Re:Merton Truck Company
In response to your report and request regarding Merton’s financial performance and product mix, I have met with your controller, sales manager and production manager, and have provided a solution that will improve the company in these two areas. Using a systematic approach, I was able to analyze the current machine hours, standard costs, and overhead budget. My findings have allowed me to determine the best monthly product mix that will maximize Merton’s total monthly contribution. Furthermore, I have addressed the decision regarding outsourcing, and have provided both the maximum rent your company should pay in addition to the maximum number of hours that should be rented. When determining the product mix, I took careful consideration of the machine hour constraints that your factory must account for. The following sections will provide further information in regards to my analytical technique, and how I was able to determine these figures. Current Situation
Merton’s third and fourth quarters of last year should not be deemed a failure, but rather an area where the company can improve. It is evident your company’s current product mix is not meeting the financial standards that the company expects. As your sales manager pointed out, Model 101 trucks currently cost $40,205 to produce and are selling at a price of $39,000, meaning the company is producing this model at a loss. Some other issues to point out are the current capacity levels. Although the company is profiting on each Model 102 sold, maxing out capacity for this model may not be the best solution, as suggested by the controller. An analysis of the provided budget will allow us to track where the company’s money is being spent, and will suggest certain areas where possible changes can be made. Evaluating the different scenarios will answer our current questions on whether to stop producing Model 101’s all together, to continue producing both models but at different amounts, and/or to consider the use of an outside supplier. Data Used in the Analysis
To address the main goal of increasing financial performance, I had to define the objective of the current situation. Simply put, the objective is to maximize total contribution from the two models, which will directly improve Merton’s financial performance. Our focus is contribution rather than profit because contribution deals only with variables costs and variable costs are costs that we can manipulate to better Merton’s financial position. By determining exactly how much contribution Merton receives from producing one Model 101 and one Model 102, we can attempt to maximize these figures. A product’s contribution is the amount of money the company receives after subtracting out the variable production costs. Figure 1 shows the contribution received for producing one truck of Models 101 and 102. I was able to calculate this figure using the data provided from Tables B and C in your report. Table B listed the variable costs which include the direct materials and direct labor costs per model. I then added the variable overhead costs per unit that were listed in Table C. Subtracting these variable costs from the total selling price leaves us with Model 101 attributing $3,000 in contribution and Model 102 attributing $5,000. The second goal is to determine an optimal product mix. In order to do so, I had to account for any constraints, or parameters that limit production and affect total monthly contribution. Table A from your report provided these constraints, which are the production capacities of the four departments, engine assembly, metal stamping, Model 101 assembly and Model 102 assembly. These constraints, which will be discussed in the following sections, are provided in Figure 2. Finding both the contribution per model and...