Question:
Currently, GreenCut Lawnmowers produces all of the transmissions used in its riding lawnmowers in-house. Its annual costs for producing these 45,000 transmissions are detailed below:
Direct material                           765,000
Direct labor                              270,000
variable overhead                         240,000       Â
Fixed manufacturing overhead              150,000        Â
Total manufacturing cost                  1,425,000
Instead of making its own transmissions, GreenCut is considering buying them from a supplier at a price of $30 each. Based on incremental analysis, GreenCut should
Answer:
Green Cut should produce/make the transmission internally because doing so would it $15,000
Explanation:
For a make or buy decision the relevant cash flows include Â
1. the differential variable of the two options Â
2. savings from avoidable fixed costs associated with internal production Â
Incremental analysis $
External cost of purchase( $30×  45,000)                  1,350,000
Variable cost of making Â
(765,000 + 270,000 + 250,000) Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â (1,185,000 )
Extra variable cost of external purchase                     165,000 Â
Savings in Avoidable fixed cost                            (150,000)
Net extra cost of external purchase cost                     15,000
Note that the fixed manufacturing cost are unavoidable cost i.e which means they would be incurred either way.
Decision
Green Cut should produce/make the transmission internally because doing so would it $15,000
