Question

Question 1 (Total 20 marks)

Ricky is the operations manager of a company making leather soccer balls for children; and with recent increase in the costs, he wishes to look into the productivity of his company. He would like to know if his company is having a 5% increase in productivity in order to be qualified for a bonus. Please see the annual data below:

	Year 2018	Year 2019
Unit Produced	500,000	500,000
Labour (hours)	90,000	81,000
Capital Invested ($)	10,000,000	11,000,000
Materials (Ton)	240	228

The details of the various cost items are: S40 per labour hour and $18 per kg of materials While for the capital expense, it is at 0.9% per month of capital investment

1. Calculate the productivity percentage change for each category in the table below (9 marks). Some answers have been shown for your reference, Please make sure you are having all figures compared to the same unit of measure

	Year 2018	Year 2019	Cost or Rate	Monthly Cost 2018	Monthly Cost 2019	Productivity Change (%)
Unit Produced	500,000	500,000
Labour (hours)	90,000	81,000	40	300000
Capital Invested ($)	10,000,000	11,000,000	0.9%		99000
Materials (Ton)	240	228	18	360000
Sub-total

2. Will Ricky get his productivity improvement bonus for Year 2019? Why?   (2 marks)

The boss of the company is now considering to outsource the operations to a third party who offers a product transfer cost of $16 per unit that covers the materials, labour and capital costs.

3. What would you suggest the boss to make the decision based on the cost? (3 marks)

4. What other factors and risks the boss should consider beyond the cost implications? Please discuss three of them. (6 marks
   
   )

Answer 1

Answer to the question:

Data given in the question is as below:

	The year 2018	The year 2019	Rate
Unit Produced	5,00,000	5,00,000
Labour (hours)	90,000	81,000	40
Capital Invested ($)	1,00,00,000	1,10,00,000	0.90%
Materials (in KG)	240000	228000	18

Let us calculate the productivity by calculating the cost of each category and then compare them between the two years to find out the improvement or reduction in productivity in the respective category.

Cost items	Annual Cost of 2018	Annual Cost of 2019	Monthly Cost 2018	Monthly Cost 2019	Reduction() or Increase in Cost	Remark	Productivity
	5,00,000	5,00,000	41666.66667	41666.66667
Labour	3600000	3240000	300000	270000	-10%	10% reduction	10% improvement
Capital Cost	1080000	1188000	90000	99000	10%	10% increase	10% reduction
Material Cost	4320000	4104000	360000	342000	-5%	5% reduction	5% improvement
Subtotal Cost	9000000	8532000	750000	711000	-5%	5% reduction	5% improvement
Unit cost= Total Cost/Number of units made	18	17.064	18	17.064	-5%	5% reduction	5% improvement

# Will Ricky get his productivity improvement bonus for the Year 2019? Why?

Yes, he will get the bonus, as we have seen that the per-unit production cost in the Year 2019 is 5% lower with respect to the year 2018 production cost per unit, hence he has achieved an overall 5% improvement in productivity.

# The boss of the company is now considering outsourcing the operations to a third party who offers a product transfer cost of $16 per unit that covers the materials, labor and capital costs.

1. What would you suggest to the boss to make the decision based on the cost? (3 marks)

As we have seen that the cost of capital is increasing and even with a 5% improvement in productivity the cost per unit is $17.06 per unit hence to reach at $16 level the has to improve by another 6.2% improvement in their productitvity which may be difficult to achieve. Therefore, if we only consider the cost part then outsourcing of the job makes sense if there are no other cost differences.

1. What other factors and risks the boss should consider beyond the cost implications?

As I explained that only cost should not be considered for making a decision to outsource the manufacturing. the other critical factors which should be considered are as below:

a. Quality: There should not be any difference in quality standards by any means otherwise reduced cost has no meaning.

b. Timely Supply: Supply should be as per committed timeline, there should not be any lag in deliveries of products.

c. Other overhead expenses: there should not be any other ordinary or extraordinary overhead expense linked with getting the manufacturing to outsource.

d. Legality: there should not be any legal violation for which his company should be held responsible and this thing should be clearly agreed in the contract.