Model Answer
0 min readIntroduction
In modern manufacturing, companies frequently face decisions regarding whether to produce components internally or procure them from external suppliers. This ‘make-or-buy’ decision is a cornerstone of supply chain management and directly impacts a firm’s profitability and operational efficiency. The core principle guiding such decisions is cost analysis, considering not only direct costs but also relevant overheads and potential opportunity costs. This case study presents an automobile company evaluating whether to manufacture brakes in-house, given its existing capacity, or continue purchasing them from an external vendor. A thorough cost comparison will determine the most economically viable option.
Cost Analysis: Make vs. Buy
The automobile company is currently purchasing brakes for ₹500 each. To determine whether making the brakes in-house is more cost-effective, we need to analyze the relevant costs associated with internal production.
Cost Breakdown – Buying Brakes
- Purchase Price: ₹500 per unit
Cost Breakdown – Making Brakes
- Materials Cost: ₹100 per unit
- Labour Cost: ₹130 per unit
- Variable Overhead Cost: ₹30 per unit
- Total Variable Cost: ₹100 + ₹130 + ₹30 = ₹260 per unit
However, a complete analysis requires considering fixed costs. The question states the company has *additional* capacity. This implies that utilizing this capacity for brake production will not require incurring additional fixed costs (like new machinery or factory space). Therefore, only variable costs are relevant in this decision.
Comparative Cost Table
| Cost Component | Buying Brakes (₹ per unit) | Making Brakes (₹ per unit) |
|---|---|---|
| Materials | - | 100 |
| Labour | - | 130 |
| Variable Overhead | - | 30 |
| Fixed Overhead | - | 0 (Additional Capacity) |
| Purchase Price | 500 | - |
| Total Cost | 500 | 260 |
Recommendation
Based on the cost analysis, it is significantly more cost-effective for the automobile company to manufacture the brakes in-house. The total variable cost of ₹260 per unit is substantially lower than the purchase price of ₹500 per unit, resulting in a cost saving of ₹240 per unit.
Qualitative Considerations
While the quantitative analysis strongly favors in-house production, several qualitative factors should also be considered:
- Quality Control: Manufacturing in-house allows for greater control over the quality of the brakes.
- Supply Chain Reliability: Internal production reduces reliance on external suppliers, mitigating risks associated with supply chain disruptions.
- Technological Capabilities: Developing in-house manufacturing capabilities can enhance the company’s technological expertise.
- Potential for Innovation: Internal production can foster innovation in brake design and manufacturing processes.
However, the company should also assess the potential impact on existing production schedules and the availability of skilled labor. If utilizing the additional capacity for brake production disrupts other profitable activities, a more comprehensive analysis, including opportunity cost, would be necessary.
Conclusion
In conclusion, the quantitative cost analysis clearly indicates that the automobile company should proceed with manufacturing brakes in-house, leveraging its existing additional capacity. The substantial cost savings of ₹240 per unit outweigh the potential qualitative risks, provided the company can manage the production process effectively without disrupting other operations. A continuous monitoring of costs and quality control measures will be crucial to ensure the long-term success of this strategic decision.
Answer Length
This is a comprehensive model answer for learning purposes and may exceed the word limit. In the exam, always adhere to the prescribed word count.