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CASE -1

Reynolds Manufacturing Company

by

Khursheed Omer

Reynolds Manufacturing Company manufactures a product that is processed in three sequential departments. Lately, the competition in the industry has become very intense as many foreign manufacturers have introduced their product in the international market at lower prices.

Management at Reynolds is considering process improvement. They have been told by a sales representative of a manufacturing equipment company that introduction of state-of-art equipment and several other measures in processing department #1 can significantly reduce the per unit cost of processing. This would allow competitive pricing of their finished product. Cost reduction will be accomplished by eliminating material waste and eliminating direct labor cost (the new equipment will perform many functions that previously required manual labor). The new system will cost $ 6,320,000 and will have a useful life of ten years. Accordingly, new equipment and other measures were introduced on a trial basis. Management is eager to find out if this change will yield the desired results. At the end of the trial month, the cost per equivalent unit figures for the following partial cost of production report in Process #1 prepared by the company accountant were made available.

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Process #1

Beginning Work in Process 60,000 units

(100% Material, 75% Conversion)

Units Started during the month 40,000 units

-----------------

Units to account for 100,000 units

===========

EQUIVALENT UNITS

Direct Material Conversion

Total number of units completed 85,000 units 85,000 85,000

Ending Work in Process 15,000 units 15,000 12,000

(100% Material, 80% Conversion)

--------------------------------------------------------------------

Units accounted for 100,000 100,000 97,000

===========================================

Direct materials Conversion Total

Cost of Beginning Work in Process: $ 300,000 $ 450,000 $ 750,000

Cost incurred this month: $ 160,000 $ 116,000 $ 276,000

-------------------------------------------------------------------------

Total Cost $ 460,000 $ 566,000 $1,026,000

Divided by Equivalent units

100,000 97,000

= $ 4.60 $ 5.84 $ 10.44

Company CEO and the foreman in charge of the department are not very impressed by the performance of the new system as they see no significant difference in the cost per equivalent unit of processing from what it was previously. They are wondering if such a huge investment is justified when the company is under intensive competitive pressure. However, the sales representative insists that other companies who have purchased this system have experienced significant reduction in cost of processing. You are a management consultant retained by the company. You have been asked to look into this issue and make a recommendation to the CEO of the company.

CASE -1 Reynolds Manufacturing Company by Khursheed Omer Reynolds Manufacturing Company manufactures a product that is processed in three sequential departments. Lately, the competition in the industry has become very intense as many foreign manufacturers have introduced their product in the international market at lower prices. Management at Reynolds is considering process improvement. They have been told by a sales representative of a manufacturing equipment company that introduction of state-of-art equipment and several other measures in processing department #1 can significantly reduce the per unit cost of processing. This would allow competitive pricing of their finished product. Cost reduction will be accomplished by eliminating material waste and eliminating direct labor cost (the new equipment will perform many functions that previously required manual labor). The new system will cost $ 6,320,000 and will have a useful life of ten years. Accordingly, new equipment and other measures were introduced on a trial basis. Management is eager to find out if this change will yield the desired results. At the end of the trial month, the cost per equivalent unit figures for the following partial cost of production report in Process #1 prepared by the company accountant were made available. ...... continued on next page Process #1 Beginning Work in Process (100% Material, 75% Conversion) 60,000 units Units Started during the month 40,000 units ----------------100,000 units =========== Units to account for Total number of units completed 85,000 units EQUIVALENT UNITS Direct Material Conversion 85,000 85,000 Ending Work in Process 15,000 units 15,000 12,000 (100% Material, 80% Conversion) -------------------------------------------------------------------Units accounted for 100,000 100,000 97,000 =========================================== Direct materials Cost of Beginning Work in Process: $ 300,000 Cost incurred this month: Total Cost Divided by Equivalent units = Conversion $ 450,000 Total $ 750,000 $ 160,000 $ 116,000 $ 276,000 ------------------------------------------------------------------------$ 460,000 $ 566,000 $1,026,000 100,000 97,000 $ 4.60 $ 5.84 $ 10.44 Company CEO and the foreman in charge of the department are not very impressed by the performance of the new system as they see no significant difference in the cost per equivalent unit of processing from what it was previously. They are wondering if such a huge investment is justified when the company is under intensive competitive pressure. However, the sales representative insists that other companies who have purchased this system have experienced significant reduction in cost of processing. You are a management consultant retained by the company. You have been asked to look into this issue and make a recommendation to the CEO of the company