Problem:
Quality Improvement, Relevant costs, and Relevant Revenues. The Tan Corporation uses multicolor molding to make plastic lamps. The molding operation has a capacity of 200,000 units per year. The demand for lamps is very strong. Tan will be able to sell whatever output quantities it can produce at $40 per lamp. Tan can start only 200,000 units into production in the Molding Department because of capacity constraints on the molding machines. If a defective unit is produced at the molding operation, it must be scrapped at a net disposal value of zero. Of the 200,000 units started at the molding operation, 30,000 defective units (15%) are produced. The cost of a defective unit, based on total (fixed and variable) manufacturing costs incurred up to the molding operation, equals $25 per unit, as follows:
| Direct materials(variable) |
|
|
|
|
|
|
|
|
$16 per unit |
| Direct manufacturing labor, setup labor, and materials handling labor (variable) |
|
|
|
3 per unit |
| Equipment, rent and other allocated overhead, including inspection and testeing costs on scrapped parts(fixed) |
6 per unit |
| Total |
|
|
|
|
|
|
|
|
|
|
$25 per unit |
Tan's designers have determined that adding a different type of material to the existing diect materials would result in no defective units being produced, but it would increase the variable costs by $4 per lamp in the Molding Department.
1. Should Tan use the new material? Show your calculations.
2. What nonfinancial and qualitative factors should Tan consider in making the descision.