Question 4

Sam Company Ltd. produces a range of products and absorbs production overhead using a rate of 168% on direct wages. The absorption rate was calculated from following budgeted figures:

＄

Direct wages 100,000

Fixed production overhead 90,000

Variable production overhead 78,000

Sam is making component W, which is an essential part of product M. The cost of making component W is as follows:

＄

Raw material 10

Direct wages 8

Production overhead 18

36

It is found that component W could be bought from an outside supplier at ＄21. It is unlikely to reduce any production costs even if component W is acquired from outside.

Required:

(a)Determine the overhead absorption rate.

(b)Advise whether the company should continue making component W or buy it from outside.