Assignment One

Design of Cost Systems Bridgeton Industries

Question Would you outsource manifolds from the ACF in 1991? Why, or why not? What other

information would you want before reaching a decision?

Answering this question requires knowing what differential costs would be avoided if the

decision was made to outsource manifold production. In the case, Bridgeton made the decision to

outsource two divisions in 1989. These divisions produced muffler/exhausts and oil pans. Looking at the

model year budgets provided in the case, we can examine the impact that outsourcing these divisions

had on costs. We can also compare the cost allocation of overhead to use in our decision making

process.

First, here are calculations for overhead allocation based on the case model year budget. This

shows how overhead changes in these situations when using a single overhead pool.

1987 1988 1989 1990

Direct Labor 24682 25294 13537 14102

Overhead 107954 109890 78157 79393

Overhead Allocation 437% 434% 577% 563%

The overhead allocation increases significantly from 1988 to 1989. This corresponds with the

decision to outsource the production of muffler/exhausts and oil pans. This means that there are costs

that could not be removed by outsourcing these production lines. Remaining production lines are thus

left to bear the overhead left behind.

To illustrate this, here is the overhead each year and the factory profits from that year.

1987 1988 1989 1990

Overhead each year 107954 109890 78157 79393

Profit each year 75153 88524 57688 63501

This chart shows the change in profits versus the change in overhead each year.

% Change from year to year 1987 1988 1989 1990

Overhead 1 2% -29% 2%

Profits 1 18% -35% 10%

This means that in 1989, the year two different product lines were dropped, overhead decreased by 29%

but profits decreased by 35%. This is another sign that there are overhead costs that will not be dropped

when manifolds are dropped. It seems likely that dropping manifold production, which accounts for 41%

of Bridgetons sales, would indeed reduce costs but simultaneously drastically reduce profits. If the

same criteria for evaluating product line performance is used, it is inevitable that other product lines will

be in line for the chopping block as well until nothing is left!

CONCLUSION

In 1991, it is likely that outsourcing manifolds will result in costs savings based on direct labor

and direct material costs. However, the drop in profits is likely to be larger on a percentage basis. This

means we would be killing profits at a faster rate than we would be saving money. Additionally, the case

mentions that increased emissions standards could result in new requirements for the types of

manifolds produced by Bridgeton. This would increase demand for these parts and could also increase

the sales price of the manifolds.

In order to make an intelligent decision about outsourcing the manifold production process, all

costs and the resultant savings from dropping these costs must be accounted for. A differential analysis

of the manifold production process would give this sort of information and allow for the best decision. It

would be wise not to base decisions on a single overhead pool but to more granularly determine the

costs for each product line. This would give management the right information to make the correct

decision.