Saguaro Systems produces and sells stereo systems for MP3 players. The following information has been collected about the costs related to the systems:
Selling price per unit $70
Production costs per unit
Direct materials $22
Direct labor 16
Variable overhead 2
Total fixed overhead $360,000
Saguaro normally produces 25,000 of these systems per year.
The managers are deciding whether to outsource production to a Mexican company that has offered to produce these systems for $48 each. The managers estimate that $260,000 of Saguaro's fixed costs could be eliminated if they accept the offer. Direct labor employees are guaranteed pay for 40 hours per week and rarely work overtime.
REQUIRED:
A. Which type of nonroutine operating decision is involved here? What are the managers' decision options? What quantitative information is relevant to the decision?
B. Perform a quantitative analysis for the decision, and present your results in a schedule.
C. Under the general decision rule for this type of decision, what production level is required for Saguaro's managers to be indifferent?
D. List as many business risks as you can for this decision.