Opportunity Cost; Lost Sales Wood Flooring Inc. (WFI) is an industry leader in wood flooring installed in new homes and sold in home improvement stores such as Wal-Mart and Lowes. The company has recently suffered a significant loss in sales because one of its suppliers, Lucas Products Inc, due to its own production problems was unable (though contractually required) to provide in a timely manner the coating that WFI uses in the manufacture of its product. WFI makes its product to order so that each customer chooses the particular stain, coating, and other features of the product before it is manufactured by WFI. There is no production for inventory. All orders require a deposit from the customer and the remainder is paid upon delivery; sometimes the deposit is held by the vendor, and in other cases it is forwarded to WFI. Thus, the failure to receive the coating from Lucas meant that WFI lost a number of sales orders and had to return some deposits.
In retrospect, WFI understands the mistake of relying on a single source of supply for a critical element of their manufacturing process and has now developed a set of suppliers, each of which can be relied upon to provide the needed coating. WFI has estimated lost sales of $ 3.5 million as a result of the failure of Lucas Products, a portion of which ($2.9 million) is due to orders canceled by customers because of the delay in receiving their orders. The remaining orders were canceled by WFI in order to give these customers an opportunity to buy the product from another company, and thereby to maintain some degree of goodwill with these customers. In all, WFI lost about one-third of a month’s sales.
WFI is now pursuing legal action against Lucas to recover at least a portion of the lost profits on these sales. Jeff Jones, the management accountant, has been asked to determine the amount of the lost profit which the court would consider recoverable. The relevant facts, that Jeff has obtained are:
• WFI approximates its distribution costs at12 percent of sales price; these costs include the cost of delivery to the customer, an allowance for returned items, and fees paid to vendors, such as Wal-Mart. The estimate of 12 percent is based on average results for the prior three years for WFI.
• WFI approximates its total variable manufacturing costs at 45 percent of sales; fixed manufacturing costs are allocated to the product based on labor hours and are approximately 25 percent of sales, based on averages of application rates used over the prior three years.
• WFI did receive and paid for $30,000 of coating that was used to complete some customers orders, but the orders were not ready for shipment when the customer canceled the order. The company sold these completed orders to building contractors at a salvage price that Jones says is approximately equal to manufacturing cost. There was also $45,000 of coating from Lucas that was received and paid for by WFI but has not been used.
Required Develop the estimate of recoverable opportunity cost and other costs that Jeff Jones should present to top management and WFI’s attorneys. In providing the estimate, be sure to include a discussion of which portions of the estimate are more subjective and therefore more easily denied by the defendant were the matter to go to trial.
We need at least 10 more requests to produce the solution.
0 / 10 have requested this problem solution
The more requests, the faster the answer.