Material Handling Rate That Would Have Been Used by Eloise Smiths Predecessor at East Coast Marine - Assignment Example

Management accounting Name; Institution affiliation; Date; Question 1: The material handling rate that would have been used by Eloise Smith’s predecessor at East Coast Marine Traditionally, the costs of the material handling department have been allocated to direct material as a percentage of direct material dollar value. This means that Smith’s predecessor must have used this as the basis of allocating material handling cost. The rate is thus computed as follows; Material handling rate = Government or commercial contracts direct materials cost Total direct materials Total direct materials cost budget Government contracts $2,006,000 Commercial contracts $874,000 Total direct material costs $2,880,000 The material handling rate used by Smith’s predecessor is given by; Material handling rate = Government direct materials cost × Total direct materials = ($2,006,000/2,880,000) =$0.6965/ every dollar of material handling cost incurred for government contracts and = (874,000/2,880,000) = 0.3035/ every dollar of material handling cost incurred for commercial contracts In the case of Smith’s predecessor, the total material handling costs to be allocated to government contracts would be given by; Material handling rate = Government direct materials cost × Total material handling cost Total direct materials Where; The total material handling cost is calculated as follows; Payroll $180,000 Employees on cost $36,000 Telephone $38,000 Other utilities $22,000 Materials and supplies $6,000 Depreciation $6,000 Total material handling costs $288,000 Thus, Total material handling cost allocated to government contracts using the old method = ($2,006,000/2,880,000)*288,000 =$200,600 for government contracts and =(874,000/2,880,000)*288,000 =$87,400 for commercial contracts 2. Revised material handling costs allocated based on purchase order basis This is given by (Departmental number of orders/total orders) total material handling costs Allocation per department Government contracts = 80,000/242,000*$288000 = $95,207 Commercial contracts = 156,000/242,000*$288,000 =$185,653 Marketing =1,800/242,000*$288,000 =$2,142 Finance and administration =2700/242,000*$288,000 =$3,213 Human resources = 500/242,000*$288,000= $595 Maintenance = 1000/242,000*$288,000 = $1,190 3 Purchase orders might be a more reliable cost driver than dollar amount of direct material. This is because material handling costs are incurred whenever an order is placed and are also incurred to trigger an order for instance marketing cost and they do not depend on the dollar value of the materials purchased. Whether an order is valued at $100 or $100,000, it would more or less incur the same amount of material handling costs whenever it is placed its value notwithstanding. 4 The difference due to change to the new method of allocating material handling costs to government contracts Using the old method, material handling cost allocated to government contracts = $200,600 Using the purchase order basis of allocation, the costs to government contracts = $95,207 Therefore, the difference due to change to new method for government contracts= $105,393 5. Forecast Nb//purchase orders increase by 5%. Thus for government contracts, new orders for second and third year would be Total purchase orders Second year = 242,000*105% =254,100 Third year = 254,100*105% =266,805 Government orders are 33% thus Second year = 254,100*33% = 83,853 Third year = 266,805*33% =88,046 Nb// direct materials cost increase by 2.5% per year. Thus for Government contracts direct materials will be Total direct materials Second year = $2,880,000*102.5% =2,952,000 Third year =$2,852,000* 102.5% =$3,025,800 Government contracts will be 70% thus, Second year = 2,952,000*70% =$2,066,400 Third year = 3,025,800*70% =$2,118,060 Material handling costs increase in the same proportion as direct materials. Thus, Second year =$ 295,200 Third year = $302,580 Using old material handling allocation rate Year 2 = Government direct materials cost × Total material handling cost Total direct materials = ($2,066,400/2,952,000)*295,200 = $206,640 Year 3 = ($2,118,060/3,025,800)*302,580 =$211,806 Using new material handling cost allocation rate (Departmental number of orders/total orders) total material handling costs Year 2 = (83,853/254,100)*$295,200 =$97,416 Year 3 = (88,046/266,805)*302,580 =$99,852 Differences in cost allocation over the three years owing to change in allocation rate Year 1 = = $105,393 Year 2 =$206,640-$97,416 =$109,224 Year 3 = $211,806-$99,852 =$111,954 Forecasted cumulative 3 year impact =$326,571 6 Eloise Smith has an ethical conflict because Jones who tasked her with coming up with a better material handling cost allocation basis does not want her to use purchase orders as the basis of allocation as it is going to negatively affect his income. Yet failing to do so would mean continued use of the old allocation basis. This would mean that government contracts would continue being overpriced despite the complaint from government auditors. This means that should this continue, the company risks losing government contracts. The ethical conflict here is between doing what is right (use purchase orders as allocation basis) and hence correctly price government contracts or continue with the old faulty basis and hence preserve Jones bonuses. b) Smith could take several steps to resolve the conflict. He should discuss this with Jones to make him understand the need for using purchase orders as the allocation basis despite the effect on his bonuses. He should also talk to the management on this issue so that an amicable solution can be found. Finally, he should suggest to the management that the basis of paying bonuses be changed so as to safeguard Jones bonuses while ensuring the right allocation basis is applied. Question 2. The selling price at which to sell the compounds in a bid to maximize profit The Breakeven point in sales unit is given by x= FC/P-V Where X= number of units FC= Fixed cost P= unit price V= variable cost Standard compound NB// Fixed selling and administrative costs are calculated on the basis of the forecasted income for the two compounds. Standard compound At 100,000 fixed selling and admin cost = $240,000 1 unit = $240,000/100,000=$2.4/unit Commercial compound At 100,000 fixed selling and administrative cost = $360,000 1 unit = $360,000/100,000 = $3.6/unit price Units sold Total sales Fixed cost Variable cost Breakeven (x) Profit/loss $18 120000 =18*120,000=$2,160,000 $480,000+288,000=$768,000 $1,920,000 =768,000/(18-16) =384,000 ($528,000) 20 100000 =20*100,000=$2,000,000 $400,000+240,000=$640,000 $1,600,000 =640,000/(20-16)=160,000 ($240,000) 21 90000 =21*90,000 =$1,890,000 $360,000+216,000=$576,000 $1,440,000 =576,000/(21-16) =115,600 ($126,000) 22 80000 =22 *80,000 =$1,760,000 $320,000+192,000=$512,000 $1,280,000 =512,000/(22-16) =85,333 ($32,000) 23 50000 =23*50,000 =$1,150,000 $200,000+120,000 =320,000 $800,000 =320,000/(23-16) =45,715 $30,000 The management should select $23 for standard compound for the remaining six months of the year to maximize profit. By selling the standard compound at $23 per unit, it is the only price that guarantees the company a profit of $30,000. Selling at any other price would amount into losses as can be seen in the computation above. Commercial compound Price Units sold Total sales Fixed cost Variable cost Breakeven(x) Profit/loss $25 175,000 =25*175000=$4,375,000 $875,000+630,000=$1,505,000 $3,675,000 =$1,505,000/(2521)=376,250 ($805,000) 27 140,000 =27*140,000=$3,780,000 $700,000+504,000=1,204,000 $2,940,000 =1,204,000/(27-21) =200,667 ($364,000) 30 100,000 =30*100,000=$3,000,000 $500,000+360,000=860,000 $2,100,000 =860,000/(30-21) =95,556 $40,000 32 55,000 =32*55,000=$1,760,000 $275,000+198,000 =473,000 $1,155,000 =473,000/(32-21)=43,000 $132,000 35 35,000 =35*35,000=$1,225,000 $175,000+126,000= 301,000 $735,000 =301,000/(35-21)=23,154 $189,000 To maximize profit, the company should sell the commercial compound boxes at $35 per unit. At this price, the company will break even after selling 23,154 units. This is the level that will give the company the highest profit of $189,000. Thus, if the company aims at maximizing profit, it should sell the compound at $30. 2. If the optimum alternatives for the last six months were a selling price of $23 and a volume of 50,000 boxes for the standard compound and a selling price of $35 and volume of 35,000 boxes for the commercial compound, the company’s forecast results for the six months should look as follows, Standard Commercial Total Sales $1,150,000 $1,225,000 $2,375,000 Cost of goods sold $800,000 $665,000 $1,465,000 Gross profit $350,000 $560,000 $910,000 Selling and administrative expenses Variable $200,000 $245,000 $445,000 Fixed $120,000 $126,000 $246,000 Total selling and admin cost $320,000 $371,000 $691,000 Profit/loss before tax $30,000 $189,000 $219,000 The forecasted income statements when the compounds are sold at $23 and $35 shows that the company would realize a total of 4219,000 in profits before tax. While the standard compound would make $30,000 profit for the company, the commercial compound would realize $189,000 profit for the company. As such, the company should not consider closing down the plant’s operations until January 1 of the next year in order to minimize its losses. Closing it down will only lead to more losses owing to the cost of maintenance while as the above calculations show, the company would realize more profits thus lessening the loss suffered in the first quarter by continuing in operation and selling at the stated prices. b) The strategic factors that should be considered in deciding whether the Fremantle plant should be closed down during the last six months of the year include whether there are more profitable ways to which the plant can be utilized. This is because after closing, fixed costs would still be incurred implying that losses would even be more pronounced. It is also worth considering whether the variable costs and the fixed costs can be minimized. Minimizing costs would lead to some profit for the plant. The company also ought to consider whether there are competitors who would take advantage of this to enlarge their market share to the detriment of the plant during the closure period. Finally, the effect of the closure on the company’s reputation the customers and hence its future performance in the market should be considered. Question 3 Ultimate consultants Report on the effect of changing the fee collection structure Prepared for HLW To the chairman of the board Dear Sir, RE: Report on the effect of the proposed change of fee collection structure This report addresses the various issues raised by the board of management of HLW regarding the change of the current fee collection structure to a new one. The various issues raised are addressed below; a) The effect of the new membership plan and fee structure on the ability to plan HLW’s cash receipts The new HLW’s new membership plan and fee structure will improve its ability to plan its cash receipts. This is because the new plan is more predictable than the earlier plan. This means that the company can now be able to estimate in advance how much money it expects to receive in any given year and hence be able to better plan for it on the basis of its traditional and new expenses. In addition, it is worth noting that after the new structure is fully in place (for instance after one year of its implementation), it would be expected that the majority of members would renew their membership at the start of the financial year. This implies that the company will receive most of its cash at the start of the year hence putting it in a better position to plan for it. It is worth noting that some of the people involved in cash collection may no longer be needed as the bulk of cash is collected at the start of the year. This means that the new plan may also mean reduced expenses for the company and better cash receipts management. It is worth noting that cash receipts under the old plan occurred throughout the year owing to the fact that members used to pay for hourly usage. This is despite the fact that bulk cash receipts occurred at the start of the year due to membership fee renewal. This means that it was hard to predict the amount of cash to receive during the year since it depended on how the courts were being used. Using the new plan however, there are no court fees and once one has paid membership fee, the company does not expect any more receipts from the member making cash receipts management easier as it is certain how much HLW has received from each member and a look at the membership register can help determine the amount of money it has received depending on the number of members. Working with certain amount of cash receipts makes planning easier as opposed to the old plan when one could not easily predict the amount of receipts. b) The effect on sales revenue resulting from the planned change in fee structure for the next financial year It is assumed that under the old plan, the court fees were paid on the basis of the teams using the courts and not per individual members on the court. On this basis, the effect of changing the plan can be estimated by calculating the difference in receipts between the two methods. The old method Family members = 2,000*50% = 1,000 members*100 = $100,000 Student = 2,000*50%*0.5 =500 members*30 = $15,000 Individual = 2,000*50%*0.5 =500 members*30 =$22,500 Total membership fees =$137,500 It is assumed that student and individual members are equal and that each of the 2,000 members renewed membership. Court fees There are 10 courts in use for 12 hours a day = 10*12 = 120 hours of usage per day Assume prime time charges are $12 and non-prime time charges are $8 For peak time 4 hours are prime while 8 hours are non-prime. Since usage during prime time varies between 90 and 100%, we assume that the usage during prime hours averages 95%. Similarly, we assume usage during non-prime hour’s average 55%. But peak time is 181 days Thus, prime time usage =4/12*120 =40 hours *12 *0.95= $456 per day *181 =$82,536 Non-prime time usage = 8/12*120 = 80 hours *8*0.55 = $352 per day*181 =$63,712 Total court fees during prime time usage =$146,248 During off-peak, it is assumed that the hourly charge is the same during prime and non-prime time at $6 per hour. Since usage averages 20-40%, we assume a 50% probability at both ends and hence assume it averages 30% for the off-peak for the remaining 184 days assuming a 365 days year. Thus, off-peak court usage = 120 hours *6*0.30 = $216 per day *184 = $39,744 Therefore total receipts under the old plan = $137,500+$146,248+$39,744 =$323,492 The new plan Joining within the first 6 months would do it in equal proportions per month. Family =70%*1000 = 700 members but 45% take the offer = 1,000*45% = 450 members thus, the remaining 250 would pay full fee. Individual members = 700 members with 45% taking the offer = 1,000*45% =450 members thus, the remaining 250 would pay full fee Thus, fees paid by existing members Family = 450*$450+ 250*500 = 202,500+125,000 = $327,500 Individual = 450*$250 +250*$300 =112,500+75,000 = $187,500 Total receipts from old members = $515,000 New members It is assumed that the club membership remains 2000 and hence 600 new members join within the first 6 months would do it in equal proportions per month with 50% being individual and 50% being family 1st month = 50 family*500 +50individual*300 = $40,000 2nd month= 50*500*11/12+50*300*11/12 = $36,667 3rd month = 50*500*10/12+50*300*10/12= $33,333 4th month = 50*500*9/12+50*300*9/12= $30,000 5th month =50*500*8/12+50*300*8/12= $26,667 6th month =50*500*7/12+50*300*7/12= $23,333 Total for new members = $190,000 Total cash receipt under new plan Old members = $515,000 New members = $190,000 $705,000 Difference between the 2 plans New plan = $705,000 Old plan = $323,492 = $381,508 Thus, changing to the new plan would be expected to result in an increase in cash receipts by $381,508 which is more than double the receipts under the old plan. This is in addition to making cash receipts planning easier as discussed above. 1. HLW ought to evaluate the new membership pan and fee structure before it decides to adopt it. Some of the key factors the company ought to consider include how its competitors charge their clients. If they appear to offer better package than the proposed plan, HLW current members may decide to join the competitors to the detriment of HLW. The company also ought to consider the affordability of the new plan. This is because if the members feel unable to pay the onetime fee, they may opt for the old plan where they would afford small fees whenever they want to use the courts. This would make them look for alternatives to the detriment of HLW. The company should also consider the effect of introducing the new plan on the space available. This is because now that there are no court fees, members may take advantage of this and flood the courts at all times leaving some members with no space. This would result in complaints due to poor service and some members would thus opt for competitors. In a bid to make a complete evaluation, HLW should conduct financial analysis including a cash receipt budget under the two plans. A comparison of the two budgets would reveal which of the two options is better financially. 2. HLW’s cash management practices would change by changing the plan. Under the old plan, the company was most likely using the accrual basis whereby it would budget for its cash usage on the basis of the cash receivables expected. However under the new plan, this would change to cash basis since cash management would be based on cash on hand. References: Jared, B2015, Introduction Managerial accounting, London, Rutledge. Read More