Question: Jacob Hong, the new plant manager of Vantage Manufacturing Plant
Number 5, has just reviewed a draft of his year-end financial statements. Hong receives a year-end bonus of 8% of the plant's operating income before tax. The year-end income statement provided by the plant's controller was disappointing to say the least. After reviewing the numbers, Hong demanded that his controller go back and ‘work the numbers' again. Hong insisted that, if he didn't see a better operating income number the next time round, he would be forced to look for a new controller.
Vantage Manufacturing classifies all costs directly related to the manufacturing of its product as product costs. These costs are inventoried and later expensed as costs of goods sold when the product is sold. All order expenses, including finished goods warehousing costs of $ 7,140,000, are classified as period expenses. Hong had suggested that warehousing costs be included as product costs because they are ‘definitely related to our product'. The company produced 210,000 units during the period and sold 190,000 units.
As the controller reworked the numbers, he discovered that if he included warehousing costs as product costs, he could improve operating income by $680,000. He was also sure these new numbers would make Hong happy.
Required: a. Show numerically how operating income would improve by $680,000 just by classifying the preceding costs as product costs instead of period expenses.
b. Is Hong correct in his justification that these costs are ‘definitely related to our product'?
c. By how much will Hong benefit personally if the controller makes the adjustments in requirement (a)?
d. Suggest the actions to be taken by the plant controller.