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CMA Final · Strategic Cost Management · Relevant Cost Analysis

Sagar Foods makes 10,000 units of a component at a cost per unit of: materials Rs 30, labour Rs 20, variable overhead Rs 10, and fixed overhead Rs 15 (allocated; 40% of it would be avoided if the component is bought). A supplier offers it at Rs 68 per unit. The released capacity has no alternative use. What is the effect of buying instead of making, on total annual cost?

Buying increases annual cost by Rs 20,000. The relevant cost of making is materials, labour, variable overhead and the avoidable fixed overhead of Rs 6, totalling Rs 66 per unit. The purchase price is Rs 68, so the Rs 2 difference on 10,000 units is extra cost.

  1. ASaving of Rs 20,000
  2. BAdditional cost of Rs 20,000Correct
  3. CAdditional cost of Rs 40,000
  4. DSaving of Rs 70,000

Explanation

Relevant make cost per unit = 30 + 20 + 10 + (40% of 15 = 6) = Rs 66. Buying costs Rs 68, so extra Rs 2 per unit x 10,000 = Rs 20,000 additional cost. Comparing Rs 68 with Rs 60 (variable only) would wrongly show Rs 80,000 extra, and comparing with full cost Rs 75 would wrongly show a saving.

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