What was the effect of the production volume variance on plant operating income?

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Answer the following :

1) Rick White has recently discussed the intent to diversify Swiss Chocolate’s product line with Steve Smith. Smith notes that the new product will be a dark chocolate candy bar featuring various types of dried fruit and a higher percentage of cacao, which will be touted as a heart-healthy product due to high antioxidant nutritional qualities. This differs from the current basic milk-chocolate bar that Swiss Chocolate manufactures presently, which has no added fruit. White has related the fact that the company expects this coming year’s milk-chocolate bar volume to decline and the new product volume to rise. There will be a new machine required to accommodate the new product, and it will run in batches.

White suggests that Smith consider Activity-Based Costing for completing this analysis. Before Smith undertakes this analysis, he considers the advantages and disadvantages of implementing activity-based costing.

  • Indicate an advantage to implementing ABC for this scenario. Support your response.

Indicate a disadvantage to implementing ABC for this scenario. Support your response.


2)  The US division of Swiss Chocolate has a budget directive to achieve a specific level of operating income for the period. If the specific level of operating income is achieved, the plant manager, Rick White, will receive a bonus.

White communicated the requirements to management and requested that the managers estimate their departmental costs and submit to Smith for compilation of the operating budget for the period.

When the projected budget costs were compiled, Smith noted that management’s estimates of costs were less than anticipated, which resulted in a higher anticipated level of operating income than the target established by the Swiss home office. White was informed of this, and made a suggestion to increase costs within the budget in order to provide a “buffer” in case an unexpected event occurred resulting in greater spending. Smith was greatly concerned with White’s request. Rick indicated that this was just his suggested approach to “risk management.”

  • What type of practice is Rick suggesting?
  • What are the ethical implications for Steve in this situation?
  • What would you suggest Steve do to solve this dilemma?

3) During the month of September (the last month of Swiss Chocolate’s fiscal year), Steve Smith calculated the production volume variance for the month, noting a significant favorable variance resulting from increased production. In fact, despite the lack of change in the sales forecast for the entire year, production had increased 20% for the month. Smith was concerned with the outcome and requested a meeting with Rick White, the plant manager.

White indicated that indeed, he had directed the production department to increase manufacturing for the period. Although White indicated that the rationalization for increased production was the approach of the holiday season and increased orders which would be shipping soon, Smith was concerned that he had another motive.

  • What was the effect of the production volume variance on plant operating income?
  • If White’s bonus is based on operating income, what concerns should Smith have at this point?
  • Were White’s directives justified?

4) Steve Smith has completed an evaluation of the effects of a favorable production volume variance from the prior period. He proposes to Roberta Blake that the use of a variable costing income statement rather than an absorption costing income statement for the basis calculating incentive rewards would encourage more ethical behavior, when rewards are based on operating income.

  • Do you agree with Smith’s suggestion?
  • Are there any reporting considerations which impact the preparation of a variable costing income statement?
  • If Blake and Smith agree that only absorption costing is appropriate, are there any methods to fairly capture the effect of increased inventories during times of overproduction?

5) Many equipment replacement or outsourcing decisions have relevant qualitative considerations which may impact the acceptance of a quantitative evaluation, regardless of the calculated outcome. For instance, Steve Smith has completed an analysis of budgeted volumes for the US division of Swiss Chocolate Company for the coming year, and noted that the firm’s direct labor cost of production is significantly less per unit than its Swiss affiliate plant, but is higher than its Mexican affiliate plant. The Swiss corporate office has indicated that if its costs are not competitive with the Mexican plant, closure of the US plant is imminent.

Rick White has proposed a plan for automation of some of the processes which are now completed by hand at the US division. Although the expected results are attractive, five of ten or half of the production staff would be terminated.

Consider the ethical implications of such a decision. Would the replacement of the equipment be optimal? What might the impacts be to the workforce? Would there be potential impacts on financial results which extend beyond the immediate savings proposed in the equipment replacement?

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