Question

You have been asked to investigate some cost problems in the Assembly Department of Digital Life Electronics Co., a consumer electronics company. To begin your investigation, you have obtained the following budget performance report for the department for the last quarter:

 

The following reports were also obtained:

 

You also interviewed the Assembly Department supervisor. Excerpts from the interview follow.
Q: What explains the poor performance in your department?
A: Listen, you€™ve got to understand what it€™s been like in this department recently. Lately, it seems no matter how hard we try, we can€™t seem to make the standards. I€™m not sure what is going on, but we€™ve been having a lot of problems lately.
Q: What kind of problems?
A: Well, for instance, all this quarter we€™ve been requisitioning purchased parts from the material storeroom, and the parts just didn€™t fit together very well. I€™m not sure what is going on, but during most of this quarter we€™ve had to scrap and sort purchased parts€”just to get our assemblies put together. Naturally, all this takes time and material. And that€™s not all.
Q: Go on.
A: All this quarter, the work that we€™ve been receiving from the Fabrication Department has been shoddy. I mean, maybe around 20% of the stuff that comes in from Fabrication just can€™t be assembled.
The fabrication is all wrong. As a result, we€™ve had to scrap and rework a lot of the stuff.
Naturally, this has just shot our quantity variances.
Interpret the variance reports in light of the comments by the Assembly Departmentsupervisor.

Answer 1

This is a case where there is strong evidence that the poor performance that is occurring inside the Assembly Department may be the result of behaviors outside of the department. This is one of the classic problems with variance analysis. Often, the variances reflect causes outside of the responsibility center manager's control. That is what appears to be happening here. The Assembly supervisor complains that both the purchased parts and incoming material from the Fabrication Department have been giving trouble. A review of performance reports reveals the following:

(1) The materials price variance is very favorable;

(2) The Fabrication Department's labor time variance is also very favorable. A possible explanation is that the Purchasing Department found a low-price supplier. The low price translated into a favorable variance. Unfortunately, it appears the company is “getting what it paid for.” Specifically, it appears that the quality of the purchased parts has gone down, thus making assembly much more difficult in the Assembly Department. The Fabrication Department may be performing work faster than standard-again, resulting in a favorable labor time variance. It may be that the department is working too fast. Specifically, the speed is resulting in poor fabrication quality. Again, the Assembly Department is bearing the cost of poorly fabricated parts. The problem in both instances is that the variances measure only productivity and price savings and not quality. As a result, there are strong incentives to purchase from lowest bidders, work fast, cut corners, and push work on through. Unfortunately, the company is worse off, as a whole, due to this set of situations. The sum of the unfavorable variances in Assembly exceeds the favorable variances in the other departments. 

 

The analyst will need to confirm these suspicions. If they are supported, the company may wish to introduce quality measures in addition to the variance information in order to avoid the counterproductive behaviors in Purchasing and Fabrication.