Eastern Company currently produces a component that it uses in making some of its products. The company has calculated the following costs for making the part:
Eastern is considering outsourcing the component. A supplier has offered to sell the component to Eastern for $55 each. Eastern needs 10,000 units each year. If Eastern does outsource the component, it can use the facilities to make another product that would yield contribution margin of $60,000 per year.Required: 1) Should Eastern outsource the component? Support your answer with appropriate computations.2) What qualitative factors should be considered in this decision?
What will be an ideal response?
1)
The total cost to outsource the component is ($55 × 10,000) $550,000. In this case, Eastern would be $10,000 better off to outsource the component.
2) Qualitative factors:
Reduces the level of vertical integration
Reliability of supplier
Possibility of low-ball pricing
Quality concerns
Possible production delays
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