Question 1 CASE STUDY (62 MARKS) SURVEY LIMITED The year is 2019 and Thomas McCready, Managing Director of Survey Limited is considering the strategic direction of his company. Thomas started the company in 1995 to manufacture and sell good quality surveying equipment (in particular theodolites') and the firm has been steadily successful. Growth and reinvestment has meant that its assets are now valued at $5.5 million. To ensure a smooth succession when he retires in 2024, Thomas has created a Strategic Planning Committee. This committee met recently and endorsed a new direction in surveying technology, and in particular a move towards manufacturing and selling surveying drones in 2020. Thomas is a little nervous about such a move. Although factory modifications would be minor, he knows that his current capacity would only allow the production of one of the products, either the theodolite or the new surveying drone. The theodolite has always sold well in the past, but is now competing in a very mature national market and requires substantial marketing effort to maintain its current 10% share. The market for surveying drones is developing. Surveying drones can hover above specific sites and use sensors to measure, transmit and store data. They eliminate much of the ground work required when using theodolites. Newly graduated surveyors have used drones in their university studies and so are comfortable using this technology. The Strategic Planning Committee believes the surveying drone market is sure to grow further, probably at a compounding rate of 8% per annum for the next three years. Thomas is also aware that direct materials for theodolites are rising in price at a rate higher than comparable drone components. Thomas decides to gather further information from his Marketing Manager Andrea Chin and his Production Manager Michael Hutchison. Andrea has provided the information presented in Exhibit 1. The information for the theodolite was based on current year's sales. Exhibit 1 Predicted Selling Price/Unit and Sales volume in 2020 Theodolite Surveying drone Unit selling price $2,500 $2,000 Probable unit sales 1,800 700 2,400 800 Probability of 0.7 0.4 achieving this sales level 0.3 0.6 Theodolite is a surveying instrument with a rotating telescope for measuring horizontal and vertical angles. She has also reported that a number of Survey Limited's competitors appear to be investigating or moving towards a change to drones. Although not sure, she suspects that this has created a heightened employment market for survey equipment manufacturing staff. Andrea has predicted that Survey Limited would capture 20% of the new market if it made the change to manufacturing surveying drones in 2020. Because of economies of scale, the Production Manager, Michael Hutchison, has estimated the following average direct material cost per unit produced (Exhibit 2). Exhibit 2 Direct Material Cost/Unit for 2020 Output (units) drone 1-500 501-1000 1001-1500 1501-2000 2001-2500 2501-3000 Material Cost for theodolite Material Cost for ($/unit) ($/unit) 1000 650 950 640 900 630 850 620 610 600 Both the surveying drone and the theodolite would be processed in two departments, Fabrication and Assembly. As the theodolite has been manufactured for some time, Michael has good records of the time taken to manufacture a unit. In Fabrication direct labour hours for one theodolite are 6.0 hours. Assembly direct labour hours are 5.0 if making less than 1000 theodolites, but 4.5 if making 1000 theodolites or more. As the surveying drone is a new product, the labour hours required in both departments are subject to a cumulative average time learning curve of 80%. A work study exercise has shown that the labour hours per unit required in the initial batch of 400 surveying drones are 8 hours/drone in Fabrication and 6 hours/drone in Assembly. Staff are employed on an hourly rate basis, at a rate of $25.00/hour in the Fabrication department and $20.00/hour in the Assembly Department. Michael confirms that in the last six months, these rates have risen more than the cost of living increase and experienced staff are becoming harder to attract and retain. Variable overheads are incurred at a rate of $2.50/DL$ for both the Fabrication and Assembly departments. Common fixed overheads are $70,000 regardless of the product manufactured. Fixed overheads relating specifically to theodolite production are expected to total $50,000 in 2020 but would be twice that amount for drone production. Required: (a) At the probable sales level of 1,800 units, determine the following estimated figures for the theodolite for 2020: (1) Variable production costs/unit (ii) Contribution margin/unit (iii) Contribution margin (iv) Profit before tax (v) Breakeven sales volume (8 marks) (b) At the probable sales level of 700 units, determine the following estimated figures for the theodolite for 2020: (i) Variable production costs/unit (ii) Contribution margin/unit (iii) Contribution margin (iv) Profit before tax (v) Breakeven sales volume (8 marks) (c) At the probable sales level of 2,400 units, determine the following estimated figures for the surveying drone for 2020: (i) Variable production costs/unit (ii) Contribution margin/unit (iii) Contribution margin (iv) Profit before tax (v) Breakeven sales volume (10 marks) (d) At the probable sales level of 800 units, determine the following estimated figures for the surveying drone for 2020: (i) Variable production costs/unit (ii) Contribution margin/unit (iii) Contribution margin (iv) Profit before tax (v) Breakeven sales volume (10 marks) (e) What is the expected profit before tax and Return on Assets for each of the theodolite and surveying drone for 2020? Which product maximises Survey Limited's profit before tax for 2020? (6 marks) (f) Provide a full discussion of the advantages and disadvantages in changing production from that of the theodolite to that of the surveying drone. Draw on your answers to parts (2) - (e) above, as well as other facts provided in the case. Provide calculations wherever possible. (15 marks) (8) What would you recommend Thomas McCready do in order to maintain Survey Limited as a viable economic entity in the short to medium term? Justify your recommendations. (5 marks) Question 1 CASE STUDY (62 MARKS) SURVEY LIMITED The year is 2019 and Thomas McCready, Managing Director of Survey Limited is considering the strategic direction of his company. Thomas started the company in 1995 to manufacture and sell good quality surveying equipment (in particular theodolites') and the firm has been steadily successful. Growth and reinvestment has meant that its assets are now valued at $5.5 million. To ensure a smooth succession when he retires in 2024, Thomas has created a Strategic Planning Committee. This committee met recently and endorsed a new direction in surveying technology, and in particular a move towards manufacturing and selling surveying drones in 2020. Thomas is a little nervous about such a move. Although factory modifications would be minor, he knows that his current capacity would only allow the production of one of the products, either the theodolite or the new surveying drone. The theodolite has always sold well in the past, but is now competing in a very mature national market and requires substantial marketing effort to maintain its current 10% share. The market for surveying drones is developing. Surveying drones can hover above specific sites and use sensors to measure, transmit and store data. They eliminate much of the ground work required when using theodolites. Newly graduated surveyors have used drones in their university studies and so are comfortable using this technology. The Strategic Planning Committee believes the surveying drone market is sure to grow further, probably at a compounding rate of 8% per annum for the next three years. Thomas is also aware that direct materials for theodolites are rising in price at a rate higher than comparable drone components. Thomas decides to gather further information from his Marketing Manager Andrea Chin and his Production Manager Michael Hutchison. Andrea has provided the information presented in Exhibit 1. The information for the theodolite was based on current year's sales. Exhibit 1 Predicted Selling Price/Unit and Sales volume in 2020 Theodolite Surveying drone Unit selling price $2,500 $2,000 Probable unit sales 1,800 700 2,400 800 Probability of 0.7 0.4 achieving this sales level 0.3 0.6 Theodolite is a surveying instrument with a rotating telescope for measuring horizontal and vertical angles. She has also reported that a number of Survey Limited's competitors appear to be investigating or moving towards a change to drones. Although not sure, she suspects that this has created a heightened employment market for survey equipment manufacturing staff. Andrea has predicted that Survey Limited would capture 20% of the new market if it made the change to manufacturing surveying drones in 2020. Because of economies of scale, the Production Manager, Michael Hutchison, has estimated the following average direct material cost per unit produced (Exhibit 2). Exhibit 2 Direct Material Cost/Unit for 2020 Output (units) drone 1-500 501-1000 1001-1500 1501-2000 2001-2500 2501-3000 Material Cost for theodolite Material Cost for ($/unit) ($/unit) 1000 650 950 640 900 630 850 620 610 600 Both the surveying drone and the theodolite would be processed in two departments, Fabrication and Assembly. As the theodolite has been manufactured for some time, Michael has good records of the time taken to manufacture a unit. In Fabrication direct labour hours for one theodolite are 6.0 hours. Assembly direct labour hours are 5.0 if making less than 1000 theodolites, but 4.5 if making 1000 theodolites or more. As the surveying drone is a new product, the labour hours required in both departments are subject to a cumulative average time learning curve of 80%. A work study exercise has shown that the labour hours per unit required in the initial batch of 400 surveying drones are 8 hours/drone in Fabrication and 6 hours/drone in Assembly. Staff are employed on an hourly rate basis, at a rate of $25.00/hour in the Fabrication department and $20.00/hour in the Assembly Department. Michael confirms that in the last six months, these rates have risen more than the cost of living increase and experienced staff are becoming harder to attract and retain. Variable overheads are incurred at a rate of $2.50/DL$ for both the Fabrication and Assembly departments. Common fixed overheads are $70,000 regardless of the product manufactured. Fixed overheads relating specifically to theodolite production are expected to total $50,000 in 2020 but would be twice that amount for drone production. Required: (a) At the probable sales level of 1,800 units, determine the following estimated figures for the theodolite for 2020: (1) Variable production costs/unit (ii) Contribution margin/unit (iii) Contribution margin (iv) Profit before tax (v) Breakeven sales volume (8 marks) (b) At the probable sales level of 700 units, determine the following estimated figures for the theodolite for 2020: (i) Variable production costs/unit (ii) Contribution margin/unit (iii) Contribution margin (iv) Profit before tax (v) Breakeven sales volume (8 marks) (c) At the probable sales level of 2,400 units, determine the following estimated figures for the surveying drone for 2020: (i) Variable production costs/unit (ii) Contribution margin/unit (iii) Contribution margin (iv) Profit before tax (v) Breakeven sales volume (10 marks) (d) At the probable sales level of 800 units, determine the following estimated figures for the surveying drone for 2020: (i) Variable production costs/unit (ii) Contribution margin/unit (iii) Contribution margin (iv) Profit before tax (v) Breakeven sales volume (10 marks) (e) What is the expected profit before tax and Return on Assets for each of the theodolite and surveying drone for 2020? Which product maximises Survey Limited's profit before tax for 2020? (6 marks) (f) Provide a full discussion of the advantages and disadvantages in changing production from that of the theodolite to that of the surveying drone. Draw on your answers to parts (2) - (e) above, as well as other facts provided in the case. Provide calculations wherever possible. (15 marks) (8) What would you recommend Thomas McCready do in order to maintain Survey Limited as a viable economic entity in the short to medium term? Justify your recommendations