To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com CHAPTER 20 INVENTORY MANAGEMENT, JUST-IN-TIME, AND BACKFLUSH COSTING 20-1 Cost of goods sold (in retail organizations) or direct materials costs (in organizations with a manufacturing function) as a percentage of sales frequently exceeds net income as a percentage of sales by many orders of magnitude In the Kroger grocery store example cited in the text, cost of goods sold to sales is 73.7%, and net income to sales is 0.6% Thus, a 10% reduction in the ratio of cost of goods sold to sales (73.7 to 66.3%) without any other changes can result in a 1233% increase in net income to sales (0.6% to 8.0%) 20-2 Five cost categories important in managing goods for sale in a retail organization are the following: purchasing costs; ordering costs; carrying costs; stockout costs; and quality costs 20-3 Five assumptions made when using the simplest version of the EOQ model are: The same quantity is ordered at each reorder point Demand, ordering costs, carrying costs, and the purchase-order lead time are certain Purchasing cost per unit is unaffected by the quantity ordered No stockouts occur Costs of quality are considered only to the extent that these costs affect ordering costs or carrying costs 20-4 Costs included in the carrying costs of inventory are incremental costs for such items as insurance, rent, obsolescence, spoilage, and breakage plus the opportunity cost of capital (or required return on investment) 20-5 Examples of opportunity costs relevant to the EOQ decision model but typically not recorded in accounting systems are the following: the return forgone by investing capital in inventory; lost contribution margin on existing sales when a stockout occurs; and lost contribution margin on potential future sales that will not be made to disgruntled customers 20-6 The steps in computing the costs of a prediction error when using the EOQ decision model are: Step 1: Compute the monetary outcome from the best action that could be taken, given the actual amount of the cost input Step 2: Compute the monetary outcome from the best action based on the incorrect amount of the predicted cost input Step 3: Compute the difference between the monetary outcomes from Steps and 20-1 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-7 Goal congruence issues arise when there is an inconsistency between the EOQ decision model and the model used for evaluating the performance of the person implementing the model For example, if opportunity costs are ignored in performance evaluation, the manager may be induced to purchase in a quantity larger than the EOQ model indicates is optimal 20-8 Just-in-time (JIT) purchasing is the purchase of materials (or goods) so that they are delivered just as needed for production (or sales) Benefits include lower inventory holdings (reduced warehouse space required and less money tied up in inventory) and less risk of inventory obsolescence and spoilage 20-9 Factors causing reductions in the cost to place purchase orders of materials are: Companies are establishing long-run purchasing agreements that define price and quality terms over an extended period Companies are using electronic links, such as the Internet, to place purchase orders Companies are increasing the use of purchase-order cards 20-10 Disagree Choosing the supplier who offers the lowest price will not necessarily result in the lowest total purchase cost to the buyer This is because the price or purchase cost of the goods is only one—and perhaps, most obvious—element of cost associated with purchasing and managing inventories Other relevant cost items are ordering costs, carrying costs, stockout costs and quality costs A low-cost supplier may well impose conditions on the buyer—such as poor quality, or frequent stockouts, or excessively high inventories—that result in high total costs of purchase Buyers must examine all the elements of costs relevant to inventory management, not just the purchase price 20-11 Supply-chain analysis describes the flow of goods, services, and information from the initial sources of materials and services to the delivery of products to consumers, regardless of whether those activities occur in the same organization or in other organizations Sharing of information across companies enables a reduction in inventory levels at all stages, fewer stockouts at the retail level, reduced manufacture of product not subsequently demanded by retailers, and a reduction in expedited manufacturing orders 20-12 Obstacles to companies adopting a supply-chain approach include: Communication obstacles—the unwillingness of some parties to share information Trust obstacles—includes the concern that all parties will not meet their agreed-upon commitments Information system obstacles—includes problems due to the information systems of different parties not being technically compatible Limited resources—includes problems due to the people and financial resources given to support a supply chain initiative not being adequate 20-2 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-13 Just-in-time (JIT) production is a ―demand-pull‖ manufacturing system that has the following features: Organize production in manufacturing cells, Hire and retain workers who are multi-skilled, Aggressively pursue total quality management (TQM) to eliminate defects, Place emphasis on reducing both setup time and manufacturing lead time, and Carefully select suppliers who are capable of delivering quality materials in a timely manner 20-14 Traditional normal and standard costing systems use sequential tracking, in which journal entries are recorded in the same order as actual purchases and progress in production, typically at four different trigger points in the process Backflush costing omits recording some of the journal entries relating to the cycle from purchase of direct materials to sale of finished goods, i.e., it has fewer trigger points at which journal entries are made When journal entries for one or more stages in the cycle are omitted, the journal entries for a subsequent stage use normal or standard costs to work backward to ―flush out‖ the costs in the cycle for which journal entries were not made 20-15 Versions of backflush costing differ in the number and placement of trigger points at which journal entries are made in the accounting system: Version Number of Journal Entry Trigger Points Version 2 Stage A Purchase of direct materials Stage D Sale of finished goods Version Stage C Completion of good finished units of product Stage D Sale of finished goods Location in Cycle Where Journal Entries Made Stage A Purchase of direct materials Stage C Completion of good finished units of product Stage D Sale of finished goods 20-3 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-16 (20 min.) Economic order quantity for retailer D = 10,000, P = $225, C = $10 EOQ DP C 10,000 $225 10 = 670.82 671 jerseys D 10,000 = EOQ 671 = 14.90 15 orders Number of orders per year = Demand each working day = D Number of working days Purchase lead time 10,000 365 = 27.40 jerseys per day = days Reorder point = 27.40 = = 191.80 192 jerseys 20-4 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-17 (20 min.) Economic order quantity, effect of parameter changes (continuation of 20-16) D = 10,000, P = $20, C = $10 EOQ DP C 10,000 $20 10 = 200 jerseys The sizable reduction in ordering cost (from $225 to $20 per purchase order) has reduced the EOQ from 671 to 200 The AP proposal has both upsides and downsides The upside is potentially higher sales SW customers may purchase more online than if they have to physically visit a store SW would also have lower administrative costs and lower inventory holding costs with the proposal The downside is that AP could capture SW’s customers Repeat customers to the AP web site need not be classified as SW customers SW would have to establish enforceable rules to make sure it captures ongoing revenues from customers it directs to the AP web site There is insufficient information to determine whether SW should accept AP’s proposal Much depends on whether SW views AP as a credible, ―honest‖ partner 20-18 (15 min.) EOQ for a retailer D = 20,000, P = $160, C = 20% $8 = $1.60 EOQ = Error!= Error!= 2,000 yards Number of orders per year: Error!= Error!= 10 orders Demand each working day = Error! = Error! = 80 yards per day = 400 yards per week Purchasing lead time = weeks Reorder point = 400 yards per week weeks = 800 yards 20-5 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-19 (20 min.) EOQ for manufacturer Relevant carrying costs per part per year: Required annual return on investment 15% $60 = Relevant insurance, materials handling, breakage, etc costs per year Relevant carrying costs per part per year With D = 18,000; P = $150; C = $15, EOQ for manufacturer is: 18,000 $150 Error!= = 600 units $15 Total relevant ordering costs = D Q $9 $15 P 18,000 $150 600 = $4,500 where Q = 600 units, the EOQ = At the EOQ, total relevant ordering costs and total relevant carrying costs will be exactly equal Therefore, total relevant carrying costs at the EOQ = $4,500 (from requirement 2) We can also confirm this with direct calculation: Q Total relevant carrying costs = C 600 = $15 = $4,500 where Q = 600 units, the EOQ Purchase order lead time is half a month Monthly demand is 18,000 units ÷ 12 months = 1,500 units per month Demand in half a month is Error! 1,500 units or 750 units Lakeland should reorder when the inventory of rotor blades falls to 750 units 20-6 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-20 (20 min.) Sensitivity of EOQ to changes in relevant ordering and carrying costs A straightforward approach to the requirement is to construct the following table for EOQ at relevant carrying and ordering costs Annual demand is 10,000 units The formula for the EOQ model is: EOQ = Error! where D = demand in units for a specified period of time P = relevant ordering costs per purchase order C = relevant carrying costs of one unit in stock for the time period used for D (one year in this problem Relevant Carrying Costs per Unit per Year $10 15 20 Relevant Ordering Costs per Purchase Order $300 $200 10,000 $300 $10 10,000 $300 $15 10,000 $300 $20 = 775 = 632 = 548 10,000 $200 $10 10,000 $200 $15 10,000 $200 $20 = 632 = 516 = 447 For a given demand level, as relevant carrying costs increase, EOQ becomes smaller For a given demand level, as relevant order costs increase, EOQ increases 20-7 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-21 (20–30 min.) Purchase-order size for retailer, EOQ, just-in-time purchasing a EOQ = Error! D = 6,000; P = $30; C = $1 EOQ = Error!= Error!= 600 cases b D = 6,000; P = $30; C = $1.50 EOQ = Error!= Error!= 489.9 cases Error!490 cases c D = 6,000; P = $5; C = $1.50 EOQ = Error!= Error! = 200 cases A just-in-time purchasing policy involves the purchase of goods or materials such that their delivery immediately precedes their demand or use Given the purchase order sizes calculated in requirement 1, the number of purchase orders placed each month is (D ÷ EOQ): a Error!= Error!= 10 orders per month or Error!1 every days b Error!= Error!= 12.24 c Error!= Error!= 30 orders per month or Error!1 every 2.45 days orders per month or Error!1 every day An increase in C and a decrease in P leads to increases in the optimal frequency of orders The 24-Hour Mart has increased the frequency of delivery from every third day (1a: P = $30; C = $1) to a delivery every day (1c: P = $5; C = $1.50) There is a reduction of 200 cases in the average inventory level: (600 – 200) ÷ = 200 20-8 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-22 (20 min.) JIT production, relevant benefits, relevant costs Solution Exhibit 20-22 presents the annual net benefit of $315,000 to Champion Hardware Company of implementing a JIT production system Other nonfinancial and qualitative factors that Champion should consider in deciding whether it should implement a JIT system include: a The possibility of developing and implementing a detailed system for integrating the sequential operations of the manufacturing process Direct materials must arrive when needed for each subassembly so that the production process functions smoothly b The ability to design products that use standardized parts and reduce manufacturing time c The ease of obtaining reliable vendors who can deliver quality direct materials on time with minimum lead time d Willingness of suppliers to deliver smaller and more frequent orders e The confidence of being able to deliver quality products on time Failure to so would result in customer dissatisfaction f The skill levels of workers to perform multiple tasks such as minor repairs, maintenance, quality testing and inspection SOLUTION EXHIBIT 20-22 Annual Relevant Costs of Current Production System and JIT Production System for Champion Hardware Company Relevant Items Annual tooling costs Required return on investment: 15% per year $1,000,000 of average inventory per year 15% per year $200,000a of average inventory per year Insurance, space, materials handling, and setup costs Rework costs Incremental revenues from higher selling prices Total net incremental costs Annual difference in favor of JIT production a $1,000,000 (1 – 80%) = $200,000 $300,000 (1 – 0.25) = $225,000 c $200,000 (1 – 0.30) = $140,000 d $4 × 40,000 units = $160,000 b 20-9 Relevant Costs under Current Production System – Relevant Costs under JIT Production System $100,000 $150,000 30,000 300,000 225,000b 200,000 140,000c – (160,000)d $650,000 $335,000 $315,000 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Personal observation by production line workers and managers is more effective in JIT plants than in traditional plants A JIT plant’s production process layout is streamlined Operations are not obscured by piles of inventory or rework As a result, such plants are easier to evaluate by personal observation than cluttered plants where the flow of production is not logically laid out Besides personal observation, nonfinancial performance measures are the dominant methods of control Nonfinancial performance measures provide most timely and easy to understand measures of plant performance Examples of nonfinancial performance measures of time, inventory, and quality include: Manufacturing lead time Units produced per hour Machine setup time ÷ manufacturing time Number of defective units ÷ number of units completed In addition to personal observation and nonfinancial performance measures, financial performance measures are also used Examples of financial performance measures include: Cost of rework Ordering costs Stockout costs Inventory turnover (cost of goods sold average inventory) The success of a JIT system depends on the speed of information flows from customers to manufacturers to suppliers The Enterprise Resource Planning (ERP) system has a single database, and gives lower-level managers, workers, customers, and suppliers access to operating information This benefit, accompanied by tight coordination across business functions, enables the ERP system to rapidly transmit information in response to changes in supply and demand so that manufacturing and distribution plans may be revised accordingly 20-10 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Safety Stock Level in Units (1) 20 Demand Realizations Resulting in Stockouts (2) 520 540 560 540 560 Stockout in Unitsa (3) = (2) – 500 – (1) 20 40 60 20 40 40 560 20 60 –– –– Probability of Stockout (4) 0.10 0.05 0.03 0.05 0.03 0.03 –– Relevant Stockout Costsb (5) = (3) $20 $ 400 800 1,200 400 800 Number of Orders Per Yearc (6) 10 10 10 10 10 Expected Stockout Costsd (7) = (4) (5) (6) $ 400 400 360 $1,160 Relevant Total Carrying Relevant Costse Costs (8) = (1) $10 (9) = (7) + (8) $ $1,160 $ 200 240 $ 440 $200 $ 640 400 10 $ 120 $400 $ 520 –– –– $ 0f $600 $ 600 a Realized demand – inventory available during lead time (excluding safety stock), 500 units – safety stock b Stockout units relevant stockout costs of $20 per motor c Annual demand 30,000 ÷ 3,000 EOQ = 10 orders per year d Probability of stockout relevant stockout costs number of orders per year e Safety stock annual relevant carrying costs of $10 per motor (assumes that safety stock is on hand at all times and that there is no overstocking caused by decreases in expected usage) f At a safety stock level of 60 motors, no stockouts will occur and, hence, expected stockout costs = $0 Safety stock of 40 units would minimize Starr Company's total expected stockout and carrying costs 20-16 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com The new reorder point would be: Present reorder point (demand during lead time: 100 units per day Safety stock New reorder point days) 500 units 40 units 540 units Some factors that Starr Company should consider when estimating the stockout costs: a possible lost contribution margin on motors not sold; b costs associated with disruption or idle time; c forgone contribution margin on future sales from possible loss of customers and customer goodwill; d additional clerical costs involved in keeping records of back orders; e the validity of using the past empirical distribution of demand in predicting the future demand distribution; and f additional order costs and transportation costs 20-17 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-28 (20–30 min.) EOQ, cost of prediction error EOQ = Error! D = 2,000; P = $40; C = $4 + (10% $50) = $9 EOQ = TRC 2,000 $40 = 133.333 tires –,~ 133 tires (approximately) $9 = Error!+ Error!where Q can be any quantity, including the EOQ 2‚000 $40 133 333 $9 = + = $600 + $600 = $1,200 133 333 If students used an EOQ of 133 tires (order quantities rounded to the nearest whole number), 2‚000 $40 133 $9 + = $601.50 + $598.50 = $1,200 133 Sum of annual relevant ordering and carrying costs equals $1,200 TRC = The prediction error affects C, which is now: C = $4 + (10% $30) = $7 D = 2,000, P = $40, C = $7 EOQ = Error!= 151.186 tires = 151 tires (rounded) The cost of the prediction error can be calculated using a three-step procedure: Step 1: Compute the monetary outcome from the best action that could have been taken, given the actual amount of the cost input TRC = Error!+ Error! = 2, 000 $40 151 186 $7 + 151.186 = $529.15 + $529.15 = $1,058.30 20-18 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Step 2: Compute the monetary outcome from the best action based on the incorrect amount of the predicted cost input TRC = Error!+ Error! = 2‚000 $40 133.333 + 133.333 $7 = $600 + $466.67 = $1,066.67 Step 3: Compute the difference between the monetary outcomes from Step and Step 2: Step Step Difference Monetary Outcome $1,058.30 1,066.67 $ (8.37) The cost of the prediction error is $8.37 Note: The $20 prediction error for the purchase price of the heavy-duty tires is irrelevant in computing purchase costs under the two alternatives because the same purchase costs will be incurred whatever the order size Some students may prefer to round off the EOQs to 133 tires and 151 tires, respectively The calculations under each step in this case follow: 2‚000 $40 151 $7 + = $529.80 + $528.50 = $1058.30 151 2‚000 $40 133 $7 Step 2: TRC = + = $601.50 + $465.50 = $1067.00 133 Step 3: Difference = $1,058.30 – $1,067.00 = ($8.70) Step 1: TRC = 20-19 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-29 (30 min.) JIT purchasing, relevant benefits, relevant costs Solution Exhibit 20-29 presents the $37,500 cash savings that would result if Margro Corporation adopted the just-in-time inventory system in 2005 Conditions that should exist in order for a company to successfully adopt just-in-time purchasing include the following: • Top management must be committed and provide the necessary leadership support to ensure a company-wide, coordinated effort • A detailed system for integrating the sequential operations of the manufacturing process needs to be developed and implemented Direct materials must arrive when needed for each subassembly so that the production process functions smoothly • Accurate sales forecasts must be available for effective finished goods planning and production scheduling • Products should be designed to maximize use of standardized parts to reduce manufacturing time and costs • Reliable vendors who can deliver quality direct materials on time with minimum lead time must be obtained 20-20 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com SOLUTION EXHIBIT 20-29 Annual Relevant Costs of Current Purchasing Policy and JIT Purchasing Policy for Margro Corporation Relevant Relevant Costs under Costs under Current JIT Purchasing Purchasing Policy Policy Required return on investment 20% per year $600,000 of average inventory per year $120,000 20% per year $0 inventory per year $ Annual insurance and property tax costs 14,000 Warehouse rent 60,000 (13,500)a Overtime costs No overtime Overtime premium 40,000 Stockout costs No stockouts $6.50b contribution margin per unit 20,000 units 130,000 Total incremental costs $194,000 $156,500 Difference in favor of JIT purchasing $37,500 a $(13,500) = Warehouse rental revenues, [(75% 12,000) Calculation of unit contribution margin Selling price ($10,800,000 ÷ 900,000 units) Variable costs per unit : Variable manufacturing cost per unit ($4,050,000 ÷ 900,000 units) Variable marketing and distribution cost per unit ($900,000 ÷ 900,000 units) Total variable costs per unit Contribution margin per unit $1.50] b $12.00 $4.50 1.00 5.50 $ 6.50 Note that the incremental costs of $40,000 in overtime premiums to make the additional 15,000 units are less than the contribution margin from losing these sales equal to $97,500 ($6.50 15,000) Margro would rather incur overtime than lose 15,000 units of sales 20-21 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-30 (25 min.) Relevant benefits and costs of JIT purchasing, supply chain Solution Exhibit 20-30 presents the cash savings of $609.90 that would result if Codleff Medical Instruments adopted the just-in-time inventory system SOLUTION EXHIBIT 20-30 Annual Relevant Costs of Current Purchasing Policy and JIT Purchasing Policy for Codleff Medical Instruments Relevant Item Purchasing costs $18 per unit × 25,000 units per year $18.02 per unit × 25,000 units per year Ordering costs $2 per order × 50 orders per year $2 per order × 500 orders per year Opportunity carrying costs, required return on investment 20% × $18 cost per unit × 250a units of average inventory per year 20% × $18.02 cost per unit × 25b units of average inventory per year Other carrying costs (insurance, materials handling, breakage, and so on) $6 per unit per year × 250 a units of average inventory per year $6 per unit per year × 25b units of average inventory per year Stockout costs No stockouts $3 per unit × 50 units per year Total annual relevant costs Annual difference in favor of JIT purchasing a b Relevant Costs Under Current JIT Purchasing Purchasing Policy Policy $450,000.00 $450,500.00 100.00 1,000.00 900.00 90.10 1,500.00 150.00 0.00 150.00 $452,500.00 $451,890.10 $609.90 Order quantity = 25,000 ÷ 50 = 500; Average inventory = 500 ÷ = 250 Order quantity = 25,000 ÷ 500 = 50; Average inventory = 50 ÷ = 25 Codleff may benefit from Slocombe managing all its inventories if there is high order variability caused by randomness in when consumers purchase surgical scalpels or by trade promotions that prompt retailers to stock for the future By coordinating their activities and sharing information about retail sales and inventory held throughout the supply chain, Slocombe can plan its manufacturing activities to ensure adequate supply of product to Codleff while keeping inventory low For this to succeed, Codleff and Slocombe must have compatible information systems, build trust, and communicate freely 20-22 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-31 (30 min.) Supplier evaluation and relevant costs of quality and timely deliveries Solution Exhibit 20-31 shows that annual relevant purchasing costs are $4,045.90 lower if purchases are made from Slocombe instead of Pruitt Basically, Pruitt's lower quality and the resulting $10,000 in customer support costs (relative to $1,000 for Slocombe’s product), swings the decision in favor of Slocombe, despite Pruitt's lower purchase costs Based on financial considerations alone, Codleff should purchase RM-27 from Slocombe Codleff should also consider other factors before reaching a final decision For example if Codleff purchases from Pruitt, will the lower quality of scalpels: lead to lost contribution margins on future sales? or affect Codleff's reputation for quality on other products that it sells? or affect employee morale? In this case, it is likely that these other considerations will further lead Codleff to purchase from Slocombe SOLUTION EXHIBIT 20-31 Annual Relevant Costs of Purchasing from Slocombe and Pruitt Relevant Item Purchasing costs $18.02 per unit × 25,000 units per year $17.70 per unit × 25,000 units per year Ordering costs $2 per order × 500 orders per year a $2 per order × 500 orders per year a Inspection costs No inspection necessary $0.08 per unit × 25,000 units Opportunity carrying costs, required return on investment 20% × $18.02 × 25b units of average inventory per year 20% × $17.70 × 25b units of average inventory per year Other carrying costs (insurance, materials handling, breakage, etc.) $6 per unit per year × 25b units of average inventory per year $5.90 per unit per year × 25b units of average inventory per year Stockout costs $3 per unit × 50 units per year $3 per unit × 400 units per year Customer support costs Total annual relevant costs Annual difference in favor of Slocombe a b No of orders = 25,000 units ÷ 50 units per order = 500 orders Order quantity ÷ = 50 ÷ = 25 20-23 Relevant Costs of Purchasing from Slocombe Pruitt $450,500.00 $442,500.00 1,000.00 1,000.00 0.00 2,000.00 90.10 88.50 150.00 147.50 150.00 1,200.00 1,000.00 10,000.00 $452,890.10 $456,936.00 $4,045.90 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-32 (25 min.) Supplier evaluation and relevant costs of quality and timely deliveries Solution Exhibit 20-32 presents the $6,236 annual relevant costs difference in favor of Wayland purchasing the footballs from Bigby On the basis of financial considerations alone, Wayland should buy the footballs from Bigby SOLUTION EXHIBIT 20-32 Annual Relevant Costs of Purchasing from Bigby and Kendall Relevant Item Purchasing costs $40 per unit × 15,000 units per year $41 per unit × 15,000 units per year Ordering costs $4 per order × 25a orders per year $4 per order × 25a orders per year Inspection costs $0.03 per unit × 15,000 units No inspection necessary Opportunity carrying costs, required return on investment 12% × $40 × 300 units of average inventory per year 12% × $41 × 300 units of average inventory per year Other carrying costs (insurance, materials handling, breakage, etc.) $5 per unit per year × 300 units of average inventory per year $4.50 per unit per year × 300 units of average inventory per year Stockout costs $10 per unit × 400 units per year $8 per unit × 100 units per year Customer returns costs $20 per unit returned × 300 units $20 per unit returned × 50 units Total annual relevant costs Annual difference in favor of Bigby a Relevant Costs of Purchasing from Bigby Kendall $600,000 $615,000 100 100 450 1,440 1,476 1,500 1,350 4,000 800 6,000 1,000 $613,490 $619,726 $6,236 Order quantity per purchase order = × average inventory held = × 300 = 600 units; No of orders = 15,000 units ÷ 600 units per order = 25 orders Although Kendall is the more reliable and higher quality supplier, the financial benefits of better quality and reliability not outweigh Kendall’s higher price Of course, Wayland should consider other financial and nonfinancial benefits of purchasing from Kendall before reaching a final decision For example, will Kendall’s higher quality and reliability lead to higher future sales and contribution margins? or improve its reputation for quality and reliability and so increase sales on other products? or improve employee morale? Despite these benefits, Wayland may conclude that purchasing from Bigby is preferred, unless Kendall can lower its $41 price 20-24 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-33 (20 min.) Blackflush costing and JIT production (a) Purchases of direct materials (b) Incur conversion costs (c) Completion of finished goods (d) Sale of finished goods a b Inventory: Materials and In-Process Control Accounts Payable Control 550 000 Conversion Costs Control Various Accounts 440 000 Finished Goods Controla Inventory: Materials & In-Process Control Conversion Costs Allocated 945 000 Cost of Goods Soldb Finished Goods Control 900 000 550 000 440 000 525 000 420 000 900 000 21 000 × $45 ($25 + $20) = $945 000 20 000 × $45 = $900 000 Direct Materials Inventory Materials and In-Process Control ( a ) 50 ,00 (c ) 25 ,00 Bal 5,0 00 Conversion Costs Finished Goods Control (c) 45 ,0 00 (d ) Ba l 5, 00 Conversion Costs Allocated (c ) 20 ,0 00 Conversion Costs Control (b ) 40 ,0 00 20-25 00 ,00 Cost of Goods Sold (d ) 00 ,00 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-34 (20 min.) Backflush, two trigger points, materials purchase and sale (continuation of 20-33) (a) Purchases of direct materials (b) Incur conversion costs Inventory Control Accounts Payable Control 550,000 Conversion Costs Control Various Accounts (such as Accounts Payable Control and Wages Payable Control) 440,000 550,000 440,000 (c) Completion of finished goods No entry (d) Sale of finished goods Cost of Goods Sold Inventory Control Conversion Costs Allocated 900,000 Conversion Costs Allocated Cost of Goods Sold Conversion Costs Control 400,000 40,000 (e) Underallocated or overallocated conversion costs 500,000 400,000 440,000 Inventory Control Direct Materials (a) 550 000 (d) 500 000 Cost of Goods Sold (d ) 900 000 Bal.50 000 Conversion Costs Allocated (e) 400 000 (d) 400 000 Conversion Costs (e) 40 000 Conversion Costs Control (b) 440 000 (e) 440 000 20-26 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-35 (20 min.) Backflush, two trigger points, completion of production and sale (continuation of 20-33) (a) Purchase of direct materials (b) Incur conversion costs No entry Conversion Costs Control Various Accounts (such as Accounts Payable Control and Wages Payable Control) 440,000 (c) Completion of finished goods Finished Goods Control Accounts Payable Control Conversion Costs Allocated 945,000 (d) Sale of finished goods Cost of Goods Sold Finished Goods Control 900,000 Conversion Costs Allocated Cost of Goods Sold Conversion Costs Control 420,000 20,000 (e) Underallocated or overallocated conversion costs 440,000 525,000 420,000 900,000 440,000 Finished Goods Control D ir ect M at e ri al s (c) 45 ,00 (d ) 00 ,0 00 Cost of Goods Sold (d ) 00 ,0 00 Bal 45,000 C o n v er s io n Co s t s A l l o ca t ed (e ) 20 ,0 00 (c) 20 ,0 00 Co n v ers i o n Co s t s (e ) 20 ,0 00 Co n v er si o n C o s ts Co n t ro l (b ) 40 ,0 00 (e ) 40 ,0 00 20-27 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-36 (30 min.) Backflush costing, income manipulation, ethics Factors SVC should consider in deciding whether to adopt a version of backflush costing include: a Effects on decision making by managers There is a loss of information with backflushing Supporters of backflushing maintain, however, that nonfinancial information and observation of production provide sufficient inputs to monitor production and management costs at the shop-floor level b Costs of maintaining sequential tracking vis-à-vis backflush costing c Materiality of the differences If the production lead time is short (say, less than one day) and inventory levels are minimal (as one would anticipate with JIT), the differences between sequential tracking and backflush may be minimal d Opportunity for managers to manipulate reported numbers Strong’s concerns certainly warrant consideration Much depends on the corporate culture at SVC If the culture is such that quarterly or monthly reported numbers are pivotal to evaluations, and that managers ―push the accounting system to facilitate meeting the numbers,‖ Strong should raise these issues with Brown Adopting an accounting system with an obvious opportunity for manipulation (backflush with sale as the trigger point) may well send managers the wrong message Strong’s concerns, however, are not by themselves sufficient to cause SVC not to adopt backflush costing The factors mentioned in requirement may well be compelling enough to support adoption of backflush costing Brown has alternative ways to address Strong’s quite legitimate concerns—see requirement 3 Ways to motivate managers not to ―artificially change‖ reported income include: a Adopting long-term measures that reduce the importance of short-run financial targets b Increasing the weight on nonaccounting-based variables—e.g., more use of stock options or customer-satisfaction measures c Penalize heavily (the ―stick approach‖) managers who are found out to have ―artificially changed‖ reported income This can include withdrawal of bonuses or even termination of employment 20-28 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20-37 (35–40 min.) Backflushing Glendale has successfully implemented JIT in its production operations and, as a result, minimized work-in-process inventory However, it still has a fair amount of raw material and finished goods inventory Glendale should, therefore, adopt a backflush costing system with two trigger points, as follows: a Direct materials purchases charged to Inventory: Materials and In-Process Control b Completion of finished goods recorded as Finished Goods Control The backflush approach described closely approximates the costs computed using sequential tracking There is no work in process so there is no need for a Work in Process inventory account Further, by maintaining a Materials and In-Process Inventory Control and Finished Goods Control account, Glendale can keep track of and control the inventories of direct materials and finished goods in its plant 2a Glendale should adopt a backflush costing system with trigger points at completion of finished goods and at the sale of finished goods This would approximate the sequential tracking approach since the question assumes Glendale has no direct materials or work-in-process inventories There is, therefore, no need for these inventory accounts b A backflush costing system with two trigger points—when purchases of direct materials are made (debited to Inventory Control), and when Finished Goods are sold—would approximate sequential tracking, since the question assumes Glendale has no work-in-process or finished goods inventories c A backflush costing system with a single trigger point when finished goods are sold would approximate sequential tracking, since the question assumes Glendale has no direct material, work-in-process or finished goods inventories This is a further simplification of the examples in the text The principle here is that backflushing of costs should be triggered at the finished goods inventory stage if Glendale plans to hold finished goods inventory If Glendale plans to hold no finished goods inventory, backflushing can be postponed until the finished goods are sold In other words, the trigger points for backflushing relate to the points where inventory is being accumulated As a result, backflushing matches the sequential tracking approach and also maintains a record for the monitoring and control of the inventory Some comments on the quotation follow: a The backflush system is a standard costing system, not an actual costing system b If standard costing is used, an up-to-date, realistic set of standard costs is always desirable––as long as the set meets the cost-benefit test of updating c The operating environments of ―the present JIT era‖ have induced many companies toward more simplicity (backflush) and abandoning the typical standard costing system (sequential tracking) d Backflush is probably closer to being a periodic system than a perpetual system However, a periodic system may be cost-effective, particularly where physical inventories are relatively low or stable e The textbook points out that, to be attractive, backflush costing should generate the same financial measurements as sequential tracking––and at a lower accounting cost 20-29 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com f The choice of a product costing system is highly contextual Its characteristics should be heavily affected by its costs, the preferences of operating managers, and the underlying operating processes Sweeping generalizations about any cost accounting system or technique are unjustified Chapter 20 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 REGAL MARINE: Supply Chain Management Regal Marine’s supply-chain management approaches include the following: (1) Partner with upstream suppliers of direct materials and components to assure proper quality and to control costs, (2) Bring vendors and suppliers into the product design process so that new products and innovations can be designed into future products, and (3) Participate with other boat manufacturers in a buying group called the American Boat Builders Association These initiatives help Regal Marine to both reduce costs and improve quality Regal Marine can benefit from a strong relationship not only with its upstream direct materials suppliers, but also from the downstream retail channel relationships For example, retailers can provide retail sales forecasts for products that can help Regal Marine better plan production Retailers can also provide sales information so Regal Marine knows which boats are fast-sellers and which don’t seem to move off the showroom floor Regal Marine could work with its distribution network to offer pricing and promotional deals to help boost sales and push production of higher margin products There are several potential challenges to strengthening the supply chain relationship with retailers First, communication obstacles may arise if retailers are not willing to provide Regal Marine with enough information for planning and production Second, trust issues may arise if both sides don’t think the other will be able to meet commitments Third, there may be some information systems obstacles in the form of incompatible systems if the company and its retailers try to automate the exchange of information Lastly, both parties may face a shortage of human resources that prevent them from collecting, analyzing, and sharing information in a timely manner 20-30 ... 15 20 Relevant Ordering Costs per Purchase Order $300 $200 10,000 $300 $10 10,000 $300 $15 10,000 $300 $20 = 775 = 632 = 548 10,000 $200 $10 10,000 $200 $15 10,000 $200 $20 = 632 = 516 = 447 For... http://downloadslide.blogspot.com SOLUTION EXHIBIT 20- 29 Annual Relevant Costs of Current Purchasing Policy and JIT Purchasing Policy for Margro Corporation Relevant Relevant Costs under Costs under Current JIT Purchasing... units 20- 6 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 20- 20 (20 min.) Sensitivity of EOQ to changes in relevant ordering and carrying costs