The Stephanie Company uses 5,000 units of part 666 each year. The full manufacturing cost of one unit of part 666 at this volume is:
Direct materials $ 5.00
Direct labor 7.50
Variable manufacturing overhead 3.00
Average fixed manufacturing overhead 2.00
Total $17.50
An outside supplier has offered to sell Stephanie unlimited quantities of part 666 at a unit cost of $17.00. If Stephanie accepts this offer, it can eliminate 60 percent of the fixed costs assigned to part 666. Furthermore, the space devoted to the manufacture of part 666 can be rented to another company for $10,000 per year.
a. Determine in dollars, the increase or decrease of annual profits from Stephanie accepting the offer of the outside supplier.
b. Should Stephanie accept the offer from the outside supplier? What potential issues does Stephanie have to consider?
c. What are the two potential problems frequently encountered in relevant-cost analysis? How do they relate to Stephanie’s decision?