1. Relevant and irrelevant costs
Answer the following questions.
1. DeCesare Computers makes 5,200 units of a circuit board, CB76, at a cost of $280 each. Variable cost per unit is $190 and fixed cost per unit is $90. Peach Electronics offers to supply 5,200 units of CB76 for $260. If DeCesare buys from Peach it will be able to save $10 per unit in fixed costs but continues to incur the remaining $80 per unit. Should DeCesare accept Peach's offer? Explain.
2. LN Manufacturing is deciding whether to keep or replace an old machine. It obtains the following information:
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Old Machine
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New Machine
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Original cost
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$10,700
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$9,000
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Useful life
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10 years
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3 years
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Current age
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7 years
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0 years
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Remaining useful life
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3 years
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3 years
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Accumulated depreciation
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$7,490
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Not acquired yet
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Book value
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$3,210
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Not acquired yet
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Current disposal value (in cash)
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$2,200
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Not acquired yet
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Terminal disposal value (3 years from now)
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$0
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$0
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Annual cash operating costs
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$17,500
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$15,500
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LN Manufacturing uses straight-line depreciation. Ignore the time value of money and income taxes. Should LN Manufacturing replace the old machine? Explain.
2. Inventory decision, opportunity costs
Best Trim, a manufacturer of lawn mowers, predicts that it will purchase 204,000 spark plugs next year. Best Trim estimates that 17,000 spark plugs will be required each month. A supplier quotes a price of $9 per spark plug. The supplier also offers a special discount option: If all 204,000 spark plugs are purchased at the start of the year, a discount of 2% off the $9 price will be given. Best Trim can invest its cash at 10% per year. It costs Best Trim $260 to place each purchase order.
Required:
1. What is the opportunity cost of interest forgone from purchasing all 204,000 units at the start of the year instead of in 12 monthly purchases of 17,000 units per order?
2. Would this opportunity cost be recorded in the accounting system? Why?
3. Should Best Trim purchase 204,000 units at the start of the year or 17,000 units each month? Show your calculations.
4. What other factors should Best Trim consider when making its decision?
3. Theory of constraints, throughput contribution, relevant costs
The Pierce Corporation manufactures filing cabinets in two operations: machining and finishing. It provides the following information:
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Machining
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Finishing
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Annual capacity
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110,000 units
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90,000 units
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Annual production
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90,000 units
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90,000 units
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Fixed operating costs (excluding direct materials)
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$540,000
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$270,000
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Fixed operating costs per unit produced ($540,000 ÷ 90,000; $270,000 ÷ 90,000)
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$6 per unit
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$3 per unit
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Each cabinet sells for $70 and has direct material costs of $30 incurred at the start of the machining operation. Pierce has no other variable costs. Pierce can sell whatever output it produces. The following requirements refer only to the preceding data. There is no connection between the requirements.
Required:
1. Pierce is considering using some modern jigs and tools in the finishing operation that would increase annual finishing output by 1,150 units. The annual cost of these jigs and tools is $35,000. Should Pierce acquire these tools? Show your calculations.
2. The production manager of the Machining Department has submitted a proposal to do faster setups that would increase the annual capacity of the Machining Department by 9,000 units and would cost $4,000 per year. Should Pierce implement the change? Show your calculations.
3. An outside contractor offers to do the finishing operation for 9,500 units at $9 per unit, triple the $3 per unit that it costs Pierce to do the finishing in-house. Should Pierce accept the subcontractor's offer? Show your calculations.
4. The Hammond Corporation offers to machine 5,000 units at $3 per unit, half the $6 per unit that it costs Pierce to do the machining in-house. Should Pierce accept Hammond's offer? Show your calculations.
5. Pierce produces 1,700 defective units at the machining operation. What is the cost to Pierce of the defective items produced? Explain your answer briefly.
6. Pierce produces 1,700 defective units at the finishing operation. What is the cost to Pierce of the defective items produced? Explain your answer briefly.
4. Balanced scorecard
(R. Kaplan, adapted) Petrocal, Inc., refines gasoline and sells it through its own Petrocal gas stations. On the basis of market research, Petrocal determines that 60% of the overall gasoline market consists of "service-oriented customers," medium- to high-income individuals who are willing to pay a higher price for gas if the gas stations can provide excellent customer service, such as a clean facility, a convenience store, friendly employees, a quick turnaround, the ability to pay by credit card, and high-octane premium gasoline. The remaining 40% of the overall market are "price shoppers" who look to buy the cheapest gasoline available. Petrocal's strategy is to focus on the 60% of service-oriented customers. Petrocal's balanced scorecard for 2013 follows. For brevity, the initiatives taken under each objective are omitted.
Required:
1. Was Petrocal successful in implementing its strategy in 2013? Explain your answer.
2. Would you have included some measure of employee satisfaction and employee training in the learning-and-growth perspective? Are these objectives critical to Petrocal for implementing its strategy? Why or why not? Explain briefly.
3. Explain how Petrocal did not achieve its target market share in the total gasoline market but still exceeded its financial targets. Is "market share of overall gasoline market" the correct measure of market share? Explain briefly.
4. Is there a cause-and-effect linkage between improvements in the measures in the internal-business-process perspective and the measure in the customer perspective? That is, would you add other measures to the internal-business-process perspective or the customer perspective? Why or why not? Explain briefly.
5. Do you agree with Petrocal's decision not to include measures of changes in operating income from productivity improvements under the financial perspective of the balanced scorecard? Explain briefly.
5. Balanced Scorecard
SmoothAir is a no-frills airline that services the Midwest. Its mission is to be the only short-haul, low-fare, high-frequency, point-to-point carrier in the Midwest. However, there are several large commercial carriers offering air transportation, and SmoothAir knows that it cannot compete with them based on the services those carriers provide. SmoothAir has chosen to reduce costs by not offering many inflight services, such as food and entertainment options. Instead, the company is dedicated to providing the highest quality transportation at the lowest fare. SmoothAir's balanced scorecard measures (and actual results) for 2013 follow:
Required:
1. What is Smooth Air's strategy? Was SmoothAir successful in implementing its strategy in 2013? Explain your answer.
2. Based on the strategy identified in requirement 1 above, what role does the price-recovery component play in explaining the success of SmoothAir?
3. Would you have included customer-service measures in the customer perspective? Why or why not? Explain briefly.
4. Would you have included some measure of employee satisfaction and employee training in the learning-and-growth perspective? Would you consider this objective critical to Smooth Air for implementing its strategy? Why or why not? Explain briefly.
5. Why do you think Smooth Air has introduced environmental measures in its balanced scorecard? Is the company meeting its performance objectives in this area?