Question

17-68 Relevant Costs and Quality Improvement Lightening Bulk Company is a moving company specializing in transporting large items worldwide. The firm has an 85% on-time delivery rate. Thirteen percent of the items are misplaced and the remaining 2% are lost in shipping. On average, the firm incurs an additional $65 per item to track down and deliver misplaced items. Lost items cost the firm about $300 per item. Last year, the firm shipped 6,000 items with an average freight bill of $200 per item shipped. The firm’s manager is considering investing in a new scheduling and tracking system costing $125,000 per year. The new system is expected to reduce misplaced items to 1% and lost items to 0.5%. Furthermore, the firm expects total sales to increase by 10% with the improved service. The average contribution margin ratio on any increased sales volume, after cost savings associated with a reduction in misplaced and lost items, is expected to be 37.5%.

Required

1. Based on a relevant cost analysis, should the firm install the new tracking system? That is, what is the estimated change in pretax cash flow under the proposed system? Show calculations and round answer to the nearest whole dollar.

2. What other factors does the firm’s manager need to consider in making the decision?

3. Upon further investigation, the manager discovered that 80% of the misplaced or lost items either originated in or were delivered to the same country. What is the maximum amount (to the nearest whole dollar) the firm should spend to reduce the cost of problems in that country by 90%?

Blocher, Edward. Cost Management: A Strategic Emphasis (p. 766). McGraw-Hill Higher Education. Kindle Edition.

Answer 1

1)

Lightening Bulk Company
Cost and Benefit Analysis of the Proposed
Scheduling and Tracking System
Cost of the new system (per year)		125,000.00
Expected benefits each year from the new system:
Contribution margin from sales increase	45,000.00
Savings from decrease in misplaced items	46,800.00
Savings from decrease in lost items	27,000.00	118,800.00
Change in pre-tax cash flow per year		-      6,200.00

2) Below are the Other Factors

• Accuracy of the Estimates done for the contribution margin, cost of lost items and tracking misplaced etc
• Training cost
• Possible down time for the new system

3)

Cost of misplaced items	40,560.00
Cost of lost items	28,800.00
Total cost of lost/misplaced items	69,360.00
Targeted reduction in total cost	90%
Maximum amount for process improvements	62,424.00