What role does capacity play in the case?

Wilkerson Company The decline in our profits has beoome intolerable. The severe price cutting in pumps has dropped our pretax margin to less than 3%, far below our historical 117% margins. Fortunately, our competitors are overlooking 'le opportunities for profit in flow controllers. l[Slur recent lD'F'L prioe increase in that line has been implemented without losing any business. Robert Parke r, president of the Wilkerstm Company, was discussing operating results in the latest month with Peggy Knight; his controller; and John Scott, his manufacturing manager. The meeting among the 'lree was taking place in an atmosphere tinged with apprehension because competitors had been reducing prices on pumps; Wilkerson's major product line. Since pumps were a commodity product, Parker had seen no altemative but to match the reduced prices to maintain volume. But the price cuts had led to declining company profits, especially in the pump line [summary operating results for the previous month, March Hill], are shown in Exhibits 1 and 2}. Wilkerstm supplied products to manufacturers of water purification equipment. The company had started with a unique design for 1valves that it could produce to tolerances that were better than any in the industry. Parker quickly established a loyal customer base because of die high quality of its manufactured valves. He and Scott realized that Wilkerson's existing labor skills and machining equipment could also be used to produce pumps and flow controllers, products that were also purd'lased by its customers. They stxan established a major presence in the highvolume pump product line and the more customized flow controller line. Wilkerson's production process started with the purchase of semi-finished components from several suppliers. [t machined these parts to the required tolerances and assembled them in the company's modern manufacturing facility. The same equipment and labor were used for all three product lines; and production mns were scheduled to match customer shipping requirements. Suppliers and customers had agreed to justintime deliveries, and products were packed and shipped as completed. Valves were produced by assembling four different machined components. Scott had designed machines that held components in fixtures so that they could be machined automatically. The valves Exhibit 2 Product Profitability Analysis (March 2000) Valves Pumps Flow Controllers Direct labor cost $10.00 $12.50 $10.00 Direct material cost 16.00 20.00 22.00 Manufacturing overhead (@300%) 30.00 37.50 30.00 Standard unit costs $56.00 $ 70.00 $ 62.00 Target selling price $86.15 $107.69 $95.38 Planned gross margin (%) 35% 35% 35% Actual selling price $86.00 $87.00 $105.00 Actual gross margin (%) 34.9% 19.5% 41.0%Product Lines Valves Pumps Flow Controllers Materials per unit 4 components 5 components 10 components 2@$2 =$4 3@$2 = $6 4 @ $1 =$ 4 20 6= 12 20 7= 14 5@ 2= 10 10 8= 8 Materials cost per unit $16 $20 $22 Direct labor per unit 40 DL hours 50 DL hours 40 DL hours Direct labor $/unit @ $25/DL hour $10 $12.50 $10.00 (including employee benefits) Machine hours per unit 0.5 0.5 0.3 Exhibit 4 Monthly Production and Operating Statistics (March 2000) Flow Valves Pumps Controllers Total Production (units) 7,500 12,500 4,000 24,000 Machine hours 3,750 6,250 1,200 11,200 Production runs 10 50 100 160 Number of shipments 10 70 220 300 Hours of engineering work 250 375 625 1,250