The Hospital Instruments Division of MedLife Technology Corporation manufactures a variety of electronic medical equipment. The principal product of the Hospital Instruments Division is a sophisticated instrument for measuring and graphically displaying a variety of medical phenomena, such as heart and respiration rates. The culture throughout the division was primarily engineering-oriented. One result of this culture was that the company's design engineers generally designed new products from scratch, rather than relying on modification of a current design. While this approach usually resulted in an "elegant"

design from an engineering standpoint, it often resulted in the use of new or unique parts that were not already being used in the company's other products. The strategy of the Hospital Instruments Division's management was to position the division as a product differentiator and price leader, not as the industry's low-cost producer. This means that the division generally led the medical instruments market with new products that exhibited greater functionality than competing products and that the products were priced at a premium. The company's competitors then would emulate a new product, produce it at a lower cost, and undercut the MedLife Technology price. However, by then MedLife Technology had moved on to a new product with even greater functionality. This strategy had been quite successful until the Japanese entered the medical instruments market in a major way. MedLife Technology's new competitors were able to set product prices some 25 percent below those of MedLife Technology, while maintaining close to the same level of functionality. In order to compete, the Hospital Instruments Division had to lower its prices below its reported product costs. This resulted in significant losses for the division.

To remedy the situation, the Hospital Instruments Division's management began an extensive continuous improvement program. The division changed its production and inventory management system to a JIT system, ideas of total quality control were aggressively pursued, and management attempted to develop an empowered workforce. All of these efforts paid off dramatically. However, production costs were still relatively high for the industry, and cycle times were considered too long by management. The general feeling was that in order to remain competitive in the long run, the division would have to further lower its production costs and shorten its production cycle times. As management contemplated the high production costs, one problem that kept coming up was the division's part number proliferation. As the engineering-dominated company continued to introduce new products, the number of different parts and components that had to be stocked in inventory continued to increase. Some members of management felt that the division's cost-reduction goals could be achieved (at least partially) by solving the problem of part number proliferation.

As management was pondering the division's cost-reduction goal, the controller was contemplating the introduction of a new cost-accounting system. The controller was thinking about introducing activity-based costing and activity-based management in the Hospital Instruments Division.

Required:
1. Explain why the problem of part number proliferation could increase the division's production costs.
2. Explain how long production cycle times could increase the division's production costs.
3. How could an ABC system be used to help reduce costs by attacking the problem of part number proliferation? Allow yourself to contemplate an entirely new role for ABC that is quite different from the objective of more accurate product costs. The following specific questions may help in completing this requirement.

a. What is the division's strategy in the marketplace?

b. How are prices currently being determined?

c. Does management really need more accurate product costs, given its strategy and the reality of market-driven prices?

d. What is the current goal of management?

e. What is (at least partially) to blame for high production costs?

f. Who is (at least partially) to blame for high production costs?
g. How could an ABC system help solve the problem and reduce production costs?
4. Following up your answer to requirement (3), what cost drivers could be employed to help solve the problem of part number proliferation? Which cost driver would work best? Explain.
5. How could an ABC system help highlight and solve the problem of production cycle times that are too long?
6. As succinctly as you can, state how the fundamental role of the ABC system differs here from the role.