JAMIE KINCADE

Jamie Kincade was supervisor of an assembly department in Chelsea Electronics Company. In recent weeks, Kincade had become convinced that a certain component, number J-42 could be produced more efficiently if certain changes were made in assembly methods. Kincade had described this proposal to the company’s industrial engineer, but the engineer had quickly dismissed Kincade’s ideas-mainly. Kincade thought, because the engineer had not thought of them first.

Kincade had frequently thought of starting a business and felt that the ability to produce the J-42 component at a lower cost might provide this opportunity. Chelsea’s purchasing agent assured Kincade that Chelsea would be willing to buy J-42s from KIncade if the price were 10-15% below Chelsea’s current cost of $2.97 per unit. Working at home, Kincade experimented with the new methods, which were based on the use of a new fixture to aid in assembling each J-42. This experimentation seemed successful, so Kincade proceeded to prepare some estimates for large-scale J-42 production. Kincade determined the following :

1. A local toolmaker would make the new fixtures for a price of $900 each. One fixture would be needed for each assembly worker

2. Assembly workers were readily available, on either a full time or part time basis, at a wage of $6,75 per hour. Kincade felt that another 20% of wages would be necessary for fringe benefits. Kincade estimated that on the average (including rest breaks), a worker could assemble, test, and pack 15 units of the J-42 per hour

3. Purchased components fort the J-42 should cost about $1.53 per nit over the next year. Shipping supplies and delivery costs would amount to approximately $0.09 per unit

4. Suitable space was available for assembly operations at a rental of $1,080 per month. A 12-moth lease was required

5. Assembly tables, stools, and other necessary equipment would cost about $540 per assembly worker

6. Kincade, as a general manager, would receive a salary of $3,600 per month7. A combination office manager-book keeper was available for a salalry of $1,260 per month8. Miscellaneous costs, including maintenance, supplies, and utilities, were expected to average

about $855 per month9. Chelsea Electronics would purchase between 400,000 and 525,000 units of J-42 a year, with

450,000 being Chelsea’s purchasing agent’s “best guess”. However, Kincade would have to commit to a price of $2.52 per unit for the next 12 months

Kincade showed these estimates to a friend who was a cost analyst in another electronics firm. This friend said that all of the estimates appeared reasonable, but told Kincade that in addition to the required investment in fixtures and equipment, about $125.000 would be neede to finance accounts receivable and inventories. The friend also advised buying enough fixtures and other equipment to enable producing the maximum estimated volume (525.000 units per year) on a one-shift basis (assuming 2.000 labor-hours per assembler per year). Kincade thought this was good advice.

Question :

1. What are kincade’s expected variable costs per unit? Fixed costs per month? What would the total costs per year of Kincade’s business be if volume were 400.000 units? 450.000 units? 525.000 units? (Limit yourself to cash costs; ignore depreciation of fixtures and equipment. Also, disregard any interest cost Kincade might incur on borrowed funds)

2. What is the average cost per unit of J-42 at each of these three volumes?3. Reanswer questions 1 and 2 assuming that

a. Kincade wanted to guarantee assembly workers 2,000 hours of pay per yearb. Enough workers would be hired to assemble 450.000 units a yearc. These workers could work overtime at a cost (including fringes) of $12.15 per hourd. No additional fixed costs would be incurred if overtime were needed (do not use these

assumptions for question 4)4. Reanswer questions 1 and 2, now including depreciation as an expense. Assume the fixtures and

other equipment have a useful life of 6 years, and that straight-line depreciation will be uased.5. Do you think Jamie Kincade should resign from Chelsea Electronics and establish the proposed

enterprise?

HOSPITAL SUPPLY, Inc

Hospital Supply, Inc; produced hydraulic hoists that were used by hospitals to move bedridden patients. The cost of manufacturing and marketing hydraulic hoists at the company’s normal volume of 3,000 units per month are shown below :

Questions :

The following questions refer only to the data given above. Unless otherwise stated, assume there is no connection between the situations described in the questions; treat each independently. Unless otherwise stated, assume a regular selling price of $4,350 per unit. Ignore income taxes and other costs not mentioned above or in a question itself

1. What is the break-even volume in units? In sales dollars?

2. Market research estimates that monthly volume could increase to 3,500 units, which is well within hoist production capacity limitations, If the price were cut from $4,350 to $3,850 per unit. Assuming the cost behavior patterns implied by the data in the table given are correct, would you recommend that this action be taken? What would be the impact on monthly sales, costs, income?

3. On March 1 a contract offer is made to Hospital Supply by the federal government to supply 500 units to Veterans Administration hospitals for delivery by March 31. Because of an unusually large number of rush orders from their regular customers, Hospital Supply plans to produce 4,000 units during March, which will use all available capacity. If the government order is accepted, 500 units normally sold to regular customers would be lost to a competitor. The contract given by the government would reimburse the government’s share of March production costs, plus pay a fixed fee (profit) of $275,000 (there would be no variable marketing costs incurred on the government’s units). What impact would accepting the government contract have on March income?

4. Hospital supply has an opportunity to enter a foreign market in which price competition is keen. An attraction of the foreign market is that demand there is greatest when demand in the domestic market is quite low; thus. Idle production facilities could be used without affecting domestic business. An order for 1,000 units is being sought at a below normal price in order to enter this market. Shipping costs for this order will amount to $410 per unit, while total costs of obtaining the contract (marketing costs) will be $22,000. Domestic business would be unaffected by this order. What is the minimum unit price Hospital Supply should consider for this order of 1,000 units?

5. An inventory of 200 units of an obsolete model of the hoist remains in the stockroom. There must be sold through regular channels at reduced prices or the inventory will soon be valueless. What is the minimum price that would be acceptable in selling these units?

6. A proposal is received from a outsider contractor who will make 1,000 hydraulic hoist units per month and ship them directly to Hospital Supply’s customers as orders are received from Hospital Supply’s sales force. Hospital Supply’s foxed marketing costs would be unaffected, but its variable marketing costs would be cut by 20% (to $220 per unit) for these 1,000 units produced by the contractor. Hospital Supply’s plant would operate at two-thirds of its normal level, and total fixed manufacturing costs would be cut by 30% (to $1,386,000). What in house unit cost should be used to compare with the quotation received (payment to the contractor) of $2,475 per unit

7. Assume the same facts as above in question 6 except that the idle facilities would be used to produce 800 modified hydraulic hoists per month for use in hospital operating rooms. These modified hoists could be sold for $4,950 each, while the variable manufacturing costs would be $3,025 per unit. Variable marketing costs would be $550 per unit. Fixed marketing and manufacturing costs would be unchanged whether the original 3,000 regular hoists were manufactured or the mix of 2,000 regular hoists plus 800 modified hoists was produced. What is the maximum purchase price per unit that Hospital Supply should be willing to pay the outside contractor? Should the proposal be accepted for a price of $2,475 per unit to the contractor?