Problem:
The manufacturing division of Coltson Inc. produces and sells 100,000 widgets. Half of the widgets are sold externally at $150 per unit, and the other half are sold internally at variable manufacturing costs plus 10 percent. Coltson uses variable costing to evaluate the manufacturing division. The following summarizes the cost structure of the manufacturing division.
Variable Manufacturing Costs
Materials $ 27.00
Labor 12.00
Overhead 4.00
Total manufacturing cost $ 43.00
Fixed manufacturing overhead $ 1,700,000
Variable period costs (per units) $ 18.00
Fixed period costs $ 1,900,000
i. Calculate the net income of the manufacturing division (before taxes) using variable costing.
ii. Manufacturing can outsource the final assembly of all 100,000 widgets for $9.00 per modulator. If it does this, it can reduce variable manufacturing cost by $1.00 per unit and fixed manufacturing overhead by $700,000. If the managers of the manufacturing unit are compensated based on manufacturing's net income before taxes, do you expect them to outsource the final assembly of the widgets? Show calculations and provide a detailed explanation as to the incentives that led to the manager's decision.
iii. What happened to the net cash flows of Coltson Inc. if the final assembly of the widgets is outsourced? [I also need clarification; does net income mean the same thing as net cash flows?] Provide an explanation that includes a discussion of how net cash flow changes separately for Colston Inc. and for the manufacturing division.