Business Decisions Scenario Analysis

Assessment Task 3:

Business Decisions Scenario Analysis

Question 1:25%

Analysis of Special order; Ethics: Manufacturing Situation

Winners Trophies Ltd manufactures medals for winners of athletic events and other contests. Its manufacturing plant has the capacity to produce 10,000 medals each month. Current monthly production is 7,500 medals.

The company normally charges $175 per medal. Variable costs and fixed costs for the current activity level of 75 per cent of capacity are as follows:

Winners Trophies

Current Costs of Operations @ 75% Capacity Utilisation

Variable Costs - Manufacturing Direct materials $262,500 Conversion Costs 375,000 $637,500

Variable Marketing Costs 187,500

Total Variable Costs $825,000

Fixed Costs Manufacturing $275,000

Marketing 175,000

Total Fixed Costs $450,000

Total Costs $1,275,000

Unit Costs

Variable Per Unit $110

Fixed Cost Per Unit 60

Total Unit Costs $170

Winner's Circle has just received a special one-time order for 2,500 medals at $100 per medal. For this particular offer, no variable marketing costs will be incurred. Janice Williams, a management accountant with Winner's Circle, has been assigned the task of analysing this order and recommending whether the company should accept or reject it. After examining the costs, Williams suggested to her supervisor, Claude Benson, who is the controller, that they request competitive bids from vendors for the raw material, as the current quote

seems high. Benson insisted that the prices are in line with other vendors and told her that she was not to discuss her observations with anyone else. Williams later discovered that Benson is a brother-in-law of the owner of the current raw material supplier.

Required:

1. Identify and explain the costs that will be relevant to Janice Williams's analysis of the special order being considered by Winner's Circle ltd. (5 marks)

2. Determine whether Winner's Circle should accept the special order. In explaining your answer, calculate both the new average unit cost and the incremental unit cost for the special order.(5 marks)

3. Discuss any other considerations that Williams should include in her analysis of the special order.(5 marks)

4. What steps could Williams take to resolve the ethical conflict arising out of the controller's insistence that the company avoid competitive bidding? (5 marks)

5. Construct an Excel spreadsheet to solve requirement 2. Show how the solution will change if the sales price is $170 per medal.(5 marks)

Total descriptive answers should not exceed 500 words not including quantitative reports to be included either in a separate Excel spreadsheet or a Word document.

Question 2:25%

Make or Buy: Outsourcing decision; relevant costs; ethics: manufacturer

The NSW division of Amana Motor Corporation (AMC) manufactures sub-assemblies that are used in their final products. Marilyn Hammond of the division's profit planning department has been assigned the task of determining whether a component, AIR-P76, should continue to be manufactured by the division or purchased from Jensen Motor Company, an outside supplier. AIR-P76 is part of a sub-assembly manufactured by the division.

Jensen Motor has submitted a bid to manufacture and supply the 32,000 units of AIR-P76 that the NSW division will need for next year at a unit price of $34.60. Jensen Motor has assured AMC that the units will be delivered according to AMC's production specifications and needs. While the contract price of $34.60 is only applicable to next year, Jensen Motor is interested in entering into a long-term arrangement.

Hammond has gathered the following information regarding the NSW division's costs to manufacture AIR-P76 in the current year. These annual costs will be incurred to manufacture 30,000 units.

Manufacturing Costs - AIR-P76

Direct material $390,000

Direct labour 240,000

Factory space rental 168,000

Equipment leasing costs 72,000

Other manufacturing costs 450,000

Total manufacturing costs $1,320,000

Direct materials used in the production of AIR-P76 are expected to increase by 8 per cent next year.

The NSW division's direct-labour contract calls for a 5 per cent increase next year.

The facilities used to manufacture AIR-P76 are rented under a month-to-month rental agreement. This the division can withdraw from the rental agreement without any penalty. The division will have no need for this space if JY65-is not manufactured.

Equipment leasing costs represent special equipment that is used in the manufacture of AIR-P76. This lease can be terminated by paying the equivalent of one months lease payment for each year left on the lease agreement . The division has two years left on the lease agreement from the beginning of next year.

Forty percent (40%) of the other manufacturing overhead is considered variable. Variable overhead changes with the number of units produce, and this rate per unit is not expected to change next year. The fixed manufacturing overhead costs are not expected to change regardless of whether AIR-P76 is manufactured or not. Equipment other than the leased equipment can be used in the divisions other manufacturing operations.

James Patterson, the manager of the NSW division, stopped by Hammonds office to voice his concern regarding the outsourcing of AIR-P76. Patterson commented:

I am really concerned about outsourcing AIR-P76. I have a son-in-law and a nephew, not to mention a member of our bowling team, who work on AIR-P76. They could lose their jobs if we buy that component from Morley. I really would appreciate anything you can do to make sure the cost analysis comes out right to show we should continue making AIR-P76. Corporate is not aware of the material increases and maybe you could leave out some of those fixed costs. I just think that we should continue making AIR-P76!

Required:

1. (a)Prepare an analysis of relevant costs that shows whether or not the NSW division of AMC should make AIR-P76 or purchase it from Jensen Motor Company next year. (10 marks)

(b) Based solely on financial results, recommend whether the 32, 000 units of AIR-P76 for next year should be made by the division or purchased from Jensen Motor.(5 marks)

2. Identify and briefly discuss three qualitative factors that the NSW division and AMC should consider before agreeing to purchase AIR-P76 from Jensen Motor Company. (5 marks)

3.With reference to ethical conduct, give reasons why Marilyn Hammond might consider the request of James Patterson to be unethical.(5 marks)

Total descriptive answers should not exceed 500 words not including quantitative reports to be included either in a separate Excel spreadsheet or a Word document.

Question 3:25%

Hospital Products Ltd Profit Planning -Cost-Volume-Profit Analysis

Hospital Supply Ltd produces hydraulic hoists that are used by hospitals to move bedridden patients. The costs of manufacturing and marketing hydraulic hoists at the companys normal capacity volume of 3,000 units per month are shown below:

Exhibit 1 - Costs Per Unit of Hydraulic Hoists

Unit Manufacturing Costs

Variable Materials $550 Variable Labour 825 Variable Overhead 420 Fixed Overhead 660 Total per unit Manufacturing Costs $2,455

Unit Marketing Costs Variable 275 Fixed Overhead 770 Total per unit Marketing Costs 1,045

Total Cost per Unit $3,500

The following questions refer only to the data given in Exhibit 1. Unless otherwise stated, assume there is no connection between the situations described in the questions; treat each independently.

Unless otherwise stated, assume a regular selling price of $4,350 per unit.

Ignore income taxes and other costs not mentioned in Exhibit 1 or in a question itself.

Questions:

(a)What is the break-even volume in Units?

(b)What is the break-even in Sales ($) dollars?(4 marks)

2.Market research estimates that monthly volume could increase to 3,500 units, which is well within hoist production capacity limitations, if the price were cut from $4,350 to $3,850.

Assuming the cost behaviour patterns included in Exhibit 1 are correct, would you recommend that this action be taken? What would be the impact on monthly sales, costs, and income if this proposal was implemented?(4 marks)

3.On 1st March, a contract offer is made to Hospital Products by the Commonwealth Government to supply 500 units to regional hospitals for delivery by 31st March. Because of an unusually large number of rush orders from its regular customers, Hospital Products plans to produce 4,000 units during March, which will use all available capacity. If the Government order is accepted, 500 units normally sold to regular customers would be lost to a competitor. The contract offered by the government would reimburse the governments share of March production costs, plus pay a fixed fee (profit) of $275,000. (There would be no variable marketing costs incurred on the governments units). (4 marks)

What impact would accepting the government contract have on March profits?

4.Hospital Products has an opportunity to enter a foreign market in which price competition is keen. An attraction of the foreign market is that demand there is greatest when demand in the domestic market is quite low; thus idle production facilities could be used without affecting domestic business. An order for 1,000 units is being sought at a below-normal price in order to enter this market. Shipping costs for this order will amount $410 per unit, while total costs of obtaining the contract (marketing costs) will be $22,000.

What is the MINIMUM unit price Hospital Products should consider for this order of 1,000 units?(4 marks)

An inventory of 200 units of an obsolete model of the hoist remains in the storeroom. These must be sold through regular channels at reduced prices or the inventory will soon be valueless.

What is the minimum price that would be acceptable in selling these units? (4 marks)

A proposal is received from an outside contractor who will make 1,000 hydraulic hoist units per month and ship them directly to Hospital Products customers as orders are received from Hospital Products sales force. Hospital Products fixed marketing costs would be unaffected, but its variable marketing costs would be cut by 20% (to $220 per unit) for these 1,000 units produced by the sub-contractor.

Hospital products plant would operate at two-thirds of its normal level and total fixed manufacturing costs would be cut by 30% to $1,386,000.

What in-house unit costs should be used to compare with the quotation received from the supplier?

Should the proposal be accepted for a price (ie., payment to the contractor) of $2,475 per unit?(5 marks)

Total descriptive answers should not exceed 500 words not including quantitative reports to be included either in a separate Excel spreadsheet or a Word document.