1. Hinds Industries, Inc. is a manufacturer of soup and condiment products under its own standard and premium labels. The company has been in business for many years, and is a “household name”. Their Denver soup plant has a capacity of 120,000 cases/mo, but has been operating at a normal volume of 85,000 cases/mo. Hinds has been approached by Mondo Mart, a large discount retailer, about producing a line of soups under a Mondo Mart house label. Mondo would initially place an order for 15,000 cases/mo, with the understanding that the order will be expanded if the product is successful. The initial order would be for a reduced line of four relatively simple soups, following Hinds’ normal recipes. All of these soups have essentially the same production cost of $31 per case, as follows: ingredients and packaging, $17; direct labor, $3; overhead, $11. The overhead is 55% fixed manufacturing costs, 25% variable manufacturing costs, and 20% allocated general corporate overhead. Hinds would incur $6,000/mo additional setup costs if the order is accepted. Packaging would cost twenty cents/case less because of a cheaper label used by Mondo.
Hinds normally sells these soups for $38/case. Mondo Mart has offered $29/case, arguing that the steep discount is necessary for them to price the product in conformity with their pricing philosophy and customer expectations.
The regional marketing director is inclined to reject the offer, because it is below cost, and therefore Hinds will lose money on the contract. The ultimate decision is up to the regional director of operations. Discuss the factors that the operations director should consider in making the decision.
2. Ajax Company manufactures a variety of industrial products sold throughout the United States. Harley Davidson has been manager of Southwest Division for the past three years. In years 2 and 3, he was able to qualify for an annual bonus of $50,000 by meeting a target growth rate of 10% of gross sales. Income statements for the division (in $thousands):
Year 1 Year 2 Year 3
Gross sales 30,200 33,300 36,700
Returns and allowances 150 285 370
Net sales 30,050 33,015 36,330
COGS 15,210 17,820 19,770
Gross profit 14,840 15,195 16,560
Sales commissions 3,020 3,330 3,670
Manager salary/bonus 100 150 150
Advertising 460 780 975
Other division overhead 4,050 4,890 5,630
General and administrative 6,040 6,660 7,340
13,670 15,810 17,765
Net income/loss 1,170 (615) (1,205)
All advertising is local to the division and controlled by the manager. General and administrative expense represents corporate overhead which is allocated at the rate of 20% of gross sales.
1) Comment on the effectiveness of the bonus plan used by Ajax.
2) Because Southwest Division is showing increasing losses, a senior vice president has suggested that the division be closed. Comment.