Riggs Company purchases sails and produces sailboats. It currently produces 1,300 sailboats per year, operating at normal capacity, which is about 80% of full capacity. Riggs purchases sails at $258 each, but the company is considering using the excess capacity to manufacture the sails instead. The manufacturing cost per sail would be $93 for direct materials, $83 for direct labor, and $90 for overhead. The $90 overhead is based on $78,000 of annual fixed overhead that is allocated using normal capacity. The president of Riggs has come to you for advice. "It would cost me $266 to make the sails," she says, "but only $258 to buy them. Should I continue buying them, or have I missed something?"

The president of Riggs is missing something. The cost of making the sails is $176 and therefore costs $82 lesser to make a sail rather than buy one.

Explanation:

Given the following ;

Direct material per sail = $93

Direct labor per sail = $83

Kindly Note the following :

Sail is manufactured while operating at 80% of full capacity

Overhead of $90 is based on annual fixed overhead while operating at normal capacity (that is 80% of full capacity). The implication his, to utilize the remaining 20%, no fixed overhead will have to be incurred.

All that is needed to make the sail will be the variable cost;

Direct material = $90

Direct labor = $83

Total variable cost = $(93 + 83) = $176

The president of Riggs has incorrectly included $90 overhead into the manufacturing cost of the sails.

Therefore, total manufacturing cost of the sails is $176 and not $266.

Therefore it costs $82 lesser to make a sail.

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-lavira : )