Serra-Mica Srl is a maker of ceramic coffee cups. It imprints company logos and other sayings on the cups for both commercial and wholesale markets. The firm has the capacity to produce 3,000,000 cups per year, but the recession has cut production and sales last year to 1,500,000 cups. The summary operating statement for 2018 was as follows:

Cost of goods sold consists of variable costs of €750,000 (or €0.50 per cup) and fixed costs of €1,950,000 (or €1.30 per cup). There was no opening and no closing stock of finished goods in 2018.

Concerned about the loss, the board of directors hired a new CEO, Antonio Pirelli, and oered him an incentive-based compensation contract rather than the fixed-salary contract of the previous CEO. Pirelli’s contract paid €50,000 per year in salary plus a 15% bonus on the firm’s operating profits (if any) before deducting the bonus. Operating profits are calculated using full absorption costing – that is, fixed manufacturing costs per unit manufactured are inventoried and expensed only when the goods are sold. 

Pirelli took the following actions for 2019: 

a. Increased production to 2,500,000 cups. 

b. Increased sales to 1 800,000 cups. 

c. Increased marketing, distribution and administration costs to €650,000. (Pirelli’s salary of €50,000 is included in these costs.) 

The selling price per cup in 2019 of €2, the variable manufacturing costs per cup of €0.50 and total fixed manufacturing costs of €1 950,000 were all unchanged from 2018. 

At the end of 2019, Pirelli met with the board of directors and announced that he had accepted another job. He noted that he had put Serra-Mica successfully on track and thanked the board for the opportunity. His new job was to turn around another struggling company. 

Required 

1. Calculate Pirelli’s bonus for 2019. 

2. Evaluate Pirelli’s performance. Did he do as good a job as the numbers in requirement 1 suggest? Explain. 

3. Did Pirelli behave ethically? Explain your answer.

Transcribed Image Text:

Sales (1 500 000 x €2) Cost of goods sold Gross profit Marketing, distribution and administration costs (fixed) Operating profit €3 000 000 2700 000 300 000 400 000 €(100 000)