salarieSaaa.... Material handling Purchasing Inspection Setup Machinery depreciation 1,650 000 300 000 600 000 800 000 250 000 300000 400 000 200 000 Total fixed overhead... $4,500 000 Fixed overhead rate: $4,500,000 ÷ 100,000 direct-la or hours = $45 per hour B. Conventional Product-Costing Data: Gift Boxes Direct material Direct labor (10,000 hr at $15 per h) Variable overhead ($10 per direct-labor hr) Fixed overhead ($45 per direct-labor hr.) 100000 150:000 100000 450 000 otal cost 800000 Unit cost: $800,000 1,000,000 boxes $80 per box C. Conventional Outsourcing Analysis: Gitt Boxes Relevant costs (costs that will be avoided if the gift boes are purchased: Direct material.n Direct labor Variable overhead Fixed overheadt r100000 150000 100000 Supervision.. Machinery depreciation 60,000 20000 Total costs to be avoided by purchasingn ssssschone.430000 Total cost of purchasing 1,000,000 boxes $45 pes boxdimm450000 A. Activity Cost Pools and Pool Rates Activity Cost Pools Budgeted Cost Pool Rate and Cost Driver Cost Assigned to Gift Boxes Facility level: Plant depreciation. $1,650,000 Product-sustaining level: Product development Supervisory salaries 300,000 600,000 $600 per product spec $40 per supervisory hour $600 X 5 3,000 60,000 $40 x 1.500- Batch level: Material handling Purchasing Inspection Setup 800,000 $8pr material-handling hour 250,000 300,000 400,000 $250 per purchase order $300 per inspection $400 per setup $8 x 5,000 $250 × 40= $300 20 $400x 10 40,000 10,000 6,000 4,000 Unit level: Electricity Oil and lubrication Equipment maintenance Machinery depreciation 700,000 120,000 180,000 200,000 $1.40 per machine hour $.24 per machine hour $.36 per machine hour $.40 per machine hour $1.40 x 50,000 $24 × 50,000 $.36 X 50,000 $40 × 50,000 = 70,000 12,000 18,000 20,000 Total overhead for Savannah plant Total overhead assigned to gift box producti The numbers in this colurmn are the quantities of each cost driver required for gilt box production $5,500,000 243,000 B. ABC Outsourcing Analysis: Gift Boxes Relevant costs (costs that will be avoided if the gift boxes are purchased) Direct material Direct laor... Overhead (from ABC analysis in panel A, above) Total costs to be avoided by purchasing. Total cost of purchasing (1,000,000 boxes x $45 per bx) $100,000 150,000 243,000 $493,000 $450,000