Gelb Company currently manufactures 40,000 units per year of a key component for its manufacturing process. Variable costs are $1.95 per unit, fixed costs related to making this component are $65,000 per year, and allocated fixed costs are $58,500 per year. The allocated fixed costs are unavoidable whether the company makes or buys this component. The company is considering buying this component from a supplier for $3.50 per unit. Calculate the total incremental cost of making 40,000 units and buying 40,000 units. Should it continue to manufacture the component, or should it buy this component from the outside supplier

The correct answer is It should buy this component from the outside supplier.

Explanation:

Currently Manufacturing Variable Cost = Manufacturing Units × Variable Cost Per Unit

= 40,000 × $1.95 = $78,000

Fixed cost to making this component = $65,000

Cost To Buying this Component from a Supplier = Buying Cost from a Supplier Per Unit × Buying Unit

= 40,000 × $3.50 = $140,00 0

Total cost of Making the Unit = Variable Cost + Fixed Cost

= $78,000 + $65,000 = $143,000

Total cost Buying the Unit = $140,000

According to the Analysis, the cost of buying unit is less than the cost of making the units. So unit should be buy from the outsider.    

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