Tech Systems manufactures an optical switch that it uses in its final product. Tech Systems incurred the following manufacturing costs when it produced 68,000 units last year:
Direct materials.................................................................................. $ 680,000
Direct labour........................................................................................... 136,000
Variable overhead..................................................................................... 68,000
Fixed overhead....................................................................................... 374,000
Manufacturing cost for 68,000 units.................................................. $1,258,000
Tech Systems does not yet know how many switches it will need this year; however, another company has offered to sell Tech Systems the switch for $11.00 per unit. If Tech Systems 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 Tech Systems make or buy the switch? Show your analysis.
2. Now, assume that Tech Systems can avoid $100,000 of fixed costs a year by outsourcing production. In addition, because sales are increasing, Tech Systems needs 73,000 switches a year rather than 68,000. What should Tech Systems do now?
3. Given the last scenario, what is the most Tech Systems would be willing to pay to outsource the switches?