Quality improvement programs and cost savings Gurland Valves

Company manufactures brass valves that meet precise specification

standards. All finished valves are inspected before being packaged and

shipped to customers. Rejected valves are returned to the initial production

stage to be melted and recast. Such rework requires no new materials in

casting but requires new materials in finishing. The following unit cost data

for direct materials, direct labor, and time-driven activity-based costing

(ABC) support are available:

COSTS CASTING FINISHING INSPECTION PACKING TOTAL

Direct materials $225 $12 $0 $8 $245

Direct labor 84 121 24 16 245

Support 122 164 30 20 336

As a result of a quality improvement program, the reject rate has decreased

from 6.4% to 5.1%, and the number of rejects has decreased by (6.4% 5.1%)

(10,000) units. Improvements in reject rates have also led to a decrease in workin-

process inventory from $386,000 to $270,000. Inventory carrying costs are

estimated to be 15% per year. Estimate the annual cost savings as a result of the

quality improvement, assuming that capacity costs as indicated by the timedriven

ABC support costs can be reduced if not needed.