- 20 Marks
MA – L2 – Q44 – Relevant cost and revenue
Recommend whether TechLink Solutions should buy new equipment or outsource electronic modules for 400,000 units annually.
Question
TechLink Solutions Limited manufactures and sells routers. It manufactures its own electronic modules (EM), an important part of the router. The present cost to manufacture an EM is as follows:
| GH¢ | |
|---|---|
| Direct material | 250 |
| Direct labour | 300 |
| Variable overheads | 150 |
| Fixed overheads | |
| Depreciation | 100 |
| General overheads | 150 |
| Total cost per unit | 950 |
The company manufactures 400,000 units annually. The equipment being used for manufacturing EM has worn out completely and requires replacement. The company is presently considering the following options:
(A) Purchase new equipment which would cost GH¢ 240 million and have a useful life of six years with no salvage value. The company uses straight-line method of depreciation. The new equipment has the capacity to produce 600,000 units per year. It is expected that the use of new equipment would reduce the direct labour and variable overhead cost by 20%.
(B) Purchase from an external supplier at GH¢ 730 per unit under a two-year contract.
The total general overheads would remain the same in either case. The company has no other use for the space being used to manufacture the EMs.
Required:
(a) Which course of action would you recommend to the company assuming that 400,000 units are needed each year? (Show all relevant calculations)
(b) What would be your recommendation if the company’s annual requirements were 600,000 units?
(c) What other factors would the company consider, before making a decision?
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