1.

(a)Impact of dropping JT484 on operating income:

Reduction in contribution margin / $100,000
Cost savings:
Utilities / (9,000)
Supervision / (30,000)
Maintenance / (7,000)
Administrative / (30,000)
Decrease in operating income / $24,000

Therefore, JT484 should not be eliminated.

(b)No, the decision to retain JT484 will only be reinforced by the sales manager’s comments.

2.

Estimated cost savings as a result of the quality improvement:

Savings from decrease in reject rate
(0.064 – 0.051)  [(494 – 63 – 225) + (386 – 89) + (70 – 16)]  10,000 / $72,410
Savings from reduction in inventory carrying cost
($386,000 – $270,000)  0.15 / $17,400
Total annual savings / $89,810

3.

(a)

The approach used at McDonalds in which customers wait in several lines is consistent with the push or conventional manufacturing approach. As one comes into McDonalds it is clear that they have been, and are building inventory in each of the specific bins that they use for, let’s say, Big Macs, fish sandwiches, regular hamburgers, etc. Having inventory at predefined levels keeps the production process going. The motivation to use the traditional production method is to sustain a certain level of inventory to reduce the time the customer has to wait for an order. Notice in McDonalds that hot lights are used to keep the sandwiches warm. One goal of this approach is that customers perceive that they can get their sandwich very quickly due to the inventory of sandwiches always on hand. On the other hand, Wendy’s uses more of a pull or JIT system. As you enter into Wendy’s, notice that you cannot really observe any sandwich inventory building up. The idea in forming one line is that each person has the perception (and often the reality) that each sandwich is made on the spot. This procedure is designed to show customers how fresh the sandwiches are. The motivation to use a just-in-time approach is to improve the quality of the food and to reduce waste by eliminating the need to throw out food that has been sitting too long. As processing time and setup costs drop, the organization can move closer to just-in-time, reducing the waste and quality problems that arise with batch production.

(b)From a customer’s perspective, it does depend on what one favors. If a customer goes to a fast food restaurant, his or her goal is to get food quickly. On any particular day, the customer may be in a great hurry and wish to run in and run out of a fast food establishment. Having multiple lines at a place like McDonalds may be very appealing as far as the perception of the speed with which one can get a meal (compared to a single line at Wendy’s). On another day, perhaps having a meal made freshly on the spot, without any “warming” time under hot lights is more appealing than the speed of getting the food. Of course, one may simply like the taste of one company’s hamburgers over another’s.

From management’s perspective, apart from taste, competing in selling hamburgers may depend on other variables such as the speed with which an order is filled versus tailoring the production process to individual taste. The traditional push production process can lead to a lot more waste than the JIT system, because if a batch of hamburgers is made and demand drops, the quality of the food deteriorates and often has to be thrown out. However, if the line at Wendy’s is very long and customers begin to get impatient, the freshness of the food may begin to lose its appeal.

4.

(a)

Quality Cost Report for Renwal Company
Quality Cost Category /
Annual
Cost /
Percent of
Sales*
Prevention Costs:
Quality training / $125,000 / 0.125%
Quality engineering / 500,000 / 0.500%
Statistical process control / 250,000 / 0.250%
Supplier certification / 90,000 / 0.090%
Research of customer needs / 75,000 / 0.075%
Total / $1,040,000 / 1.040%
Appraisal Costs:
Inspection of and testing of in-coming
materials / $400,000 / 0.400%
Maintenance of test equipment / 350,000 / 0.350%
Process-control monitoring / 1,000,000 / 1.000%
Product-quality audits / 475,000 / 0.475%
Total / $2,225,000 / 2.225%
Internal Failure Costs:
Waste / $700,000 / 0.700%
Net cost of scrap / 635,000 / 0.635%
Rework costs / 1,200,000 / 1.200%
Downtime due to defectives / 125,000 / 0.125%
Total / $2,660,000 / 2.660%
External Failure Costs:
Product-liability lawsuits / $4,500,000 / 4.500%
Repair costs in the field / 850,000 / 0.850%
Warranty claims / 2,345,000 / 2.345%
Returned products / 1,200,000 / 1.200%
Product recalls / 2,000,000 / 2.000%
Total / $10,895,000 / 10.895%
Total Quality Costs: / $16,820,000 / 16.820%

*Total sales were $100,000,000.

(b)The most obvious problem at Renwal is the extremely high external-failure costs of almost 11%. Since as a norm many companies would like to keep their quality costs below 4% to 5% of sales, Renwal Company’s quality costs are out of line. Note in particular that product-liability lawsuits, warranty claims, and product recalls are the biggest external-failure costs. Renwal must find out why its products seem to be failing in the field.

Renwal should first turn to an analysis of its other quality costs. Quality costs are incurred throughout the total life cycle of a product. If Renwal does not control quality costs early in the research, development, and engineering stage by ensuring good product design, then design problems will lead to increased quality costs later on.

At Renwal both prevention and appraisal costs are a relatively small percent of total quality costs (1.04% and 2.225% respectively). Renwal should consider putting more effort into quality training, quality engineering, and statistical process control. The company should also determine whether to spend more money on appraisal. There could be a problem with Renwal’s test equipment that would require the company to incur higher maintenance costs.

With regard to internal-failure costs, Renwal also apparently incurs a great deal of rework costs. The product seems to require many additional costs that need not be incurred if the company could produce it correctly the first time. Perhaps the production process is at fault, or maybe Renwal’s workers are not well trained.

Note that Renwal’s quality-related costs are very low at the prevention stage. They increase for the appraisal and internal-failure cost categories. The external failure costs are extremely high. This pattern of quality costs is what most organizations hope to avoid because the highest category of quality costs corresponds to poor quality recognized only after products are in customers’ hands.

The more desirable quality-costtrend is the reverse of Renwal’s pattern. That is, organizations desire to have the greatest proportion of quality costs incurred in the prevention stage. By increasing quality training and quality engineering costs during this stage, a company can reduce other quality costs. With the company’s products failing less frequently in the customers’ hands, customer satisfaction should increase and the company’s reputation should improve.