A cheaper supplier quote can still cost more

A supplier offers to make a component for $9. Your internal report says it costs $10. Buying looks like a dollar saved on every unit.

Before counting that saving, find out how much of the $10 would actually stop being spent. A share of head-office overhead can disappear from the component's cost report while the business keeps paying the same bills.

Follow the costs through the same period

Consider an invented manufacturer that needs 10,000 identical, usable components next quarter. Making them meets the required quality and delivery schedule. Its report assigns these costs to that quarter's production:

• Materials, production labor and variable operating costs: $70,000.
• Fixed costs specific to this work that would cease if it bought instead: $10,000.
• Allocated overhead that would continue under either choice: $20,000.

The reported total is $100,000, or $10 per component. For this illustration, all three amounts represent future payments within the quarter. The first $70,000 really can be eliminated if production stops; the labor portion is included only because the example assumes those particular payments would cease. That needs evidence in a real operation. A wage allocated to a component is not automatically avoidable.

The supplier offers all 10,000 usable components for $90,000, on the same required schedule. In this first version, there are no additional buying or transition costs, no change in customer receipts and no productive alternative use for the released capacity. No assets are bought or sold. Financing and taxes are outside the comparison.

Keeping production inside uses $100,000. Buying uses $90,000 for the components plus the $20,000 of overhead still payable: $110,000. Buying costs $10,000 more.

There is a shorter way to reach the same answer. Subtract the continuing $20,000 from both alternatives. Making has $80,000 of avoidable costs; buying costs $90,000. The gap is still $10,000. The relevant internal comparison is $8 per component, not the reported $10.

That does not make the continuing overhead imaginary or unimportant. It still needs funding. It simply does not favor one of these two choices because the same amount remains in each.

Establish what can end and when

“Fixed” describes how a cost behaves as activity changes within a range. It does not tell you whether a particular decision can remove it. The example's $10,000 fixed payment ends under the buying option; its $20,000 shared overhead does not.

Write an end date and supporting evidence beside each proposed saving. A payment might continue this quarter but end later. If so, a first-quarter comparison and a later-quarter comparison need different figures. Do not count a full year's savings against one quarter's supplier bill, or spread an immediate transition payment across periods without showing when it must be funded.

Changing an allocation between departments does not establish that a business payment has ended. And a supplier quotation, by itself, establishes nothing about changes to anyone's employment.

Add the work that buying creates

Now change the example. Buying also requires $1,500 of freight, $1,000 of additional receiving and inspection payments, and a $1,500 transition payment, all in the same quarter. These are additional payments, not existing wages counted a second time.

The extra $4,000 raises the buying total to $114,000, including continuing overhead. Without another benefit, buying is now $14,000 worse than making.

For a real quote, establish the cost of obtaining the required number of accepted components by the required dates. Freight, rejected batches, rework, minimum purchases and backup supply can change that amount. Quality and delivery also have to be acceptable even when their consequences cannot be estimated confidently in dollars. An unpriced risk should remain visible, rather than quietly becoming zero.

Give released capacity a specific use

Suppose a separate, feasible order can use the released production capacity in that same quarter. It would bring in $30,000 and require $14,000 in additional payments, leaving $16,000 before the unchanged overhead. All receipts and payments occur within the quarter.

In this version, the order can only be fulfilled if the components are bought. It fits the released equipment and staff time, has credible demand, needs no further investment and displaces no existing promise. The $14,000 includes every additional payment needed for it, with no overlap with the buying costs already listed.

Buying was $14,000 worse before this order. Its $16,000 additional contribution makes buying $2,000 better under the revised assumptions.

Check the complete comparison too: $90,000 for components, plus $4,000 of buying costs, plus $20,000 of continuing overhead, plus $14,000 for the new order, less $30,000 of receipts, leaves $98,000 of net payments. Making still uses $100,000. Both methods give the same $2,000 difference.

Empty machine hours alone would supply none of that $16,000. If the order could also be fulfilled while making the components, its contribution would not be a benefit created by buying.

When the same paid hours have another use

A reported contribution can subtract wages that the business would keep paying after moving someone to another job. Using that figure alone can understate the work being given up.

Consider a separate invented framing studio choosing between two customer offers on Monday morning. Neither has been accepted. Each requires the same qualified employee for the week's forty available hours, including preparation, checks and delivery. Either offer can be completed by Friday, but the studio cannot fit both. There are no other staffing commitments, overtime, temporary workers or later delivery options in this example.

The employee's $1,200 wage is already committed for the week and stays payable under either choice. The gallery offer pays $5,000 and requires $1,200 of materials and outside services. The museum offer pays $4,600 and requires $1,100 of those costs. All required resources are available. There are no other cash flows in the modeled week; financing and taxes are outside the illustration.

An internal gallery report subtracts both $1,200 amounts from $5,000 and calls the remaining $2,600 its contribution. That report has charged the employee's wage to the gallery work. It has not established that payroll would fall by $1,200 if the museum offer were chosen.

The gallery choice leaves $3,800 after the payments that actually disappear when that work is declined: $5,000 less $1,200. That is the report's $2,600 plus the $1,200 wage that stays payable. Moving the employee gives up that $3,800. The museum brings $3,500 after its own $1,100 nonlabor payments. The switch leaves the business $300 worse off.

Subtracting only the reported $2,600 from the museum's $3,500 would claim a $900 improvement. That calculation quietly treats $1,200 of wages as saved on the gallery work even though the same employee remains paid.

• Gallery: $5,000 received − $1,200 materials and outside services − $1,200 wages = $2,600 from the listed cash flows.
• Museum: $4,600 received − $1,100 materials and outside services − $1,200 wages = $2,300 from the listed cash flows.

Give each alternative the same $3,000 opening cash. Materials and outside services are paid on Monday; the wage is paid at noon on Friday; the customer's full payment arrives at 5 p.m. Friday. The gallery path has $600 left just before collection and closes at $5,600. The museum path has $700 before collection and closes at $5,300. Both schedules are funded under the supplied opening balance, and the closing difference is still $300.

Both complete alternatives deduct the wage once. Their $300 difference agrees with comparing $3,800 and $3,500 before that unchanged payment. Do not then add another $1,200 wage charge to either complete alternative.

ACCA's relevant-costs explanation makes this distinction for retained staff redirected from other work. Before using a reported contribution as the benefit forgone, check which payments it has already subtracted.

Before accepting a quote, write down the quantity, period, payments that genuinely end, complete buying costs and any feasible alternative use of capacity. Keep the operating handoff beside the arithmetic: find the job an expense is doing before assuming it has disappeared.

For the underlying accounting concepts, see OpenStax on make-or-buy decisions and relevant information. The figures and scenarios here are original illustrations, not a recommendation for a particular business.

For a different perspective on running a business, read a sample of Infinite Upside: Building Wealth With Room to Live, Vijay Sheth's business memoir.