Cathy Tolchin is the plant manager of a company that uses process costing. She will receive a bonus equal to 10% of her base salary if her plant meets or exceeds target operating profit for the year. Cathy is within $62,500 of making the year’s target profits. She is thinking of a way to manipulate operating income so she can receive the bonus. She concludes that that an easy way to do this is to change the estimate of the percentage of completion regarding ending work in process inventory.
The processing department in Cathy’s plant began the year with no work in process inventories and no finished goods inventory. During the year, 270,000 units were started, and 250,000 units were completed and sold. A total of $49,221,000 in direct materials and $16,320,000 in conversion costs were added to production during the year. All materials are added at the beginning of the production process, and conversion costs are added evenly throughout the process.
REQUIRED:
1. Cathy originally estimated that the units in ending work in process were 25% complete with respect to conversion costs. If this estimate of the percentage completed is used, what would be the cost of goods sold for the year?
2. Does Cathy need to increase or decrease the estimated percentage completion to have a higher operating income? Explain why.
3. What percentage completion figure would result in increasing net operating income by $62,500 over the net operating income that would be reported if the original 25% figure were used?
4. Do you think Cathy Tolchin should alter the estimate of the percentage of completion so she can get her bonus? Why or why not? To answer this question, see Professional Ethics and Standards in Chapter 1 of your textbook.