To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com CHAPTER 19 BALANCED SCORECARD: QUALITY, TIME, AND THE THEORY OF CONSTRAINTS 19-1 Quality costs (including the opportunity cost of lost sales because of poor quality) can be as much as 10% to 20% of sales revenues of many organizations Quality-improvement programs can result in substantial cost savings and higher revenues and market share from increased customer satisfaction 19-2 Quality of design refers to how closely the characteristics of a product or service meet the needs and wants of customers Conformance quality refers to the performance of a product or service relative to its design and product specifications 19-3 Exhibit 19-1 of the text lists the following six line items in the prevention costs category: design engineering; process engineering; supplier evaluations; preventive equipment maintenance; quality training; and testing of new materials 19-4 An internal failure cost differs from an external failure cost on the basis of when the nonconforming product is detected An internal failure is detected before a product is shipped to a customer, whereas an external failure is detected after a product is shipped to a customer 19-5 Three methods that companies use to identify quality problems are: (a) a control chart which is a graph of a series of successive observations of a particular step, procedure, or operation taken at regular intervals of time; (b) a Pareto diagram, which is a chart that indicates how frequently each type of failure (defect) occurs, ordered from the most frequent to the least frequent; and (c) a cause-and-effect diagram, which helps identify potential causes of failure 19-6 No, companies should emphasize financial as well as nonfinancial measures of quality, such as yield and defect rates Nonfinancial measures are not directly linked to bottom-line performance but they indicate and direct attention to the specific areas that need improvement to improve the bottom line Tracking nonfinancial measures over time directly reveals whether these areas have, in fact, improved over time Nonfinancial measures are easy to quantify and easy to understand 19-7 Examples of nonfinancial measures of customer satisfaction relating to quality include the following: the number of defective units shipped to customers as a percentage of total units of product shipped; the number of customer complaints; delivery delays (the difference between the scheduled delivery date and date requested by customer); on-time delivery rate (percentage of shipments made on or before the promised delivery date); customer satisfaction level with product features (to measure design quality); market share; and percentage of units that fail soon after delivery 19-1 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19-8 Examples of nonfinancial measures of internal-business-process quality: the percentage of defects for each product line; process yield (rates of good output to total output at a particular process; manufacturing lead time (the amount of time from when an order is received by production to when it becomes a finished good); and number of product and process design changes 19-9 Customer-response time is how long it takes from the time a customer places an order for a product or a service to the time the product or service is delivered to the customer Manufacturing lead time is how long it takes from the time an order is received by manufacturing to the time a finished good is produced Manufacturing lead time is only one part of customer-response time Delays in delivering an order for a product or service can also occur because of delays in receiving customer orders and delays in delivering a completed order to a customer Customer Order Order Order response = receipt + manufacturing + delivery time time lead time time 19-10 No There is a trade-off between customer-response time and on-time performance Simply scheduling longer customer-response time makes achieving on-time performance easier Companies should, however, attempt to reduce the uncertainty of the arrival of orders, manage bottlenecks, reduce setup and processing time, and run smaller batches This would have the effect of reducing both customer-response time and improving on-time performance 19-11 Two reasons why lines, queues, and delays occur is (1) uncertainty about when customers will order products or services––uncertainty causes a number of orders to be received at the same time, causing delays, and (2) limited capacity and bottlenecks––a bottleneck is an operation where the work to be performed approaches or exceeds the available capacity 19-12 No Adding a product when capacity is constrained and the timing of customer orders is uncertain causes delays in delivering all existing products If the revenue losses from delays in delivering existing products and the increase in carrying costs of the existing products exceed the positive contribution earned by the product that was added, then it is not worthwhile to make and sell the new product, despite its positive contribution margin The chapter describes the negative effects (negative externalities) that one product can have on others when products share common manufacturing facilities 19-13 The three main measures used in the theory of constraints are the following: throughput contribution equal to revenues minus direct material cost of the goods sold; investments equal to the sum of materials costs in direct materials, work-in-process and finished goods inventories, research and development costs, and costs of equipment and buildings; operating costs equal to all costs of operations such as salaries, rent, and utilities (other than direct materials) incurred to earn throughput contribution 19-2 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19-14 The four key steps in managing bottleneck resources are: Step 1: Recognize that the bottleneck operation determines throughput contribution of the entire system Step 2: Search for, and identify the bottleneck operation Step 3: Keep the bottleneck operation busy, and subordinate all nonbottleneck operations to the bottleneck operation Step 4: Increase bottleneck efficiency and capacity 19-15 The chapter describes several ways to improve the performance of a bottleneck operation Eliminate idle time at the bottleneck operation Process only those parts or products at the bottleneck operation that increase throughput contribution, not parts or products that will remain in finished goods or spare parts inventories Shift products that not have to be made on the bottleneck machine to nonbottleneck machines or to outside processing facilities Reduce setup time and processing time at bottleneck operations Improve the quality of parts or products manufactured at the bottleneck operation 19-3 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19-16 (30 min.) Costs of quality The ratios of each COQ category to revenues and to total quality costs for each period are as follows: Costen, Inc.: Semi-annual Costs of Quality Report (in thousands) 6/30/2006 12/31/2006 6/30/2007 12/31/2007 % of Total % of Total % of Total % of Total % of Quality % of Quality % of Quality % of Quality Actual Revenues Costs Actual Revenues Costs Actual Revenues Costs Actual Revenues Costs (1) (2) = (3) = (4) (5) = (6) = (7) (8) = (9) = (10) (11) = (12) = (1) ÷ $8,240 (1) ÷ $2,040 (4) ÷ $9,080 (4) ÷ $2,159 (7) ÷ $9,300 (7) ÷ $1,605 (10) ÷ $9,020 (10) ÷ $1,271 Prevention costs Machine maintenance Supplier training Design reviews Total prevention costs Appraisal costs Incoming inspection Final testing Total appraisal costs Internal failure costs Rework Scrap Total internal failure costs External failure costs Warranty repairs Customer returns Total external failure costs Total quality costs 165 570 735 $2,040 Total production and revenues $8,240 $440 20 50 510 108 332 440 231 124 355 6.2% 5.3% 4.3% 8.9% 24.7% 25.0% $440 100 214 754 21.6% 123 332 455 17.4% 202 116 318 36.0% 100.0% 85 547 632 $2,159 $9,080 19-4 8.3% 5.0% 3.5% 7.0% 23.8% 34.9% $390 50 210 650 21.1% 90 293 383 14.7% 165 71 236 29.3% 100.0% 72 264 336 $1,605 $9,300 7.0% 4.1% 2.5% 3.6% 17.2% 40.5% $330 40 200 570 6.3% 44.9% 23.9% 63 203 266 3.0% 20.9% 14.7% 112 67 179 2.0% 14.1% 20.9% 100.0% 68 188 256 $1,271 2.8% 14.1% 20.1% 100.0% $9,020 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com From an analysis of the Cost of Quality Report, it would appear that Costen, Inc.’s program has been successful because: Total quality costs as a percentage of total revenues have declined from 24.7% to 14.1% External failure costs, those costs signaling customer dissatisfaction, have declined from 8.9% of total revenues to 2.8% of total revenues and from 36% of all quality costs to 20.1% of all quality costs These declines in warranty repairs and customer returns should translate into increased revenues in the future Internal failure costs as a percentage of revenues have been halved from 4.3% to 2% Appraisal costs have decreased from 5.3% to 3% of revenues Preventing defects from occurring in the first place is reducing the demand for final testing Quality costs have shifted to the area of prevention where problems are solved before production starts: total prevention costs (maintenance, supplier training, and design reviews) have risen from 25% to 44.9% of total quality costs The $60,000 increase in these costs is more than offset by decreases in other quality costs Because of improved designs, quality training, and additional pre-production inspections, scrap and rework costs have almost been halved while increasing sales by 9.5% Production does not have to spend an inordinate amount of time with customer service since they are now making the product right the first time and warranty repairs and customer returns have decreased To estimate the opportunity cost of not implementing the quality program and to help her make her case, Jessica Tolmy could have assumed that: Sales and market share would continue to decline if the quality program was not implemented and then calculated the loss in revenue and contribution margin The company would have to compete on price rather than quality and calculated the impact of having to lower product prices Opportunity costs are not recorded in accounting systems because they represent the results of what might have happened if the company had not improved quality Nevertheless, opportunity costs of poor quality can be significant It is important for Costen to take these costs into account when making decisions about quality 19-5 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19-17 (20 min.) Costs of quality analysis, nonfinancial quality measures & Revenues Costs of Quality Prevention costs Design engineering Preventive equipment maintenance Supplier evaluation Total prevention costs 2007 $20,000,000 Percentage of Revenues Cost (4) = (3) ÷ (3) $20,000,000 $ 210,000 110,000 80,000 400,000 Appraisal costs Inspection of production Product-testing labor and equipment Incoming materials inspection Total appraisal costs 220,000 530,000 50,000 800,000 Internal failure costs Scrap and rework Breakdown maintenance Total internal failure costs 720,000 180,000 900,000 External failure costs Cost of returned goods Customer support Warranty repair Total costs of quality 120,000 80,000 1,000,000 1,200,000 $3,300,000 19-6 2008 $25,000,000 Percentage of Revenues Cost (2) = (1) ÷ (1) $25,000,000 2.0% $ 600,000 200,000 200,000 1,000,000 4.0% 4.0% 170,000 250,000 80,000 500,000 2.0% 4.5% 670,000 80,000 750,000 3.0% 6.0% 16.5% 300,000 65,000 635,000 1,000,000 $3,250,000 4.0% 13.0% To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Percentage of Revenues Preston Corp: Costs of Quality as a Percentage of Revenues 20.0% 16.5% 13.0% 15.0% 2007 10.0% 5.0% 4.5% 4.0% 2.0% 4.0% 2.0% Prevention Appraisal 6.0% 3.0% 2008 4.0% 0.0% Internal Failure External Failure Total COQ Category Between 2007 and 2008, Preston’s costs of quality have declined from 16.5% of sales to 13% of sales The analysis of individual costs of quality categories indicates that Preston began allocating more resources to prevention activities––design engineering, preventive maintenance and supplier evaluations in 2008 relative to 2007 As a result, appraisal costs declined from 4% of sales to 2% of sales, costs of internal failure fell from 4.5% of sales to 3%, and external failure costs decreased from 6% of sales to 4% The one concern here is that, although external failure costs have decreased, the cost of returned goods has more than doubled, on a 25% rise in revenues Preston’s management should investigate the reasons for this and initiate corrective action Examples of nonfinancial quality measures that Preston Corporation could monitor in its balanced scorecard as part of a total quality-control effort are the following: a number of defective units shipped to customers as a percentage of total units shipped; b ratio of good output to total output at each production process; and c percent of customers who would buy another Preston product or recommend it as their top choice to other potential buyers 19-7 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19-18 (25 min.) Costs-of-quality analysis, nonfinancial quality measures & Frostaire % of Revs Coolaire % of Revs Revenues (20,000 units $1,500 per unit; 40,000 units $500/unit) $30,000,000 $20,000,000 Prevention costs: Design (7,500 hrs; 2,500 hrs $80 per hour) 600,000 2.00% 200,000 1.00% 1,000,000 3.33% 300,000 1.50% 300,000 1.00% 480,000 2.40% 320,000 1.07% 576,000 2.88% 350,000 $2,570,000 1.17% 8.57% Appraisal: Testing and inspection (1 hr/unit 20,000 units; 0.15 hr/unit 40,000 units $50/hour) Internal failure: Rework (5% 20,000 units $300 per unit; 10% 40,000 units $120 /unit) External failure: Repair (4% 20,000 units $400/unit; 8% 40,000 units $180/unit) Lost contribution due to poor quality (500 ($1,500 – $800); 4,000 ($500 – $300)) Total cost of quality 800,000 4.00% $2,356,000 11.78% Overall, Frostaire seems to be of higher quality than Coolaire The total cost of quality for Frostaire is 8.57% of revenues, versus 11.78% for Coolaire This quality advantage may be related to Ambrose's ability to sell Frostaire at $1,500 per unit versus Coolaire at $500 per unit and also to the larger lost contribution due to poor quality from Coolaire than from Frostaire ($800,000 or 4% of revenues due to Coolaire; $350,000 or 1.17% of revenues due to Frostaire) In the Frostaire line, the focus of quality efforts is on prevention and appraisal (total of 5.33% of revenues spent on quality, versus 2.5% in the case of Coolaire); in the Coolaire line, quality resources are mostly spent on internal and external failure costs and opportunity costs (total of 9.28% of revenues versus 3.24% for Frostaire) Examples of nonfinancial quality measures that Ambrose Industries could monitor in its balanced scorecard as part of a total-quality program: a number of defective units shipped to customers as a percentage of total units shipped; b ratio of good output to total output at each production process; and c percent of customers who would buy another Ambrose product or recommend it as their top choice to other potential buyers 19-8 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19-19 (25 min.) Nonfinancial measures of quality and time 2006 2007 a Percentage of defective units shipped 400 = 4% 10,000 330 = 3% 11,000 b On-time delivery 8,500 = 85% 10,000 9,900 = 90% 11,000 c Customer complaints as a percentage of units shipped 500 = 5% 10,000 517 = 4.7% 11,000 d Percentage of units reworked during production 600 = 6% 10,000 627 = 5.7% 11,000 The calculations in requirement indicate that ESC’s performance on both quality and timeliness has improved Quality has improved because: (a) percentage of defective units shipped has decreased from 4% to 3%; (b) customer complaints have decreased from 5% to 4.7%; and (c) percentage of units reworked during production has decreased from 6% to 5.7% Timeliness has improved as on-time delivery has increased from 85% to 90% Of course, there is a relationship between the improvements in quality and timeliness Better quality and less rework reduces delays in production and enables faster and on-time delivery to customers 3a 2006 The output per labor-hour in 2006 and 2007 can be calculated as follows 10,000 90,000 2007 0.11 11,000 110,000 0.10 3b Output per labor-hour may have declined from 2006 to 2007 either because workers were less productive or more likely because the initial implementation of the quality program may have resulted in lost production time as employees were trained and became more adept at solving production quality problems As workers implement good quality practices and defects and rework decrease over time, it is possible that both quality and productivity (output per laborhour) will increase 3c It is not clear that the lower output per labor-hour will decrease operating income in 2007 The higher labor costs in 2007 could pay off in many ways Higher quality and lower defects will likely result in lower material costs because of lower defects and rework Internal and external failure costs will also be lower, resulting in lower customer returns and warranty costs Customer satisfaction will likely increase, resulting in higher sales, higher prices, and higher contribution margins Indeed the 10% increase in the number of units produced and sold in 2007 may well have been due to quality improvements Overall, the benefits of higher quality in 2007 may very well exceed the higher labor costs per unit of output 19-9 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19-20 (25 min.) Quality improvement, relevant costs, and relevant revenues Relevant costs over the next year of choosing the new lens = $55 $1,100,000 20,000 copiers = Relevant Benefits over the Next Year of Choosing the New Lens Costs of quality items Savings on rework costs $40 12,875 rework hours Savings in customer-support costs $20 900 customer-support-hours Savings in transportation costs for parts $180 200 fewer loads Savings in warranty repair costs $45 7,000 repair-hours Opportunity costs Contribution margin from increased sales Cost savings and additional contribution margin $ 515,000 18,000 36,000 315,000 900,000 $1,784,000 Because the expected relevant benefits of $1,784,000 exceed the expected relevant costs of the new lens of $1,100,000, Photon should introduce the new lens Note that the opportunity cost benefits in the form of higher contribution margin from increased sales is an important component for justifying the investment in the new lens The incremental cost of the new lens of $1,100,000 is greater than the incremental savings in rework and repair costs of $884,000 ($515,000 + $18,000 + $36,000 + $315,000) Investing in the new lens is beneficial, provided it generates additional contribution margin of at least $216,000 ($1,100,000 – $884,000) Contribution margin per unit is $900,000 ÷ 150 copies = $6,000 per copier Therefore, Photon needs additional unit sales of at least $216,000 ÷ $6,000 = 36 copiers to justify investing in the new lens on financial considerations alone 19-10 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Selling price per order of Y28, which has an average manufacturing lead time of more than 320 hours Variable cost per order Additional contribution per order of Y28 Multiply by expected number of orders Increase in expected contribution from Y28 $ 6,000 5,000 $ 1,000 × 25 $25,000 Expected loss in revenues and increase in costs from introducing Y28: Product (1) Z39 Y28 Total Expected Loss in Revenues from Increasing Average Manufacturing Lead Times for All Products (2) $25,000.00a – $25,000.00 Expected Increase in Expected Loss in Carrying Costs from Revenues Plus Increasing Average Expected Increases Manufacturing Lead in Carrying Costs of Times for All Products Introducing Y28 (3) (4) = (2) + (3) $6,375.00b $31,375.00 c 2,187.50 2,187.50 $8,562.50 $33,562.50 a 50 orders × ($27,000 – $26,500) (410 hours – 240 hours) × $0.75 × 50 orders c (350 hours – 0) × $0.25 × 25 b Increase in expected contribution from Y28 of $25,000 is less than increase in expected costs of $33,562.50 by $8,562.50 Therefore, SRG should not introduce Y28 19-24 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19-33 (40 45 min.) Manufacturing lead times, relevant revenues, and relevant costs 1a Average waiting time for an order of B7 if Brandt manufactures only B7 Average number Manufactur ing of orders of B7 time for B7 = = Average number Manufactur ing of orders of B7 time for B7 Annual machine capacity (125 1,600 ) [125 (40) ] 200,000 = = = 100 hours ( 1,000) [6,000 (125 40)] (6,000 5,000 ) Average manufactur ing = Average order wait ing + Order manufactur ing time lead time for B7 time for B7 for B7 = 100 hours + 40 hours = 140 hours 1b Average waiting time for an order of B7 and A3 if Brandt manufactures both B7 and A3 Average number of orders of B7 Annual machine capacity Manufactur ing time for B7 Average number of orders of B7 Average number of orders of A3 Manufactur ing time for B7 = [125 (40) ] [10 (50) ] [6,000 (125 40) (10 50)] = [(125 1,600 ) (10 2,500 )] (200 ,000 25,000 ) = [6,000 5,000 500 ] 500 = 225 ,000 = 225 hours 1,000 Average manufactur ing lead time for B7 = Manufactur ing time for A3 Average number Manufactur ing of orders of A3 time for A3 Average order wait ing Order manufactur ing + time for B7 time = 225 hours + 40 hours = 265 hours Average manufactur ing lead time for A3 = Average order wait ing Order manufactur ing + time for A3 time = 225 hours + 50 hours = 275 hours 19-25 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com The direct approach is to look at incremental revenues and incremental costs of manufacturing and selling A3 Selling price per order for A3, which has average operating throughput time of 275 hours Variable cost per order Additional contribution per order from A3 Multiply by expected number of orders Increase in expected contribution from A3 $12,960 9,000 3,960 10 $39,600 Expected loss in revenues and increase in costs from introducing A3: Product (1) B7 A3 Total Expected Loss in Revenues from Increasing Average Manufacturing Lead Times for All Products (2) $75,000.00a – $75,000.00 Expected Increase in Carrying Costs from Increasing Average Manufacturing Lead Times for All Products (3) $7,812.50b 1,237.50c $9,050.00 Expected Loss in Revenues Plus Expected Increases in Carrying Costs of Introducing A3 (4) = (2) + (3) $82,812.50 1,237.50 $84,050.00 a 125 orders ($15,000 $14,400) (265 hours – 140 hours) $0.50 125 orders c (275 hours – 0) $0.45 10 orders b Increase in expected contribution from A3 of $39,600 is less than increase in expected costs of $84,050 by $44,450 Therefore, Brandt should not introduce A3; instead, it should sell only B7 Alternative calculations of incremental revenues and incremental costs of introducing A3 follow Alternative 1: Introduce A3 (1) $1,929,600a 1,340,000c 17,800e 1,357,800 $ 571,800 Expected revenues Expected variable costs Expected inventory carrying costs Expected total costs Expected revenues minus expected costs a (125 (125 e (125 c $14,400) + (10 $12,960) $10,000) + (10 $9,000) $0.50 265) + (10 $0.45 275) b 125 $15,000 125 $10,000 f 125 $0.50 140 d 19-26 Alternative 2: Do Not Introduce A3 (2) $1,875,000b 1,250,000d 8,750f 1,258,750 $ 616,250 Relevant Revenues and Relevant Costs (3) = (1) – (2) $54,600 90,000 9,050 99,050 $(44,450) To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Delays occur in the processing of B7 and A3 because of (a) uncertainty about how many orders Brandt will actually receive (Brandt expects to receive 125 orders of B7 and 10 orders of A3), and (b) uncertainty about the actual dates when Brandt will receive the orders The uncertainty (randomness) about the quantity and timing of customer orders means that Brandt may receive customer orders while another order is still being processed Orders received while the machine is actually processing another order must wait in queue for the machine to be free As average capacity utilization of the machine increases, there is less slack and a greater chance that a machine will be busy when another order arrives Delays can be reduced if the uncertainties facing the firm can be reduced, perhaps by negotiating fixed schedules with customers in advance Brandt should explore these alternatives before deciding on whether to manufacture and sell A3 A3 may be a strategically important product for Brandt in the future For example, it may help Brandt to develop a customer relationship with Airbus Industries that could be helpful in the future Even though manufacturing A3 is costly in the short run, it may be beneficial to Brandt in the long term If Brandt could reduce manufacturing time for A3 (and B7), it could find it profitable to manufacture both harnesses Brandt may also want to try to negotiate a higher price for A3 that would make manufacturing both B7 and A3 profitable 19-27 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19-34 (20 min.) Theory of constraints, throughput contribution, relevant costs It will cost Colorado $50 per unit to reduce manufacturing time But manufacturing is not a bottleneck operation; installation is Therefore, manufacturing more equipment will not increase sales and throughput contribution Colorado Industries should not implement the new manufacturing method Additional relevant costs of new direct materials, $2,000 Increase in throughput contribution, $25,000 20 units, 320 units, $640,000 $500,000 The additional incremental costs exceed the benefits from higher throughput contribution by $140,000, so Colorado Industries should not implement the new design Alternatively, compare throughput contribution under each alternative Current throughput contribution is $25,000 300 With the modification, throughput contribution is $23,000 320 $7,500,000 $7,360,000 The current throughput contribution is greater than the throughput contribution resulting from the proposed change in direct materials Therefore, Colorado Industries should not implement the new design Increase in throughput contribution, $25,000 Increase in relevant costs 10 units $250,000 $ 50,000 The additional throughput contribution exceeds incremental costs by $200,000, so Colorado Industries should implement the new installation technique Motivating installation workers to increase productivity is worthwhile because installation is a bottleneck operation, and any increase in productivity at the bottleneck will increase throughput contribution On the other hand, motivating workers in the manufacturing department to increase productivity is not worthwhile Manufacturing is not a bottleneck operation, so any increase in output will result only in extra inventory of equipment Colorado Industries should encourage manufacturing to produce only as much equipment as the installation department needs, not to produce as much as it can Under these circumstances, it would not be a good idea to evaluate and compensate manufacturing workers on the basis of their productivity 19-28 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19-35 (30–40 min.) Theory of constraints, throughput contribution, quality, relevant costs Direct materials costs to produce 390,000 tablets, $156,000 $156 ,000 Direct materials costs per tablet = = $0.40 per tablet 390 ,000 Selling price per tablet = $1.00 Unit throughput contribution = Selling price – Unit direct materials costs = $1.00 – $0.40 = $0.60 per tablet Tablet-making is a bottleneck operation Therefore, producing 19,500 more tablets will generate additional operating income Additional operating income,per contractor-made tablet = Unit throughput,contribution – Additional operating,costs per tablet = $0.60 – $0.12 = $0.48 Increase in operating income, $0.48 the outside contractor's offer 19,500 = $9,360 Therefore, Aardee should accept Operating costs for the mixing department are a fixed cost Contracting out the mixing activity will not reduce mixing department costs but will cost an additional $0.07 per gram of mixture Mixing more direct materials will have no effect on throughput contribution, since tablet making is the bottleneck operation Therefore, Aardee should reject the company's offer The benefit of improved quality is $10,000 Aardee is using the same quantity of direct materials as before, so it incurs no extra direct materials costs The 10,000 extra tablets produced generate additional revenue of $10,000 ($1 10,000 tablets) a month The modification costs $7,000 per month, which results in a net gain of $3,000 Aardee should implement the new method Cost per gram of mixture = $156 ,000 = $0.78 per gram 200 ,000 Cost of 10,000 grams of mixture = $0.78 Benefit from better mixing quality Cost of improving the mixing operation 10,000 = $7,800 $7,800 per month $9,000 per month Since the costs exceed the benefits by $1,200 per month, Aardee should not adopt the proposed quality improvement plan Compare the answers to requirements and The benefit of improving quality at the mixing operation is the savings in materials costs The benefit of improving quality of the tabletmaking department (the bottleneck operation) is the savings in materials costs plus the additional 19-29 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com throughput contribution from higher sales equal to the total revenues that result from relieving the bottleneck constraint 19-30 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19-36 (25 min.) Quality improvement, Pareto diagram, cause-and-effect diagram Examples of failures in accounts receivable management include the following: a uncollectible amounts or bad debts; and b delays in receiving payments Prevention activities that could reduce failures in accounts receivable management include the following: a credit checks on customers by salespersons based on company credit policy; b shipping the correct copier to the customer; c supporting installation of the copier and answering customer questions; d sending the correct invoice, in the correct amount, and to the correct address, promptly; e following up to see if the machine is functioning smoothly; and f offering cash discounts to encourage early payment of receivables A Pareto diagram for the problem of delays in receiving customer payments follows: Number of times problem (failure) observed SOLUTION EXHIBIT 19-36A Pareto Diagram for Failures in Accounts Receivables at Murray Corporation 700 Delays in sending invoices 600 500 Improper installation 400 300 Invoice sent to incorrect address 200 Incorrect copier shipped 100 Machine Customer not in functioning smoothly financial difficulties Type of problem (failure) A cause-and-effect or fishbone diagram for the problem of delays in sending invoices may appear as follows: 19-31 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com SOLUTION EXHIBIT 19-36B Cause-and-Effect Diagram For Problem of Delays in Sending Invoices at Murray Corporation Methods and Design Factor Human Factor Delivery documents not received New receivables clerk Machine improperly installed Wrong account debited Invoices not printed Computer error in invoice Wrong copier shipped Computer not working or backed up Machine-related Factors Methods and Components Factor 19-32 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19-37 (30–35 min.) Ethics and quality Revenues 2007 $10,000,000 Percentage of Revenues Cost (2) = (1) ÷ (1) $10,000,000 Costs of Quality Prevention costs Design engineering $200,000 2.0% Appraisal costs Inspection of production Product testing Total appraisal costs 90,000 210,000 300,000 3.0% Internal failure costs Scrap 230,000 2.3% External failure costs Warranty liability Total costs of quality 260,000 $990,000 2.6% 9.9% The total costs of quality are less than 10% of revenues Students can probably discuss both sides of this argument Evans is obviously concerned because he expected the customer complaints calculation to be based on the number of customers who actually complained, not on Williams’s survey However, Williams’s approach has the advantage of being thorough and systematic Having done the survey, it would be unethical for Williams to now modify her analysis and incorrectly report the costs of quality and various nonfinancial measures of quality In assessing the situation, the specific ―Standards of Ethical Conduct for Management Accountants‖ (described in Exhibit 1-7) that Lindsey Williams should consider are listed below Competence Clear reports using relevant and reliable information should be prepared Preparing reports on the basis of incorrect numbers violates competence standards Integrity Integrity requires that Williams report the numbers she collected The standards of ethical conduct require the management accountant to communicate favorable as well as unfavorable information Williams also has a responsibility to avoid actual or apparent conflicts of interest and advise all appropriate parties of any potential conflict If Williams revises the customer complaints numbers, her action could be interpreted as being motivated by her desire to please her bosses This would violate the responsibility for integrity 19-33 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Objectivity The management accountant's standards of ethical conduct require that information should be fairly and objectively communicated and that all relevant information should be disclosed From a management accountant's standpoint, adjusting the customer complaints numbers to make performance look good would violate the standard of objectivity Williams should indicate to Roche that the costs of quality and nonfinancial measures of quality presented in the reports are, indeed, appropriate She could propose that she add another line item indicating the number of unsolicited complaints she received, that is, complaints she received independent of the survey She should not, however, change the numbers she obtained in the survey If Roche still insists on modifying the customer complaints numbers, Williams should raise the matter with one of Roche’s superiors, other than Evans, who has a vested interest in this dispute If, after taking all these steps, there is continued pressure to change survey results, Williams should consider resigning from the company and not engage in unethical behavior 19-34 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19-38 (45–50 min.) Quality improvement, theory of constraints Consider the incremental revenues and incremental costs to Wellesley Corporation of purchasing additional grey cloth from outside suppliers Incremental revenues, $1,250 × (5,000 rolls × 0.90) Incremental costs: Cost of grey cloth, $900 × 5,000 rolls $4,500,000 Direct materials variable costs at printing operation, $100 × 5,000 rolls 500,000 Incremental costs Excess of incremental revenues over incremental costs $5,625,000 5,000,000 $ 625,000 Note that, because the printing department has surplus capacity equal to 5,500 (15,000 – 9,500) rolls per month, purchasing grey cloth from outside entails zero opportunity costs Yes, the Printing Department should buy the grey cloth from the outside supplier By producing a defective roll in the Weaving Department, Wellesley Corporation is worse off by the entire amount of revenue forgone of $1,250 per roll Note that, since the weaving operation is a constraint, any rolls received by the Printing Department that are defective and disposed of at zero net disposal value result in lost revenue to the firm An alternative approach to analyzing the problem is to focus on costs of defective units and the benefits of reducing defective units The relevant costs of defective units in the Printing Department are: a Direct materials variable costs in the Weaving Department b Direct materials variable costs in the Printing Department c Contribution margin forgone from not selling one roll $1,250 – $500 – $100 Amount by which Wellesley Corporation is worse off as a result of a defective unit in the Printing Department $ 500 100 650 $1,250 Note that only the variable costs of defective units of $600 per roll (direct materials in the Weaving Department, $500 per roll: direct materials in the Printing Department, $100 per roll) are relevant because improving quality will save these costs Fixed costs of producing defective units, attributable to other operating costs, are irrelevant because these costs will be incurred whether Wellesley Corporation reduces defective units in the Printing Department or not Wellesley Corporation should make the proposed modifications in the Printing Department because the incremental benefits exceed the incremental costs by $125,000 per month: Incremental benefits of reducing defective units in the Printing Department by 4% (from 10% to 6%) 4% × 9,500 rolls × $1,250 per roll (computed above) $475,000 Incremental costs of the modification 350,000 Excess of incremental benefits over incremental costs $125,000 19-35 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com To determine how much Wellesley Corporation is worse off by producing a defective roll in the Weaving Department, consider the payoff to Wellesley from not having a defective roll produced in the Weaving Department The good roll produced in the Weaving Department will be sent for further processing in the Printing Department The relevant costs and benefits of printing and selling this roll follow: Additional direct materials variable costs incurred in the Printing Department Expected revenue from selling the finished product, $1,250 × 0.9 (since 10% of the Printing Department output will be defective and will earn zero revenue) Net expected benefit of producing a good roll in the Weaving Department $ (100) 1,125 $1,025 By producing a defective roll in the Weaving Department, Wellesley Corporation is worse off by $1,025 per roll Note that, since the weaving operation is a constraint, any rolls that are defective will result in lost revenue to the firm An alternative approach to analyzing the problem is to focus on the costs and benefits of reducing defective units The relevant costs of defective units in the Weaving Department are: a Direct materials variable costs in the Weaving Department b Expected unit contribution margin forgone from not selling one roll, ($1,250 × 0.9) – $500 – $100 Amount by which Wellesley Corporation is worse off as a result of producing a defective unit in the Weaving Department $ 500 525 $1,025 Note that only the variable scrap costs of $500 per roll (direct materials in the Weaving Department) are relevant because improving quality will save these costs All fixed costs of producing defective units attributable to other operating costs are irrelevant because these costs will be incurred whether Wellesley Corporation reduces defective units in the Weaving Department or not Wellesley Corporation should make the proposed improvements in the Printing Department because the incremental benefits exceed the incremental costs by $30,000 per month: Incremental benefits of reducing defective units in the Weaving Department by 2% (from 5% to 3%) 2% × 10,000 rolls × $1,025 per roll (computed above) $205,000 Incremental costs of improvements 175,000 Excess of incremental benefits over incremental costs $ 30,000 19-36 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Chapter 19 Video Case The video case can be discussed using only the case writeup in the chapter Alternatively, instructors can have students view the videotape of the company that is the subject of the case The videotape can be obtained by contacting your Prentice Hall representative The case questions challenge students to apply the concepts learned in the chapter to a specific business situation RITZ-CARLTON HOTELS: Quality Ritz-Carlton could monitor its success at achieving quality in the following ways: a b c d e f Actions one might expect for improving quality include the following: a b c d e Lost sales due to ―badwill.‖ Increased costs per ―sale.‖ ―Doing things right‖ the first time reduces costs because: a Employee empowerment to take action when problems arise, particularly with guest relations (each employee is given the freedom to spend up to $2,000 per guest to correct a problem, without seeking manager approval first) Defining standards against which actual performance can be measured Changing compensation from rewarding for ―command and control‖ leadership to team building and group success Regular employee training and education to keep quality foremost in mind Quality is not a one-time goal, so continual reinforcement helps with this effort Turnover of employees also impacts quality Never be satisfied with status quo or become complacent Ritz-Carlton’s contribution margin will decrease due to: a b Customer satisfaction surveys, although this may yield more complaints than compliments Employee turnover and need for training/education Preparing daily quality reports that give information on operations Financial measures, such as progress toward profit goals, budgets Guest incidence/action reports submitted by employees who find problems Return stays by guests who were satisfied the last time(s) they stayed b Prevention focuses on proactive solutions—training, good design, and research into new methods This is opposed to after-the-fact fixes and dealing with higher customer service costs, higher maintenance costs, and the like Repeat business costs less and attracts guests willing to pay more for quality a See textbook section discussing benefits of these techniques, pp 664–666 19-37 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Nonfinancial measures of customer satisfaction that Ritz-Carlton might use are the following: a b c d e f g Number of customer complaints Number of meals returned to the kitchen due to dissatisfaction Number of calls to housekeeping for items missing/problems with a room Number of repeat guests (return rate) Referrals by guests Response times for room service, message delivery, and valet parking Wait time at reservation desk 19-38 ... Prevention costs Machine maintenance Supplier training Design reviews Total prevention costs Appraisal costs Incoming inspection Final testing Total appraisal costs Internal failure costs Rework... or $8 per unit, are fixed costs Mayfield will not save any of these costs by subcontracting machining of 4,000 units to Hunt Corporation Total costs will be greater by $16,000 ($4 per unit 4,000... bottleneck operation 19- 3 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 19- 16 (30 min.) Costs of quality The ratios of each COQ category to revenues