Question at position 25 The SP Corporation makes 40,000 motors to be used in the production of its sewing machines. The average cost per motor at this level of activity is: [table]
Direct materials | $ 5.50 Direct labor | $ 5.60 Variable manufacturing overhead | $ 4.75 Fixed manufacturing overhead | $ 4.45
[/table] An outside supplier recently began producing a comparable motor that could be used in the sewing machine. The price offered to SP Corporation for this motor is $18. If SP Corporation decides not to make the motors, there would be no other use for the production facilities and none of the fixed manufacturing overhead cost could be avoided. Direct labor is a variable cost in this company. The annual financial advantage (disadvantage) for the company as a result of making the motors rather than buying them from the outside supplier would be: $86,000$178,000$276,000($92,000)

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Question restatement: The SP Corporation makes 40,000 motors at a given cost structure, and an outside supplier offers $18 per motor. Fixed manufacturing overhead ($4.45 per unit) is non-avoidable if production stops, while direct materials ($5.50), direct labor ($5.60), and variable manufacturing overhead ($4.75) are variable with production. If SP buys, no other use for facilities and none of the fixed overhead can be avoided. We must determine the annual financial advantage (or disadvantage) of making versus buying.

Option 1: $86,000
This would imply a certain savings or advantage of making equal to $86,000. However, to test this, compute total costs. If SP makes 40,000 motors, variable cost per unit is 5.50 + 5.60 + 4.75 = 15.85, so total variable cost = 15.85 × 40,000 = 634,000. Fixed manufacturing overhead remains 4.45 per unit, totaling 4.45 × 40,000 = 178,000 and is not avoidable. Therefore, the total cost of making = 634,000 + 178,000 = 812,000. If SP buys, cost = 18 × 40,000 = 720,000. The difference (making minus buying) is 812,000 − 720,000 = 92,000. Since making is more expensive by 92,000, the notion of an $86,000 advantage does not match the actual calculation. This option incorrectly represents the cost comparison; it ignores either fixed costs being unavoidable or misestimates the differential.

Option 2: $178,000
This figure matches the total fixed manufacturing overhead for 40,000 units (4.45 × 40,000 = 178,000). Using this value alone as the financial effect ignores the substantial variable costs and the buy option price. It represents only a portion of the cost picture and does not reflect the overall advantage/disadvantage of making versus buying. Therefore, treating the answer as an overall financial consequence would be incorrect, because it omits the variable costs and the alternative purchase cost.

Option 3: $276,000
This amount would be larger than the total fixed cost and suggests a miscalculation where either variable costs are misapplied or the buy price is incorrectly integrated with fixed costs. If you attempt to back into this by summing fixed plus a misestimated variable or miscounting the buy price, you would end up with a value that cannot be reconciled with the actual costs: 812,000 (making) vs 720,000 (buy). The discrepancy indicates this option does not align with the correct cost comparison.

Option 4: ($92,000)
This value represents the correct net annual financial effect when comparing making versus buying. Reason: total cost of making is 634,000 (variable) + 178,000 (fixed) = 812,000. Total cost of buying is 18 × 40,000 = 720,000. The difference (making minus buying) equals 812,000 − 720,000 = 92,000, so making is more expensive by 92,000. Therefore the financial effect is a disadvantage of making, i.e., a negative $92,000. The parentheses around the amount indicate a negative value, reinforcing that it is a disadvantage rather than an advantage.

Summary of reasoning across options: Each option represents a distinct interpretation of the cost comparison. The correct approach totals both variable and unavoidable fixed costs when choosing to make, and compares to the all-in purchase price. The $86,000 option underestimates the total cost of making, the $178,000 option only captures fixed costs and ignores the higher overall cost when buying is cheaper, and the $276,000 option implies a much larger and inconsistent differential that cannot be derived from the given costs. The ($92,000) option aligns with the full cost comparison and correctly indicates a net disadvantage when manufacturing in-house versus buying from the outside supplier.

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