Edward Silalahi (NPM: 05.2.

0019)
Angkatan VII Magister Managemen UNRI

TUGAS INDIVIDU
MANAGERIAL ACCOUNTING
Dosen: IGN. Jeffrey SE, MM Ak

Problem 1:

In September 1997, Olson Company received a report from an external

consulting group on is quality costs. The consultants reported that the company’s
quality costs total about 25 percent of its sales revenues. Somewhat shocked by
magnitude of the costs, Frank Roosevelt, President of Olson Company, decided to
launch a major quality-improvement program. This program was scheduled for
implementation in January 1998. The program’s goal was to reduce quality costs to
2.5 percent by the end of the year 2000 by improving overall quality.

In 1998, it was decided to reduce quality costs to 22 percent of sales revenues.

Management felt that the amount of reduction was reasonable, and that the goal could
be realized. To improve the monitoring of the quality-improvement program, Frank
directed Pamela Golding, the controller, to prepare quarterly performance reports
comparing budgeted and actual quality costs. He told Pamela that improving quality
should reduce quality costs by 1 percent of sales for each of the first three quarters
and 2 percent in the last quarter. Sales are projected a $ 5 million per quarter. Based
on the consulting report and targeted reductions, Pamela prepared the budgets for the
firs two quarters of the year:

Quarter 1 Quarter 2
Sales $5,000,000 $5,000,000
Quality costs:
Warranty $ 300,000 $ 250,000
Scrap 150,000 125,000
Incoming materials inspection 25,000 50,000
Product acceptance 125,000 150,000
Quality planning 40,000 60,000
Field inspection 30,000 0
Retesting 50,000 40,000
Allowances 65,000 50,000
New product review 10,000 10,000
Rework 130,000 100,000
Complain adjustment 60,000 20,000
Downtime (defective pars) 50,000 40,000
Repairs 50,000 35,000
Product liability 85,000 60,000
Quality training 30,000 70,000
Quality engineering 0 40,000

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 Edward Silalahi (NPM: 05.2.0019)
Angkatan VII Magister Managemen UNRI

Design verification 0 20,000

Process control measurement 0 30,000
Total budgeted costs $1,200,000 $1,150,000

Quality costs/sales ratio 24% 23%

REQUIRED:
1. Assume that Olson Company reduces quality costs as indicated. What will
quality costs be as a percent of sales for the entire year? For the end of the
fourth quarter? Will the company achieve its goal of reducing quality costs to
22 percent of sales?

2. Reorganize the quarterly budgets so that quality costs are grouped in one of
four categories: prevention, appraisal, internal failure, or external failure
(effectively, prepare a budgeted cost or quality report). Also, identify each cost
as variable or fixed. (Assume that none are mixed costs.)

3. Compare the two quarterly budgets. What do they reveal about the quality
improvement plans of Olson Company?

Answers:

1. The saving Quality cost:

Q1(Quartile 1): 1% x $5,000,000.00 = $50,000

Q2(Quartile 2): 2% x $5,000,000.00 = $100,000

Q3(Quartile 3): 3% x $5,000,000.00 = $150,000

Q4(Quartile 4): 4% x $5,000,000.00 = $200,000

Total $500,000

In the beginning, cost of quality 255 of sales (revenues). So for this year,
without reducing, total cost of quality should be $ 5.000.000. ( 25% x 4 x $
5.000.000,-). Projection cost for the year 1998 can be calculated as follows:

Quality cost projected:

= $ 5.000.000,- - $ 550.000,-
= $ 4.450.000,-

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 Edward Silalahi (NPM: 05.2.0019)
Angkatan VII Magister Managemen UNRI

As percentage of sales: $ 4.450.000/$20.000.000,- = 22,25%.

What the company achieved the goals depends on how we interpret bench mark of
22%. If 22% means percent of sales for the year 1998, so Olson Company can
achieve a little above from the level (22,25%). Otherwise, if it means begin from the
end of 1998 and so on, Olson have achieved exceed their goal, because in the end of
the fourth quarter cost of quality reduced until 20% from sales. The value 22,25% is
the average of value for the year.

2. The reorganize the cost of quality as follows:

Grouped quality cost Quarter 1 Quarter 2

Prevention cost:
Quality Planning (FC) $40,000 $60,000
New Product review (FC) $10,000 $10,000
Design Verification (VC) $0 $20,000
Quality Engineering (FC) $0 $40,000
Quality training (FC) $30,000 $70,000
Total prevention cost: $80,000 $200,000

Appraisal cost:
Incoming material inspection (VC) $25,000 $50,000
Field inspection (VC) $30,000 $0
Process control measurement (VC) $0 $30,000
Product acceptance (FC) $125,000 $150,000
Total appraisal cost: $180,000 $230,000

Internal failure cost:

Scrap (VC) $150,000 $125,000
Retesting (VC) $50,000 $40,000
Rework (VC) $130,000 $100,000
Downtime (VC) $50,000 $40,000
Total internal failure cost: $380,000 $305,000

External failure cost:

Warranty (VC) $300,000 $250,000
Allowance (VC) $65,000 $50,000
Repairs (VC) $50,000 $35,000
Product liability (VC) $85,000 $60,000
Complain adjustment (VC) $60,000 $20,000
Total external failure cost: $560,000 $415,000

Total cost of quality $1,200,000 $1,150,000

Note: FC = Fixed Cost

VC = Variable Cost

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 Edward Silalahi (NPM: 05.2.0019)
Angkatan VII Magister Managemen UNRI

3. The budget shows that Olson Company have plan dramatically to enhance
the attention in the control cost especially prevention costs . From quarter
1 to quarter 2, cost of prevention raise from 6,7% until 17,4% from total.
Control cost raise from 21,75 until 37,4%. Cost of external failure expect
down from 78,3% until 62,6% from total.

Problem 2:

Grate Care Company specialized producing products for personal grooming.

The company operates six division, including the Hair Products Division. Each
division is treated as an investment center. Managers are evaluated and rewarded on
the basis of ROI performance. Only those managers who produce the best ROI is are
selected to received bonuses and to fill higher-level managerial positions. Fred Olsen,
manager of the Hair Products Division, has always been one of the top performers.
For the past two years, Fred’s division has produced the largest ROI; last year, the
division earned a net operating income of $2.56 million and employed average
operating assets valued at $16 million. Fred was pleased with his division’s
performance and had been told that if the division does well this year, he would be in
line for e head quarters position.
For the coming year, Fred’s division has been promised new capital totaling
$1.5 million. Any of the capital not invested by the division will be invested to earn
the company’s required rate of return (9percent). After some careful investigation, the
marketing and engineering staff recommended that the division invest in equipment
was estimated at $1.2 million. The division’s marketing manager estimated operating
earnings form the new line at $156,000 per year.
After receiving the proposal and reviewing the potential effects, Fred turned it
down. He then wrote a memo to corporate headquarters, indicating that his division
would not be able to employ the capital in any new projects within the next eight to
ten months. He did note, however, that he was confident that his marketing and
engineering staff would have a project ready by the end of the year. At that time, he
would like to have access to the capital.

REQUIRED:
1. Explain why Fred Olsen turned down the proposal to add the capability of
producing a crimping and waving iron. Provide computations to support your
reasoning.
2. Compute the effect that the new product line would have on the profitability of
the firm as a whole. Should the division have produced the crimping and waving
iron?
3. Suppose that the firm used residual income as a measure of divisional
performance. Do you think Fred’s decision might have been different? Why?

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 Edward Silalahi (NPM: 05.2.0019)
Angkatan VII Magister Managemen UNRI

4. Explain why a firm like Grate Care might decide to use both residual income and
return on investment as measures of performance.
5. Did Fred display ethical behavior when he turned down the investment? In
discussing this issue, consider why he refused to allow the investment.

Answers:

1. Fred reject the investment proposal because the ROI just 13% compare to ROI
this time 16%. If the equipment still produce, ROI will decrease until 15,79%.

$156.000,- / $1.200.000,- = 13%

$2.560.000,-/ $16.000.000 = 16%
$2.716.000 / $17.200.000,- = 15,79%

2. Revenues of Company will increase $ 48.000, the equipment should be

produced.

$156.000,- - (9% x $1.200.000,-)

3. Yes, Residual Income of the project $ 48.000,- and receive the project means
increase the residual income division.

4. Residual income drive manager to invest in the projects that can increase
revenues of company, decrease possibility to stagnant real profit’s project.

Otherwise ROI drive the manager to choice investments that have highest
Rate of Return each dollar invested. More ever, ROI gives a relative
performance of measurement, so comparison each division can be easy to do.

5. Clearly we can see, that ROI is a tool for performance measurement and Fred
will not receive the investment that reduce the ROI of his division, known will
be promote, he choice to maintain his ROI as high compare to increase the
income for company. The decision motivate by the private interest.
Some said that decision drive of the appraisal system. The opinion mostly not
true because management goal clearly to appreciate the productive behavior,
not the manipulative behavior. From this viewpoint the decision is wrong and
not ethic.

But Fred may say that the goal of company get the highest of ROI, so reject
the project , can give him ability to investment in a project will give the higher
ROI in the future.