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SOLUTION
(30–35 min.) Ethics and quality.
1.
Total Revenue $5,100,000
Costs of Quality Cost
Percentage of
Total Revenue
Prevention Costs
127 ,500 2.50%
Appraisal Costs
Internal Failure Costs
External Failure Costs
Total costs of quality $535 ,500 10.50%
The total costs of quality are currently more than 10% of revenue.
2.
Option 1: Reengineer the Manufacturing Process
(one-time cost of $112,500 in Year 1)
Year One Year Two*
Prevention costs ($48,000 + $7,500 + $72,000 + $112,500) $240,000 $127,500
Appraisal costs ($153,000 × 0.75) 114,750 114,750
*Reengineering cost of $112,500 is a one-time cost and is not reflected in year two costs.
Option 2: Increase Quality Control Training by $22,500 per Year
Year One Year Two
Prevention costs ($48,000 + $7,500 + $22,500 + $72,000) $150,000 $150,000
Appraisal costs ($153,000 × 0.9) 137,700 137,700
Nancy should propose Option (a) (reengineering the manufacturing process) because it decreases
quality costs by $106,800 relative to Option (b) (increasing cost-of-quality control training for
3. Nancy faces a difficult situation. On the one hand, she could argue that she is following
corporate guidelines in choosing what to report and so only reports options that satisfy it. On the
other hand, the guideline does not appear to be so strict that Nancy or Chris would not be able to
Competence
Competence states that each practitioner has a responsibility to provide decision support
Credibility
The management accountant’s standards of ethical conduct require that information should be
fairly and objectively communicated and that all relevant information that could reasonably be
expected to influence an intended user’s understanding of the reports, analyses, or
The instructor should indicate to students that ethical questions are rarely clear-cut. Even
19-38 Quality improvement. Dover Corporation makes printed cloth in two departments:
weaving and printing. Currently, all product first moves through the weaving department and
then through the printing department before it is sold to retail distributors for $2,800 per roll.
Dover provides the following information:
Dover can start only 20,000 rolls of cloth in the weaving department because of capacity
constraints of the weaving machines. Of the 20,000 rolls of cloth started in the weaving
department, 1,000 (5%) defective rolls are scrapped at zero net disposal value. The good rolls
from the weaving department (called gray cloth) are sent to the printing department. Of the
19,000 good rolls started at the printing operation, 1,900 (10%) defective rolls are scrapped at
zero net disposal value. The Dover Corporation’s total monthly sales of printed cloth equal the
printing department’s output.
Required:
1. The printing department is considering buying 10,000 additional rolls of gray cloth from an
outside supplier at $2,000 per roll, which is much higher than Dover’s cost of weaving the
roll. The printing department expects that 10% of the rolls obtained from the outside supplier
will result in defective products. Should the printing department buy the gray cloth from the
outside supplier? Show your calculations.
2. Dover’s engineers have developed a method that would lower the printing department’s rate
of defective products to 6% at the printing operation. Implementing the new method would
cost $1,400,000 per month. Should Dover implement the change? Show your calculations.
3. The design engineering team has proposed a modification that would lower the weaving
department’s rate of defective products to 3%. The modification would cost the company
$700,000 per month. Should Dover implement the change? Show your calculations.
SOLUTION
(45–50 min.) Quality improvement, theory of constraints.
1. Consider the incremental revenues and incremental costs to Dover Corporation of
purchasing additional gray cloth from outside suppliers.
Note that, because the printing department has surplus capacity equal to 12,900 (30,000 –
2. By producing a defective roll in the Printing Department, Dover Corporation is worse off
by the entire amount of revenue forgone of $2,800 per roll. The weaving operation is a
The relevant costs of defective units in the Printing Department are as follows:
a. Direct materials variable costs in the Weaving Department $1,200
b b. Direct materials variable costs in the Printing Department 300
c. Contribution margin forgone from not selling one roll
$2,800 – $1,200 – $300 1 ,300
Amount by which Dover Corporation is worse off as a
result of a defective unit in the Printing Department $2 ,800
Note that only the variable costs of defective units of $1,500 per roll (direct materials in the
Weaving Department, $1,200 per roll: direct materials in the Printing Department, $300 per roll)
are relevant because improving quality will save these costs. Fixed costs of producing defective
units, attributable to other operating costs, are irrelevant because these costs will be incurred
whether Dover Corporation reduces defective units in the Printing Department or not. In
addition, there is an opportunity cost of contribution margin forgone as a result of producing a
defective unit in the Printing Department because it results in lost revenue.
Dover Corporation should make the proposed modifications in the Printing Department
because the incremental benefits exceed the incremental costs by $250,000 per month:
Incremental benefits of reducing defective units in the Printing Department
1. To determine how much Dover Corporation is worse off by producing a defective roll in the
Weaving Department, consider the payoff to Dover from not having a defective roll produced in
the Weaving Department. The good roll produced in the Weaving Department will be sent for
further processing in the Printing Department. The relevant costs and benefits of printing and
selling this roll follow:
By producing a defective roll in the Weaving Department, Dover Corporation is worse off by
$2,220 per roll. Note that, because the weaving operation is a constraint, any rolls that are
defective will result in lost revenue to the firm.
An alternative approach to analyzing the problem is to focus on the costs and benefits of
reducing defective units.
The relevant costs of defective units in the Weaving Department are as follows:
a. Direct materials variable costs in the Weaving Department $1,200
b. Expected unit contribution margin forgone from
not selling one roll, ($2,800 × 0.9) – $1,200 – $300 1 ,020
Amount by which Dover Corporation is worse off as a result
of producing a defective unit in the Weaving Department $2 ,220
Note that only the variable scrap costs of $1,200 per roll (direct materials in the Weaving
Department) are relevant because improving quality will save these costs. All fixed costs of
producing defective units attributable to other operating costs are irrelevant because these costs
will be incurred whether Dover Corporation reduces defective units in the Weaving Department
or not. In addition, there is an opportunity cost of contribution margin forgone as a result of
producing a defective unit in the Weaving Department because it results in lost revenue.
Dover Corporation should make the improvements proposed by the design engineering
team because the incremental benefits exceed the incremental costs by $188,000 per month:
Incremental benefits of reducing defective units in the Weaving Department
Try It 19-1 Solution
1. Prevention Costs: Design engineering, Process engineering
Appraisal Costs: Inspection
Internal Failure Costs: Rework, Scrap
External Failure Costs: Warranty repair costs
2.
2016
2016 % of
Total
COQ
2016 %
of
Revenue 2017
2017 %
of Total
COQ
2017 %
of
Revenue
Prevention costs:
Design engineering $ 8,950 $12,950
Process engineering 10 ,000 10 ,200
Try It 19-2 Solution
Cost of making quality improvements = $150,000 + $137,500 = $287,500
Benefits of quality improvements:
quality. These changes will increase the company’s operating income by $122,000 in
the current year. The quality improvements are also likely to help the company increase
operating income in the future.
Try It 19-3 Solution
1a. Average waiting time for an order of Z39
( ) ( )
( )
2
Annual average number Manufacturing time
of orders of Z39 per order of Z39
Annual machine Annual average number Manufacturing time
2
capacity of orders of Z39 per order of Z39
x
´
ù
é- ´ ú
ê
ëû
1b.
= +
2a. Average waiting time for Z39 and Y28
3.
Selling price per order of Y28, which has an average
manufacturing lead time of more than 320 hours $ 6,000
Expected loss in revenues and increase in costs from introducing Y28:
2
= = = =
Average manufacturing
cycle time per order for Z39
Average order
waiting time
Order manufacturing
time for Z39
2 2
Annual average Manufacturing Annual average Manufacturing
number of time per order number of time per order
orders of Z39 of Z39 orders of Y28 of Y28
é
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è ø è ø è ø è ø
ê
ë û ë
ë
Annual Annual average Manufacturing Annual average Manufacturing
2 machine number of time per order number of time per or
capacity orders of Z39 of Z39 orders of Y28
ù
ú
ú
ú
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ç ÷ ç ÷ ç ÷´ - ´ - ´
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der
of Y28
ù
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æ ö ú
ê ú
ç ÷
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2 2
a 50 orders × ($27,000 – $26,500)
b (410 hours – 240 hours) × $0.75 × 50 orders
c (350 hours – 0) × $0.25 × 25
Increase in expected contribution from Y28 of $25,000 is less than increase in expected costs of
$33,562.50 by $8,562.50. Therefore, Seawall should not introduce Y28.
Alternative calculations of incremental revenues and incremental costs of introducing Y28:
Alternative 2:
Alternative 1: Do Not Relevant Revenues
Introduce Y28 Introduce Y28 and Relevant Costs
(1) (2) (3) = (1) – (2)
Expected revenues $1,475,000.00a$1,350,000.00b$125,000.00
