Week 2 Problems

September 21, 2015
Dr. Matthew Keogh

Problem 1-1
Tried and True Clothing has opened four new stores in college towns across the state. Data on monthly sales volume and labor hours are given below.
Store Annandale Blacksburg Charlottesville Danville
Sales Volume $40,000 $12,000 $60,000 $25,000
Labor hours 250 60 500 200

1) Which store location has the highest labor productivity?
The Blacksburg store is the most productive.
Store Annandale Blacksburg Charlottesville Danville
Sales Volume $40,000 $12,000 $60,000 $25,000
Labor hours 250 60 500 200
Productivity = Sales/Labor $160 $200 $120 $125

Problem 1-2

Tried and True’s accountant (from Problem 1-1) suggests that monthly rent and hourly wage rate also be factored into the productivity calculations. Annandale pays the highest average wage at $6.75 an hour. Blacksburg pays $6.50 an hour, Charlottesville $6, and Danville $5.50. The cost to rent store space is $1800 a month in Annandale, $2000 a month in Blacksburg, $1200 a month in Charlottesville, and $800 a month in Danville.

2) Which store is most productive?

Charlottesville is the most productive.

Annandale Blacksburg Charlottesville Danville
Sales Volume $40,000 $12,000 $60,000 $25,000
Labor hours 250 60 500 200
Labor cost/hr $6.75 $6.50 $6.00 $5.50
Rent $1,800 $2,000 $1,200 $800
Productivity 11 5 14 13

3) Tried and True is not sure it can keep all four stores open. Based on multifactor productivity, which store would you close? What other factors should be considered?
Based on productivity, the Blacksburg store should be closed. Other factors to consider is revenue, potential for growth, and options for reducing costs.

Problem 2-1
Backwoods American, Inc. produces expensive water-repellant, down-lined parkas. The company implemented a total quality management program four years ago. Following are quality-related accounting data that have been accumulated for the past five-year period, beginning one year prior to the program’s start (denoted as Year 0).
Year 0 Year 1 Year 2 Year 3 Year 4
Quality Costs ($ 000’s)
Prevention 3.2 10.7 28.3 42.6 50.0
Appraisal 26.3 29.2 0.6 4.1 19.6
Internal failure 9.1 1.3 8.4 35.9 32.1
External failure 118.6 110.5 105.2 91.3 65.2
Accounting Measures ($000’s)
Sales 2,700.6 2,690.1 2,705.3 2,810.2 2,880.7
Manufacturing cost 420.9 423.4 424.7 436.1 435.5

a) Compute the company’s total quality failure costs as a percentage of total quality costs for each of the five years. Does there appear to be a trend to this result? If so, speculate on what might have caused the trend.

Total Failure Cost as % of Total Quality Cost:

2006: 0.8424 or 84.24%

2007: 0.8022 or 80.22%

2008: 0.7288 or 72.88%

2009: 0.6560 or 65.6%

2010: 0.5830 or 58.3%

The failure costs decrease as a percentage of total quality costs. This may be attributed to an increase in product monitoring and inspection. Fewer defective products are reaching the consumer, as evidenced by the sharp decline in external failure costs.

b) Compute prevention costs and appraisal costs, each as a percentage of total costs, during each of the five years. Speculate on what the company’s quality strategy appears to be.
Prevention costs as % of total quality costs Appraisal costs as % of total quality costs

2006: 0.0171 or 1.71% 0.1404 or 14.04%

2007: 0.0530 or 5.3% 0.1448 or 14.48%

2008: 0.1332 or 13.32% 0.144 or 14.4%

2009: 0.2197 or 21.97% 0.1243 or 12.43%

2010: 0.2996 or 29.96% 0.1174 or 11.74%

The increase in prevention costs as a percentage of total quality costs indicates that Backwoods American is placing more emphasis on prevention of defects rather than correction of them. Perhaps they are spending more in the areas of quality planning, product design, process, training, and information. This is contributing to a decline in the need for inspection and testing, equipment testing, and operators to test quality; thus appraisal costs decline, both absolutely and as a percentage of total costs. Prevention also contributes to the decline in external and internal failures, because fewer defective products are produced to begin with. Increases in prevention expenditures will result in a decrease in all other quality costs.

c) Compute quality-sales indices and quality-cost indices for each of the five years. Is it possible to assess the effectiveness of the company’s quality-management program from these index values?
To compute quality-sales index, calculate:

(100) . For 2006, this is: (100) (100)(0.0693) = 6.93

To compute quality-cost index, calculate:

(100) . For 2006, this is: (100) (100)(0.4448) = 44.48.

Continuing in this way for the other years, we have:

Quality Sales Index Quality-Cost Index
2006 6.93 44.48
2007 7.50 47.64
2008 7.85 50.04
2009 8.39 44.46
2010 5.79 38.32

These index values do not provide much information regarding the effectiveness of the quality assurance program. They are, however, useful in making comparisons from one period to the next and in showing trends in product quality over time.

d) List several examples of each quality-related cost-that is prevention, appraisal, and internal and external failure- that might result from the production of parkas.
Prevention: Market research, that is, producing what consumers want; purchasing only high-quality down and other materials, designing an efficient and effective manufacturing process; training employees in making quality products.
Appraisal: Inspection of raw materials, work-in-process, and finished product; equipment testing (pattern cutter, sewing machines, etc.), inspection.
Internal failure: Wasted materials and labor, defective products discovered during