Reynolds Manufacturing Company

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 wastage 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 would yield the desired results. At the end of the trial month, the per unit cost figures and the following partial cost of production report for Process #1 prepared by the company accountant was made available.

Beginning Work in Process60,000 units

(100% Material, 75% Conversion)

Units Started during the month40,000 units

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Units to account for100,000 units

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EQUIVALENT UNITS

Direct MaterialConversion

Total number of units completed 85,000 units85,000 85,000

Ending Work in Process15,000 units15,00012,000

(100% Material, 80% Conversion)

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Units accounted for100,000 100,00097,000

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Direct materialsConversionTotal

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

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

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

Divided by Equivalent units

100,00097,000

=$ 4.60$ 5.84$ 10.44

The Company CEO and the foreman in charge of the department are not very enthused by the performance of the new system as they see no significant difference in per unit cost of processing.They are wondering if such a huge investment is justified when the company is under intensive competitive pressure.However, the equipment sales representative insists that other companies who have purchased this system have experienced significant reduction in the 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.