Joint Cost Allocation: Managerial Incentives
Cameron Manufacturing produces auto parts for auto manufacturers and parts wholesalers. The business is very competitive, and productivity measures are used throughout its eight manufacturing plants. Jill Owens, the manufacturing vice president, explains to her plant managers the importance of reducing cycle time, improving throughput, and reducing waste. One type of waste she keeps close track of is that due to accidents and injuries on the job. Jill believes that a safe work place also contributes to productivity. A reduction in accidents and injuries can also lead to a reduction in the insurance the firm pays to cover its liability in these incidents. The premium for this insurance coverage is a single policy and is a joint cost shared by all eight plants. One of the plant managers, Mike Griffin, notes that the current procedure for allocating the cost of insurance, which is based on total plant output, does not provide plant managers with the desired incentive to reduce accidents. It just means that the larger plants get charged more. Mike suggests that the insurance cost should be charged to the plants based on the number of manufacturing personnel in each plant.
Required What do you think of Mike’s suggestion? What alternative would you suggest, if any, for allocating the cost of insurance to the plants?
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