OptiSystems manufactures an optical switch that it uses in its final product. OptiSystems incurred the following manufacturing costs when it produced 72,000 units last year:
Direct materials . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 720,000
Direct labor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . . . . . . . . . . 180,000
Variable overhead . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . . . . . . . 216,000
Fixed overhead . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . . . . . . . 468,000
Total manufacturing cost for 72,000 units . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,584,000
OptiSystems does not yet know how many switches it will need this year; however, another company has offered to sell OptiSystems the switch for $17 per unit. If OptiSystems buys the switch from the outside supplier, the manufacturing facilities that will be idle cannot be used for any other purpose, yet none of the fixed costs are avoidable.
Requirements
1. Given the same cost structure, should OptiSystems make or buy the switch? Show your analysis.
2. Now, assume that OptiSystems can avoid $100,000 of fixed costs a year by outsourcing production. In addition, because sales are increasing, OptiSystems needs 77,000 switches a year rather than 72,000. What should the company do now?
3. Given the last scenario, what is the most OptiSystems would be willing to pay to outsource the switches?