The Sports Car Factory*

*This case was written by Professor ElizabethRosa, Allentown College of St. Francis de Sales.

The Sports Car Factory was founded in 1950 byTrevor Smith-Jones, Sr., a British post-war immigrant to the United States.Smith-Jones had been a mechanic in an East London auto shop for several years,and when he arrived in Santa Barbara, California, in 1949, he decided to puthis knowledge of British sports cars and his life savings into opening an autoshop that specialized in these cars.

Post-war California was devoted to the cult ofthe automobile, and there was no shortage of British sports car aficionados.Smith-Jones opened the Sports Car Factory in early 1950 and soon had a largenumber of clients. He realized that there was a substantial, untapped market inCalifornia for spare parts for British cars, and by 1953 the Sports Car Factoryhad left the auto repair business and had become solely a dealer in spare partsfor British sports cars.

During his years as a mechanic in London, Smith-Joneshad developed an extensive network of acquaintances in the British sports carindustry. This network consisted mainly of spare parts dealers, autodealerships, and sales representatives from the large automobile and partsmanufacturing companies. He had maintained contact with these acquaintanceswhile he was repairing cars in his Santa Barbara shop, and when he made thechangeover to the spare parts business, his contacts were pleased to increasetheir export trade by continuing to sell parts to him. As the only U.S.importer of British sports car spare parts, the Sports Car Factory was able tosell its merchandise not only in southern California but also to auto partsdealers nationwidewherever there were British sports car enthusiasts.

The Sports Car Factorys business continued togrow throughout the 1950s and 1960s. Suppliers in Britain remained reliable,and in the 1970s market demand increased for such new items as replacementupholstery, convertible tops, and large body parts such as fenders and hoods.Smith-Jones had to look beyond Britain to find regular suppliers for theseitems and, as a result, established connections in Taiwan, the Philippines, andCanada, as well as with some American manufacturers who produced custom items.Smith-Jones was an honest tradesman who was trusted by his suppliers, so supplylines were consistent and prices reliable.

In 1979, Smith-Joness eldest son, TrevorSmith-Jones, Jr., joined the company as first assistant to his father.Smith-Jones, Jr. had inherited a passion for British sports cars from hisfather and had spent his teenage summers tinkering with vintage Triumphs, MGs,MGBs, and Jaguars that were in his fathers garage. After graduating fromBerkeley in 1979, Smith-Jones, Jr. accepted his fathers offer to come to workat the Sports Car Factory and to learn the business inside out under hisguidance. Smith-Jones, Jr. worked side-by-side with his father for the nextseveral years, getting to know the suppliers and clients of the Sports CarFactory as well as the accounting and operations workings of the company. Asthe health of Smith-Jones, Sr. began to fail in the late 1980s, Smith-Jones,Jr. took over an increasingly large share of the daily responsibilities forrunning the company, although Smith-Jones, Sr. still kept a tight hand on theoverall operation.

Smith-Jones,Sr. died in 1993, leaving Smith-Jones, Jr. as president and CEO of the SportsCar Factory. Soon after his fathers death, Smith-Jones, Jr. requestedextensive assessments of the companys financial situation, its relations withsuppliers and customers, and the structures of its accounting and operationssystems. Already familiar with the company, the new CEO found no majorsurprises when he reviewed the results of the various department assessments.The companys financial situation was strong, with a current ratio of more thanthree-to-one and with long-term indebtedness (a mortgage on the Santa Barbarawarehouse) of only 10 percent of stockholders equity. Relations with suppliersremained steady and reliable, and operations at the warehouse were runningsmoothly, except for complaints of excessive paperwork from certain employees.Smith-Jones, Jr. had been aware of the paperwork problem for several years, butwhile his father was alive no changes to the system had been permitted.Smith-Jones, Sr. had believed that you shouldnt change a system that hasserved you well for the last 30 years. Any attempts by Smith-Jones, Jr. toapproach his father on the subject of reducing paperwork within the system hadbeen quickly dismissed by the aging CEO.

The assessment of the companys accountingsystem revealed the full scope of the paperwork problem. The Sports Car Factorywas still running under the original, completely manual accounting system thatSmith-Jones, Sr. had put into place in the 1950s. Although the system hadserved the company adequately in the 50s and 60s, it had been outgrown by theend of the 70s. Smith-Jones, Jr. was convinced by the assessment thatinstallation of a computerized accounting system throughout the company notonly would reduce employee frustration with excessive paperwork but also wouldspeed up order processing, thereby improving service to customers. In addition,it would help the company to keep better track of inventory levels. By usingcomputerized accounting for inventory, the company could place inventory ordersmore efficiently, saving time and the expense of warehousing excessiveinventory.

OTHER INFORMATION CONCERNING SPORTS CAR FACTORY

ORGANIZATIONAL STRUCTURE.In 1993, theSports Car Factory had an after-tax profit of $400,000 on net sales of $1.5million. The company employs 30 people in its plant in Santa Barbara. TheSports Car Factory is careful about the employees it hires, looking for enthusiastic,bright people who enjoy working with the customers. The employees range in ageand experience, with the older, more experienced ones working in the technicalassistance department because the company believes that their knowledge is mostuseful in the areas of direct customer contact.

When employees are hired, the company givesthem several shares of Sports CarFactory stock along with generous benefits. Smith-Jones and management believethat if their employees are also shareholders, they will be interested in thefinancial success of the company. Management wants to create an atmospherewithin the Sports Car Factory where employees are actively involved inimproving the business. Thus, if sales become stagnant, all of the employeeswill search for ways to stimulate business. When management announces that anew information system is being introduced, the Sports Car Factory employeeseagerly accept the changes. There is no hesitation or skepticism about the newsystem.

COMPETITION.The sports car industry inthe United States is extremely competitive, with two privately held companies,the Sports Car Factory and Motor Works, dominating the market. Small localoperations do exist. However, the majority of business belongs to these twocompanies because of their total commitment to servicing the sports carindustry. The Sports Car Factory believes that its major threat in the industrycomes from Motor Works because of the size of its operations and its threat topenetrate the Sports Car Factorys market region of the western United States.

The Sports Car Factory differs from Motor Worksin that it deals only with British sports cars, while Motor Works suppliesparts for European sports cars and some Japanese models. Motor Works, locatedin Fishkill, New York, was founded in 1974 by the Kidd family. The companyquickly expanded, and today it employs 50 people and has yearly sales ofapproximately $3 million, almost twice the yearly sales of the Sports CarFactory. These sales, however, result from supplying parts for all sports cars.While British sports cars are important to the business, equal attention isgiven to Italian and Japanese cars.

Motor Works sizable sales are worrisome to theSports Car Factory because it fears that Motor Works will use its profits totry to expand into its market region. However, the Sports Car Factory alsobelieves that if it can design and implement a new information system toenhance its sales process, it can protect its current market share and possiblyexpand.

RELATIONSHIP WITH SUPPLIERS.All of thecomponents sold by the Sports Car Factory are manufactured outside the UnitedStates, with most coming from Southeast Asia, specifically Korea and Taiwan.The parts are made abroad because of the significant price discounts due to thecheaper labor rates in Asia. A part manufactured in the United States wouldcost the Sports Car Factory up to three times what it would cost to have itmade in Asia.

The Sports Car Factory depends primarily on sixsuppliers to provide its inventory. These suppliers provide parts exclusivelyto the Sports Car Factory, while Motor Works and other smaller competitorsimport their parts either from Europe or Southeast Asian manufacturers. Becausemost of the parts are relatively easy and inexpensive to manufacture, Asiansuppliers manufacture the entire range of parts. No one supplier specializes inany particular part. However, the quality of the parts may vary from supplierto supplier.

The Sports Car Factory has no way of trackingwhich part from which supplier is of the highest quality. If a few parts fromthe supplier are poor quality, even though the rest of its line is acceptable,the Sports Car Factory tends to flay the entire suppliers product line.Because there are only a few vendors and several vendors are thought to producepoor quality parts, the Sports Car Factory deals primarily with only one ortwo. This arrangement, however, is not acceptable because these vendors havebeen raising prices at an unacceptable rate. The Sports Car Factory wants tointroduce an information system that tracks the quality of each part from eachsupplier so it can order specific parts from certain vendors. Not having torely on few vendors for the Sports Car Factorys business should also help toreduce component prices.

Several othersmall problems exist between the Sports Car Factory and its suppliers becauseof the Sports Car Factorys manual operating process. Back-orders are notuncommon at the Sports Car Factory because lead time from suppliers is notconsistent. The Sports Car Factory complains that its purchase orders are notbeing filled at an acceptable pace, while suppliers accuse the Sports CarFactory of giving them little notice of pending orders. The Sports Car Factorybelieves that the real problem lies in the purchasing process. The manualprocess is so lengthy that inventory levels are often depleted before thesuppliers receive the purchase order. When the Sports Car Factory implementsthe new information system, it believes that the lead time problem willdisappear and back-orders will decrease.

Suppliers often complain that their bills arenot punctually paid. This, too, is directly related to the Sports Car Factorysmanual accounting orders. Since bills must be reconciled before payment occurs,the pay date is often missed. The Sports Car Factory believes that an automatedaccounting system will help reconcile purchase orders and allow bills to bepaid on time.

Despite these problems, the Sports Car Factoryand its suppliers have a solid working relationship. Both depend upon eachother for the bulk of their business. They have expressed interest in expandingany new systems that might facilitate their relationship.

CUSTOMER RELATIONS.Most parts sold by theSports Car Factory go to individual car owners, with some parts purchased bymechanics and professional car restorers. The Sports Car Factorys businesscomes from customers who have a history of owning sports cars, because theSports Car Factory realizes that only a small segment of the market consists ofcustomers who just recently became involved with British sports cars. For theSports Car Factory to attract new business, it must compete for the existingmarket share. At the same time, its main focus is on maintaining its customerbase. The Sports Car Factory promotes car shows in the hope of attracting newpeople to the sports car industry. Its advertising is limited to monthlynewsletters and automobile magazines.

ASSESSMENT OF THE ACCOUNTING SYSTEM

The assessment was prepared by the office ofthe controller of the Sports Car Factory.

The Revenue Cycle

SalesOrder Taking.The Sports Car Factory makes all saleseither by telephone or mail. All sales are on credit, and all customers haveestablished lines of credit with the Sports Car Factory. Phone sales orders aretaken by a staff of salespeople who are knowledgeable about British sportscars. The sales information is recorded on standardized order forms andforwarded to the sales office. Mail orders are forwarded directly from the mailroom to the sales office.

SalesOffice.Personnel in the sales office verify that theitem prices on each order form are correct. This is done by manually checkingthe price of each item by its item number in the preprinted price list book. Ifthe sale is charged to a customers credit card, personnel telephones thecredit card company to verify the legitimacy of the charge. If the sale is tobe put on the customers account, the customers file is reviewed and thecredit history is checked.

Personnel must look at the inventory ledger toverify that items ordered are in stock. Each item must be located manually inthe ledger by item number. This is only a preliminary check, however, becausethe inventory ledger is updated only once a week and is not always correct. Ifan item is out of stock, it is so noted on the sales order as prepared in thenext step.

A five-part sales order form is typed up. Copy1 is forwarded to the billing department. Copy 2 is forwarded to shipping.Copies 3 and 4 are forwarded to the warehouse, and Copy 5 is filed by customernumber in the sales office after the sale has been manually recorded on thecustomers file card.

Warehouse.Thewarehouse receives sales order Copies 3 and 4 from the sales office and picksthe orders. Goods in stock are released to the shipping department with Copy 3of the sales order. Copy 4 is filed in the warehouse file by sales ordernumber.

Any items that are out of stock are marked assuch on both Copies 3 and 4 of the sales order. Copy 3 goes forward with theitems in stock, but Copy 4 is filed in a back-orders file by product codenumber. This file is reviewed when shipments of merchandise come into thewarehouse. Back-ordered items can then be shipped out.

Each week, a warehouse employee prepares a listof items that were released from the warehouse during the week. This list isforwarded to inventory control.

Shipping.Theshipping department receives Copy 2 of the sales order from the sales officeand Copy 3, along with the goods, from the warehouse. Personnel in shippingcompare Copy 2 with Copy 3, which may have been altered by the warehouse, andtake note of any discrepancies. Copy 3 is marked shipped and is forwarded tothe billing department. Warehouse personnel then prepare a packing slip for thecarton and key the shipment information into the UPS shipping meter. Thepacking slip is attached to the carton and the goods are shipped via UPS, whichpicks up shipments once each day. The shipping information is maintained in thelocked UPS meter, and Copy 2 of the sales order is marked with the date shippedand filed in the shipping departments file.

Billing.Thebilling department receives the original phone or mail order form and Copy 1 ofthe sales order from the sales office. It then receives Copy 3 of the salesorder, marked shipped, from the shipping department. With these documents inhand, billing types up a three-part sales invoice. Copy 1 is mailed to thecustomer, Copy 2 is forwarded to accounts receivable, and Copy 3 is kept inbilling. Based on the days sales invoices, daily batch totals are calculatedand the sales journal is maintained. Copy 3 of the sales invoice, the originalorder form, Copies 1 and 3 of the sales order form, and the tape of batch totalsare all filed in the billing department.

AccountsReceivable.The accounts receivable departmentreceives Copy 2 of the sales invoice. This department is responsible foraccounting for the numerical sequence of the prenumbered sales invoices. Staffhere also post accounts receivable to the accounts receivable ledger. Afterposting, the sales invoice copy is filed in accounts receivable by the due dateof the receivable.

The mail room forwards Copy 1 of the daily cashprelist as well as customer remittance advices to accounts receivable. Withthese documents, accounts receivable first compares the prelist to theremittance advices and then posts the customer payments to the accountsreceivable ledger. The cash prelist and remittance advices are filed in thecustomer records file in accounts receivable by customer number.

MailRoom.The point of entry for all Sports Car Factorymail is the mail room. Here, customers checks, remittance advices, and mailorder forms are received each day. Once the mail is sorted, the mail orderforms are directly forwarded to the sales office for processing of all salesrequested on those forms.

A three-part daily cash prelist is prepared,and all checks are endorsed to the Sports Car Factory with a hand stamp. Copy 1of the cash prelist is forwarded to accounts receivable, and Copy 3 isforwarded to the cashiers office. Copy 2 is kept in the mail room. Mail roompersonnel then separate the checks from the remittance advices. All checks areforwarded to the cashier, and the remittance advices are sent to accountsreceivable. Copy 2 of the cash prelist is filed in the mail room by dateprepared.

Cashier.Thecashier receives copy 3 of the cash prelist and the endorsed customer checks. Atwo-copy bank deposit slip is prepared and taken to the bank along with thechecks. Deposits are made once each day.

The Expense Cycle

InventoryControl.Inventory control receives a weekly list ofinventory items released from the warehouse. From this list, the inventoryledger is updated.

The inventory control manager prepares apurchase requisition whenever the amount in stock of an inventory item fallsbelow that items reorder point level. The purchase requisition is prepared induplicate, and Copy 1 is forwarded to purchasing, which will prepare a purchaseorder at the appropriate time. Inventory control receives Copy 3 of thepurchase order from the purchasing department and compares it to its Copy 2 ofthe original purchase requisition. The two documents are filed together by purchaserequisition number and are held until the department receives notification thatthe items ordered have been received.

Receipt of the inventory items ordered will beconfirmed by Copy 2 of the receiving docks receiving report. When thereceiving report arrives in inventory control, the purchase requisition andpurchase order are pulled from the file and compared to it. The inventory itemsreceived are then posted to the inventory ledger. Copy 2 of the purchaserequisition, Copy 3 of the purchase order, and Copy 2 of the receiving reportare all filed together in the inventory control department by purchaserequisition number.

Purchasing.Copy1 of the purchase requisition is received from inventory control. Thepurchasing manager chooses the most appropriate supplier based on supplierinformation kept on file in the purchasing office.

Once a supplier has been chosen, a six-partpurchase order is typed up. Copies 1 and 2 are mailed to the supplier, and Copy3 is sent to inventory control. Copy 4 is forwarded to accounts payable, andCopy 5 to the receiving dock. Copy 5 is a blind copy, that is, it does notinclude the quantities ordered of each item. Copy 6 is kept in purchasing andfiled along with Copy 1 of the purchase requisition by purchase order number,pending receipt of the receiving report.

When purchasing receives Copy 1 of thereceiving report from the receiving dock, the purchase order is pulled from thefile. Quantities received according to the receiving report are compared to thequantities ordered. Suppliers invoices (in two copies) either accompany theshipments or are received through the mail. In either case, the quantities andprices billed on the suppliers invoice are compared to the purchasingdocuments before approval.

Copy 2 of the approved suppliers invoice isforwarded to accounts payable. Copy 1 of the purchase requisition, Copy 6 ofthe purchase order, Copy 1 of the receiving report, and Copy 1 of the approvedsuppliers invoice are filed together, by purchase order number, in the closedpurchase orders file in the purchasing department.

ReceivingDock.The receiving dock receives Copy 5, which isthe blind copy of the purchase order, from the purchasing department. Thepurchase order is kept on file until the goods arrive at the dock. When theshipment arrives, the purchase order is pulled from the file, and the itemsreceived are inspected and counted. When the shipment has been cleared, afour-part receiving report is typed.

Copy 1 of the receiving report is sent topurchasing, Copy 2 is sent to inventory control, Copy 3 is forwarded to thewarehouse along with the goods, and Copy 4 is filed by purchase order number,with the purchase order attached.

Warehouse.Thewarehouse receives the shipment of goods with Copy 3 of the receiving report.The warehouse person signs the report upon receiving the goods at thewarehouse, and the items are shelved. The signed Copy 3 of the receiving reportis forwarded to accounts payable.

AccountsPayable.Copy 4 of the purchase order is received frompurchasing and kept on file pending receipt of the goods purchased. When thedepartment receives the signed Copy 3 of the receiving report from thewarehouse, which indicates that the items purchased have been received, accountspayable matches the items received with those ordered on the purchase order.These two documents are kept on file until the suppliers invoice is received.

When the approved Copy 2 of the suppliersinvoice is received from the purchasing department, accounts payable comparesit to the purchase order and receiving report and verifies the accuracy of thesuppliers prices, extensions, and footings. The three documents are filedtogether by due date of the suppliers invoice. The invoice packet will be presentedto the cashiers office for payment when its due date arrives.

Cashier.Onthe date on which an account payable falls due, the cashier receives fromaccounts payable the approved suppliers invoice to be paid. Attached to theinvoice are Copy 4 of the purchase order and Copy 3 of the receiving report.The cashier reviews these documents and prepares a check for payment. As thecashier may not sign the check, the authorized signature or signatures must beobtained before the check can be mailed. Once the check is ready fordisbursement, the suppliers invoice, marked paid, and the attached documentsare returned to accounts payable for filing.

As the days checks are prepared, so is thatdays check register, which is a log of every check written in check numbersequence. Two copies of the register are prepared, and Copy 2 is forwarded tothe employee in the controllers office who maintains the general ledger. Copy1 of the check register is kept in the cashiers office and is used to recordcash disbursements in the cash disbursements journal. The cashiers copy of thecheck register is kept on file by register date.

Payroll.TheSports Car Factory uses the services of XYZ Payroll People, an independentpayroll service company, to prepare payroll checks, payroll taxes, and allsupporting documentation. Copies of payroll documentation are kept on file inthe controllers office.

(1)An organization overview (may include org chart) and aclear statement of the business problems, including which transactionprocessing systems are involved;

(2) DFCs and DFDs of each subsystem as they currently exist

(3) a complete SAS78 analysis of the controls in each system

(4) an explanation of how the SAS 78 control issues impactthe business problems

(5) proposed solutions to the business problems by addressingthe systems deficiencies

(6) DFCs of the revised systems (these should both fix thethe identified problems and be consistent with (5) above)