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Make or Buy Decision

Acme Industries is currently purchasing part no. 76 from an outside supplier for $80 per unit. Because of supplier reliability problems, the company is considering producing the part internally in a currently idle manufacturing plant. Annual volume over the next six years is expected to total 300,000 units at variable manufacturing costs of $75 per unit.

Acme must acquire $80,000 of new equipment if it reopens the plant. The equipment has a six-year service life and a $14,000 salvage value, and will be depreciated by the straight-line method. Repairs and maintenance are expected to average $5,200 per year in years 4-6, and the equipment will be sold at the end of its life.

A. Rounding to the nearest dollar, use the net-present-value method (total-cost approach) and a 12% hurdle rate to determine whether Mitchell should make or buy part no. 76.
B. Suppose that Mitchell is able to negotiate a lower purchase price from its supplier. At what purchase price would management be financially indifferent between making or buying part no. 76?

Solution Summary

Calculates NPV to evaluate a make or buy decision.