Management

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Chapter 6 Management Accounting Information
for Activity and Process Decisions
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Chapter 6 Objectives To be able to 1.
explain why sunk costs are not relevant costs 2.
analyze make-or-buy decisions 3. demonstrate
the influence of qualitative factors in making
decisions 4. compare the different types of
facilities layouts 5. explain the theory of
constraints 6. demonstrate the value of
just-in-time manufacturing systems 7. describe
the concept of the cost of quality 8. calculate
the cost savings resulting from reductions in
inventories, reduction in production cycle time,
production yield improvements, and reductions in
rework and defect rates
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Sunk costs Relevant costs/revenues Those
factors that are affected by a decision Sunk
costs The costs of resources that already have
been comitted and cannot be changed by any
current action or decision contrast with
incremental costs.
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Sunk costs Bonner Company, exhibit 6-2 page
221 Sept 1, 2000 Buys a new drilling machine for
180,000. Pays 50,000 cash bank loan
financing the remaining 150,000. Monthly payment
5,200 for 36 months. Sept 27, 2000 A
technologically better drilling machine becomes
available. Price ? Scrap value old machine
50,000. Old machine taken as down payment.
Monthly payments 6,000 for 35 months. Efficien
cy savings Direct labor 4,400 per
month Maintenance 800 per
month Materials scrap 1,000 per
month Managers must be able to identify the
costs and revenues relevant for the evaluation of
alternatives. Equally important, they must
recognize that some costs and revenues are not
relevant in such evaluations.
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Sunk costs Throwing Good Money after Bad How
does this well known expression correspond with
the sunk cost theory?
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Make-or-Buy Decisions Definition A decision in
which managers must decide whether their
companies should manufacture some parts and
components for their products in-house or
subcontract whith another company to supply these
parts and components. Outsourcing The process
of buying resources from an outside supplier
instead of manufacturing them
inhouse Avoidable costs Those costs eliminated
when a part, product, product line, or
business segment is discontinued Exhibit 6-3,
page 223
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• Make-or-Buy Decisions
• Qualitative Factors
• Suppliers lowballing the price to get a foot in
  the door?
• Reliability of supplier (quality, delivery,
  capacity etc.)? Solution certified suppliers?
• Do you eliminate own capabilities for good?
• Are you handing over strategic knowledge to the
  vendor with the risc of the vendor becoming a
  competitor?
• Exercise
• Perform a general SWOT with the students in class
  establishing general Strengths, Weaknesses,
  Opportunities and Threats.

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Facility Layout Systems 1. Process layouts. A
production design in which all similar equipment
or functions are grouped together. Typically
used when production takes place in smaller
batches or unique products. 2. Product layouts A
production design in which equipment is organized
to accommodate the production of a specific
product. Typically used in high volume
productions. 3. Cellular manufacturing Refers to
the organization of a plant into a number of
cells so that within each cell all machines
required to manufacture a group of similar
products are arranged in close proximity to each
other. Objective To streamline operations and
thus increase the operating income of the
system.
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Facility Layout Systems Theory of constrains A
management approach that maximizes the volume of
production through a bottleneck process. A
bottleneck is defined as any condition that
impedes or constrains the efficient flow of a
process. Measured by Throughput
contribution The difference between revenues and
direct materials for the quantity of products
sold. Investment The montetary value of the
assets that the organization gives up to
acquire an asset. Operating costs Costs, other
than direct materials costs, that are needed to
produce a product or service. Comparison of
TOC versus ABC
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• Inventory Costs and Processing Time
• Building inventories create costs such as
• Moving, storing and handling
• Damaged or obsolete products
• Potential cost of reworking
• Ties up financial resources
• Increases cycle-time
• Definitions
• Cycle time The time required to produce a
  product from start to finish.
• Processing time Time expended to complete a
  processing activity.
• Manufacturing cycle Ameasure used to assess the
  efficiency of a manufacturing efficiency process
  . Evaluates how much of the total cycle time was
  spend in inventory.

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Inventory Costs and Processing Time San Rafael
Electric Corporation, Exhibit 6-6, 6-7, 6-8, 6-9,
6-10
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Cost of Nonconformance and Quality
Issues Definition The cost incurred when the
quality of products and services does not
conform to quality standards. Major factors -
satisfying customer expectations regarding the
attributes and performance of the product,
such as functionality and features. - ensuring
that the technical aspects of the products design
and performance, such as whether it performs
to the standard expected, conform to the
manufacturers standards. ISO9000
Standards Exhibit 6-11
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Cost of Nonconformance and Quality Issues Costs
of quality control Definition Those costs
incurred on quality-related processes include
prevention, appraisal, internal failure and
external failure. Prevention costs Those costs
incurred to ensure that companies produce
products according to quality
standards. Appraisal costs Those costs related
to inspecting products to ensure that they meet
both internal and external customer
requirements. Internal failure costs The costs
incurred when the manufacturing process detects a
defective component or product before it is
shipped to an external customer. External
failure costs Those costs incurred when customers
discover a defect. Examples Exhibit 6-13
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• Just-in-Time Manufacturing
• Definition A production process method in which
  products are manufactured only as needed.
• Produce and deliver WHAT is requested, WHEN it
  is requested and ON TIME.
• Exercise Perform a general SWOT with the
  students in class establishing general
  Strengths, Weaknesses, Opportunities and
  Threats
• Important measures Benchmarking of manufacturing
  cycle effectiveness
• Defect rates
• Cycle times
• Percent of time that deliveries are on time
• Order accuracy
• Actual production as a percent of planned
  production
• Actual machine time available compared with
  planned machine time
• available.

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• Just-in-Time Manufacturing
• Tobor Toy Company - Selling an advanced, pricey
  mechanical toy robot with a 30 market share.
• Problems
• Large drop in sales and market share.
  Investigations at customer level shows that a
  significant decrease in the quality of the
  product and general delays in getting it to the
  customer are the primary causes.
• Problems originate from
• A disorganized, sloppy production system in
  which piles of both work-in-process and raw
  materials inventories were scattered over the
  shop floor.
• A lenghty and complex flow of production.
• High inventory levels of work-in-process.
• High rates of rework.
• The use of outdated machinery.
• Lack of commitment, focus and training among
  workers.
• Solutions
• Implementing a new production process - Just In
  Time.
• Establish intensive worker training
• Investing 300,000 in the above.

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• Just-in-Time Manufacturing
• Tobor Toy Company - Selling an advanced, pricey
  mechanical toy robot with a 30 market share.
• Improvements
• Major rework rate reduced from 5.8 to 3.3
• Minor rework rate reduced from 13.6 to 7.0
• Average production time reduced from 16.4 days
  to 7.2 days
• Investment in implementation (300.000) with a
  payback time of approximately 5 months.