Peter George is a vice president responsible for financial planning and analysis (FP&A) at AC-US. in New York. In his role, George and his team evaluate all significant projects with financial implications. George led the team that analyzed and recommended the restructuring six years ago that significantly improved the expense ratio.

George met with Brian Thomas, the chief financial officer (CFO). Thomas had reviewed the first quarter preliminary revenue and earnings and told George that it is imperative for the company to find ways to reduce expenses to improve earnings. He set a goal of a 10% reduction in operating expenses. If AC-US achieved that goal, he estimated that the company would return the expense ratio to a value below 11% and operating earnings would return to 2007 levels.

Before engaging the rest of the organization, the CFO would like the functions he manages to take a leadership position in the cost reductionsnot just recommending cost reduction actions but also providing examples to show they are effective. Thomas reviewed the accounting function first, and decided he wants it to reduce expenses by 10% overall, in line with the companys overall target. He also would like to see a payback period of two years or less for any one-time costs.

Thomas asked George to evaluate potential cost saving alternatives and provide him with a preliminary analysis within one week. Thomas then informs George that the company has recently began performing some accounting functions in the service center in India and gives George the contact information for Sanjay Delphi, the project manager for the companys India facility.

George believes that in addition to outsourcing (offshoring), increasing the use of electronic payments in accounts payable and relocating some of accounting functions to the service center in N.J. are two other viable ways to reduce costs. George made notes on information regarding expenses relevant for the analysis, including the severance policy (see Table 7, section F).

George also pulled up the organization chart to list all of the various accounting functions as well as their annual expense budgets (Table 1). George further assembled information on the staff in each of the accounting functions including their salaries, benefits, residence, and possible severance based on the years of service and prepared a summary by function (see Table 6).

George meets with two of his team members, Samantha Charleston and Ryan Falkirk, to explain the project. Given the one-week turnaround time for the analysis, George suggests that each of them select one option to analyze over the next four days and then meet to develop their recommendations. George selects offshoring, while Charleston decides to analyze electronic check processing, and Falkirk will analyze relocating accounting functions

Charleston performs some background research on electronics. She finds that the use of electronics payments has increased substantially as the number of checks used in business-to-business transactions rose. . The use of paper checks decreased by 5% from 2006 to 2009. The estimated savings from use of electronics payments instead of paper checks ranged from 20% to 90%.

Since the accounts payable function issues all of its payments as checks, Charleston believes that there may be significant savings if the company made greater use of electronic payments. Charleston contacts the companys corporate banking representative to inquire about electronic payment alternatives. She finds that the bank charges an average of $0.124 per electronic payment. the bank also provides Charleston with a contact at a company that recently adopted electronic payments(identified as XYZ)

As a means to estimate the potential impacts, she contacts Company XYZs treasurer to discuss hot it impacted their staffing needs and costs is informed that company xyz averaged 2 minute In labor per manual check and only 1.5 minute for each electronic payment. For recurring payments, company XYZ experienced 80% timesavings annually. To support her analysis, Charleston requests and receives a report showing the number of the companys checks that are recurring to vendors as well as those to employees and business partners, which are good candidates for electronics payments.(see table 4)

Based on her preliminary analysis, Charleston estimates that the company can process up to 50% of its current payments electronically. Using the Results for Company XYZ as a proxy, she estimates that electronic payments would reduce processing time by 25% for each electronic payment. Payment. Since recurring payments require minimal work after initial set-up, the potential estimated time savings is 80%. Since 16% of payments are recurring, labor savings would be possible.

Charleston estimates that electronic payment processing would reduce staff, with associated reductions in salaries and benefits, and other associated costs. To estimate the impact on staff, she uses ten employees processing 600,000 checks annually and assumes that 50% of the payments could become electronic. To calculate the potential savings in salaries and benefits, she assumes that the staff reductions would involve less experienced staff and represent 15% of total salaries and benefits for accounts payable. She estimates also that there would be savings in personal computer (PC) costs, IT support, and other costs of $1,775 per employee. Additionally, there would be a reduction in postage costs in direct proportion to the reduction of the number of checks. These savings would be partially offset by an additional cost of $0.125 for each electronic payment that replaces a check. Further, she uses the information from Table 6, and estimates that severance costs would represent 15% of the maximum eligible severance for accounts payable.

Table 6: Summary Employee Information for Severance Calculations

						Weeks of		Total				Actual Costs
		Number of				Eligible		Annual		Benefits						Payroll
Tax Department:			Employees			Severance		Salaries		Load		Health		401 (k)		Taxes
Department head and assistant			2		32		$250,000		$62,500		$17,200		$12,500		$19,125
Federal Tax
N.J. residents			4		76		445,000		111,250		32,200		22,250		34,043
NonN.J. residents			4		66		357,000		89,250		27,200		17,850		27,311
Total			8		142		802,000		200,500		59,400		40,100		61,354
State Taxes
N.J. residents			9		140		627,000		156,750		76,600		31,350		47,966
NonN.J. residents			3		52		185,000		46,250		20,000		9,250		14,153
Total			12		192		812,000		203,000		96,600		40,600		62,119
Controllers Department:
Department head and assistant			2		28		285,000		71,250		15,000		14,250		21,803
SEC Reporting
N.J. residents			5		96		379,000		94,750		34,400		18,950		28,994
NonN.J. residents			2		36		146,000		36,500		17,200		7,300		11,169
Total			7		132		525,000		131,250		51,600		26,250		40,163
U.S. GAAP Reporting
N.J. residents			5		74		413,500		103,375		37,200		20,675		31,633
NonN.J. residents			2		30		161,500		40,375		12,200		8,075		12,355
Total			7		104		575,000		143,750		49,400		28,750		43,988
Regulatory Reporting
N.J. residents				4		52		351,000		87,750		27,200		17,550		26,852
NonN.J. residents				2		30		174,000		43,500		17,200		8,700		13,311
Total				6		82		525,000		131,250		44,400		26,250		40,163
Management Reporting
N.J. residents				4		52		303,000		75,750		27,200		15,150		23,180
NonN.J. residents				2		30		152,000		38,000		17,200		7,600		11,628
Total				6		82		455,000		113,750		44,400		22,750		34,808
Cost Accounting
N.J. residents		5				70		322,000		80,500		34,400		16,100		24,633
NonN.J. residents		1				12		63,000		15,750		10,000		3,150		4,820
Total		6				82		385,000		96,250		44,400		19,250		29,453
General Accounting
N.J. residents		9				128		559,000		139,750		69,400		27,950		42,764
NonN.J. residents		1				18		69,000		17,250		7,200		3,450		5,279
Total		10				146		628,000		157,000		76,600		31,400		48,042
Table 6: Summary Employee Data (continued)
						Weeks of		Total		Actual Costs
		Number of			Eligible			Annual		Benefits						Payroll
		Employees			Severance			Salaries		Load		Health		401 (k)		Taxes
Accounts Payable
N.J. residents		7			106			333,000		83,250		46,600		16,650		25,475
NonN.J. residents		3			60			137,000		34,250		25,000		6,850		10,481
Total (a)		10			166			470,000		117,500		71,600		23,500		35,956
Bank Reconciliation
N.J. residents		3			42			137,000		34,250		30,000		6,850		10,481
NonN.J. residents		2			24			78,000		19,500		12,200		3,900		5,967
Total a		5			66			215,000		53,750		42,200		10,750		16,448
Financial Reporting & Analysis Department
Budgeting
N.J. residents		2			28			177,000		44,250		12,200		8,850		13,541
NonN.J. residents		2			26			148,000		37,000		15,000		7,400		11,322
Total		4			54			325,000		81,250		27,200		16,250		24,863
Financial Analysis
N.J. residents		6			72			526,000		131,500		39,400		26,300		40,239
NonN.J. residents		2			30			159,000		39,750		17,200		7,950		12,164
Total		8			102			685,000		171,250		56,600		34,250		52,403

Question:

1)Using the information that Charleston gathered on electronic payment processing, determine the potential staff reduction and calculate the potential annual cost savings from electronic processing of 50% of the accounts payable checks.

B) If AC-US outsources bank reconciliations and/or accounts payable, what would be the maximum combined savings of electronic payments and outsourcing over the next three years, including the one-time costs? (Be sure to include severance costs, using information from Table 6, in the one-time costs).