Question

Gary Stevens and Mary James are production managers in the Consumer Electronics Division of General Electronics Company, which has several dozen plants scattered in locations throughout the world. Mary manages the plant located in Des Moines, Iowa, while Gary manages the plant in El Segundo, California. Production managers are paid a salary and get an additional bonus equal to 10% of their base salary if the entire division meets or exceeds its target profits for the year. The bonus is determined in March after the company’s annual report has been prepared and issued to stockholders. Shortly after the beginning of the new year, Mary received a phone call from Gary that went like this: Gary: How’s it going, Mary? Mary: Fine, Gary. How’s it going with you? Gary: Great! I just got the preliminary profit figures for the division for last year and we are within $179,400 of making the year’s target profits. All we have to do is pull a few strings, and we’ll be over the top! Mary: What do you mean? Gary: Well, one thing that would be easy to change is your estimate of the percentage completion of your ending work in process inventories. Mary: I don’t know if I can do that, Gary. Those percentage completion figures are supplied by Tom Winthrop, my lead supervisor, who I have always trusted to provide us with good estimates. Besides, I have already sent the percentage completion figures to corporate headquarters. Gary: You can always tell them there was a mistake. Think about it, Mary. All of us managers are doing as much as we can to pull this bonus out of the hat. You may not want the bonus check, but the rest of us sure could use it. The final processing department in Mary’s production facility began the year with no work in process inventory. During the year, 379,000 units were transferred in from the prior processing department and 345,000 units were completed and sold. Costs transferred in from the prior department totaled $84,517,000. No materials are added in the final processing department. A total of $25,628,750 of conversion cost was incurred in the final processing department during the year. Required: 1. Tom Winthrop estimated that the units in ending work in process inventory in the final processing department were 25% complete with respect to the conversion costs of the final processing department. If this estimate of the percentage completion is used, what would be the cost of goods sold for the year? 2. Does Gary Stevens want the estimated percentage completion to be increased or decreased? 3. What percentage completion would result in increasing reported net operating income by $179,400 over the net operating income that would be reported if the 25% figure were used?

Answer 1

1.

Cost of goods sold = $109,529,500

Working:

Total cost transferred from the prior department	84517000
Conversion cost incurred in the final departent	25628750
Total cost assigned to production	110145750
Less: Value of ending inventory   **	616250
Cost of good sold	109529500

Total conversion cost	25628750
Equivalent units	353500
Cost per unit	72.50
Eq.Units of ending inventory   *	8500
Value of ending inventory   **	616250

Total	Fully completed			Ending			Total
Units	Units	%	Eq.Units	Inventory	%	Eq.Units *	Eq.units
379000	345000	100%	345000	34000	25%	8500	353500

2. Gary Stevns wants the estimated percentage completion to be increased , as this will result in a higher valuation for ending inventory and would result in a lower cost of goods sold resulting in reporting higher profit.

3.

Value of ending inventory at 25% completion	616250
Amount by which the value needs to be increased	179400
Percentage increase required from the orginal value	30%
Therefore the percentage of completion is to be increased by 30%
to increase the value of ending inventory by $179,400
The new percentage of completion will be (1.3 x 25) i.e., 32.25%
Checking:

Total cost transferred from the prior department	84517000
Conversion cost incurred in the final departent	25628750
Total cost assigned to production	110145750
Less: Value of ending inventory   **	795387.41
Cost of good sold	109350363
Decrease in cost of goods sold	179137.41

The cost of goos sold decreases b almost the amount required by Gary Stevens.

Total conversion cost	25628750
Equivalent units	356050
Cost per unit	71.98
Eq.Units of ending inventory   *	11050
Value of ending inventory   **	795387.41

Total	Fully completed			Ending
Units	Units	%	Eq.Units	Inventory	%	Eq.Units *
379000	345000	100%	345000	34000	32.50%	11050