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Question 2
Micron’s Plastic Department currently produces 5000 pairs of skates annually using their
full capacity. However, the management believes that they can better utilize their capacity if
they produced 12,000 snowboard bindings at $60 per binding, instead of producing skates.
They will then outsource the skates from an outside suppliers at $75 per skates, in order to
retain their current business and customers . Furthermore, Micron believes that they could sell
around 8000 pairs of skates annually if they had sufficient capacity.
To determine which product mix will generate highest possible benefit require us to
calculate contribution margin, which determines the profit after variable costs. Fixed costs are
not considered when making a decision of either buying or purchasing a product. This is
because fixed costs are irrelevant cost, they do not change with level of activity and are
constant within the relevant range.
The optimal product mix that will maximize Micron’s operating profit is manufacturing
12000 skateboard bindings, 1000 pair of skates and purchasing 6000 pair of skates from Colcott
Inc. This is because skateboard bindings has the highest contribution margin per machine hour
of $40, while pair of skates has a contribution margin per machine hour of $22. Hence, Micron
should produce maximum number of snowboard bindings to increase their profitability. In
order to manufacture 12,000 snowboard bindings it uses up 80% of capacity, in other words, it
uses 6000 machine hours out of 7500 total machine hours. This leaves Micron with left over
capacity of 20% or 1500 machine hours, which will allow them to produce 1000 pair of skates
in-house and purchase the rest externally from an outside supplier to attain the highest
possible benefit.
Below I have calculated contribution margin and operating benefit for the product mix:
Though, contribution margin plays a major role in deciding whether to make or buy a product.
It is highly important to consider qualitative factors as well, as they impact long-term
profitability. Some of the qualitative factors that Micron must consider before making their
Make sure to do a quality check of the outside supplier’s products to ensure that it will
meet the needs of the customers.
Actual cost incurred for snowboards can be higher than estimated cost, as events could
come up during the process which are unexpected, Such as:
o Employees might take up more time than budgeted
o Might use up more direct material than expected
With new product launches, there is always a risk of failure
o Snowboard bindings might not be accepted by its customers, if it fails to meet
their needs
o It may damage Micron’s reputation and negatively impact the overall business
Ensure that the decision of outsourcing skates does not negatively impact
employee’s morale.