Case Study 1
After returning from a seminar on the choice of activity level in the predetermined overhead rate, Pat Miranda arranged a meeting with the production manager and his assistant to discuss possible new ways on how to compute the predetermined rate. Using the new way they were able to lower the manufacture overhead (for $25 to $20) and add an entry called “cost of unused capacity” to the budget income statement. The use of the new method raised some questions about how appropriate it would be and also if it is ethical to manipulate the numbers in the statements. 3.
The new method based system will affect net operating income in a negative way. For the same amount of units sold we have $50.000 less income with the new method. 4.
The new method based system will make it harder to perform the “hat trick,” because by using the Cost of Unused Capacity, the unused capacity is much more visible to management. If they pull the “hat trick” they have to produce a few extra thousands of products to get the desirable $500.000 in net income. 5.
The concept of the “hat trick” is not a very ethical practice, because it allows the numbers to be manipulated very easily to produce the numbers that are desired in sales. This leads the owners of the company to believe that the company’s profits are higher than they really are due to the building of a higher inventory. The “hat trick” and other programs like it lead to a set of numbers in the business that do not really tell the true facts, but rather they condition the numbers to say that things are better or worse than they really are. These manipulated numbers can lead to problems and can cause owners and management to make decisions that they believe are sound, but based on the true numbers are not good decisions.
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