Plant Closing Decision

The Dough Knot Corporation bakes breads, pastries, cookies and every other baked good imaginable. The company has a number of plants around the world, including the USC Cookie Plant, which makes... cookies.

Mod is the plant manager of the USC Cookie Plant but also serves as the regional production manager for the company. His budget as the regional manager is charged to the USC Cookie Plant.

Mod has just heard that The Dough Knot has received a bid from an outside vendor to supply the equivalent of the entire annual output of the USC Cookie Plant for $35 million. Mod was astonished at the low outside bid because the budget for the USC Cookie Plants operating costs for the upcoming year was set at $52 million. If this bid is accepted, the USC Cookie Plant will be closed down.

The budget for USC Covers operating costs for the coming year is presented below.

Additional facts regarding the plants operations are as follows:

A) Due to USC Cookies commitment to use high-quality ingredients in all of its products, the Purchasing Department was instructed to place blanket purchase orders with major suppliers to ensure the receipt of sufficient materials for the coming year. If these orders are canceled as a consequence of the plant closing, termination charges would amount to 20% of the cost of direct materials.

B) Approximately 400 plant employees will lose their jobs if the plant is closed. This includes all of the direct laborers and supervisors as well as the plumbers, electricians, and other skilled workers classified as indirect plant workers. Some would be able to find new jobs while many others would have difficulty. All employees would have difficulty matching USC Cookies base pay of $18.80 per hour, which is the highest in the area. A clause in USC Cookies contract with the union may help some employees; the company must provide employment assistance to its former employees for 12 months after a plant closing. The estimated cost to administer this service would be $1.5 million for the year.

C) Some employees would probably choose early retirement because The Dough Knot has an excellent pension plan. In fact, $3 million of the annual pension expense would continue whether USC Cookie is open or not.

D) Mod and her staff would not be affected by the closing of USC Cover. They would still be responsible for administering three other area plants.

E) If the USC Cookie Plant were closed, the company would realize about $3.2 million salvage value for the equipment and building. If the plant remains open, there are no plans to make any significant investments in new equipment or buildings. The old equipment is adequate and should last indefinitely.

Required:

The Dough Knot Corporation plans to prepare a financial analysis that will be used in deciding whether or not to close the USC Cookie Plant. Management has asked you to identify:

1. The annual budgeted costs that are relevant to the decision regarding closing the plant.

2. The annual budgeted costs that are not relevant to the decision regarding closing the plant.

3. Any nonrecurring costs that would arise due to the closing of the plant. Looking at the data you have prepared above

4. Calculate the financial advantage (disadvantage) of closing the plant.

5. Should the plant be closed?

Cookie Plant Annual Budget for Operating Costs $14,000,000 Materials Labor: $13,100,000 900,000 4,000,000 Direct Supervision Indirect plan-t 18,000,000 Overhead: Depreciation-equipment 3,200,000 7,000,000 5,000,000 800,000 4,000,000 Depreciation-building Pension expense Plant manager and statf 20,000,000 Corporate expenses* $52,000,000 Total budgeted costs *Fixed corporate expenses allocated to plants and other operating units based on total budgeted wage and salary costs