Case Study 1: Make-or-Buy Analysis
“In my opinion, we ought to stop making our dinner rolls and accept that outside supplier’s offer,” said Mary, managing partner at Wuksachi Restaurant. “At a price of 15 cents per dinner roll, we would be paying 50 cents less than it costs us to bake the bread in-house. Since we use 150,000 rolls a year, that would be an annual cost savings of $75,000.” Wuksachi’s actual cost to prepare these dinner rolls is shown below (based on 150,000 dinner rolls per year):
Direct material $20,500
Direct labor $36,200
Variable overhead $20,800
Fixed overhead ($2.80 general company overhead,
$1.60 depreciation, and $0.75 supervision) $20,000
Total cost per roll $0.65
A decision about whether to make or buy the bread is especially important at this time, since the oven used to make the bread is completely worn out and must be replaced. The choices facing the restaurant are as follows:
Alternative 1:Purchase a new baking oven and continue to make the rolls. The oven would cost $18,000; it would have ten years of useful life and no salvage value.
Alternative 2:Purchase the dinner rolls from an outside supplier at 15 cents per roll under a one-year contract.
The new baking oven would be more efﬁcient than the oven that Wuksachi Restaurant has been using and, according to the manufacturer, would reduce direct labor and variable overhead costs by 20 percent. The restaurant would use the space now being used to produce the rolls for storage and an additional refrigerator.
1.To assist the director in the making a decision, prepare an analysis showing what the total cost and the cost per dinner roll would be under each of the two alternatives given above. Assume that 150,000 dinner rolls are needed each year. Which course of action would you recommend to the director?
2. Would your recommendation in (1) above be the same if the company’s needs were: (a) 200,000 rolls per year or (b) 250,000 rolls per year? Show calculations to support your answer, with cost presented on both a total and a per-unit basis.
3.What other factors would you recommend that the director consider before making a decision?