ACCT 3020 Cost and Management Account II
Zhuhai Company was a medium-sized, partly integrated paper company, producing white and kraft papers and paperboard. A portion of its paperboard output was converted into corrugated boxes by the Design division, which also printed and colored the outside surface of the boxes. Including Design, the company had four producing divisions and a timberland division which supplied part of the company’s pulp requirements.
For several years each division had been judged independently on the basis of its profit and return on investment. Top management had been working to gain effective results ...view middle of the document...
In early 2013 the profit margins of converters such as the Design division were being squeezed. Design, as did many other similar converters, bought its board, liner, or paper and its function was to print, cut, and shape it into boxes. Though it bought most of its materials from other Zhuhai divisions, most of Design’s sales were to outside customers. If Design got the business, it would probably buy the linerboard and corrugating medium from the Soft division of Zhuhai. The walls of a corrugating box consist of outside and inside sheets of linerboard sandwiching the fluted corrugating medium. About 70% of Design’s out-of-pocket cost of $400 represented the cost of linerboard and corrugating medium. Though Soft division had been running below capacity and had excess inventory, it quoted the market price, which had not noticeably weakened as a result of the oversupply. Its out-of-pocket costs on both liner and corrugating medium were about 60% of the selling price.
The Production division received bids on the boxes of $480 a thousand from the Design division, $430 a thousand from Wallmaker Company, and $432 a thousand from Evolution, Ltd. Evolution offered to buy from Zhuhai Company the outside linerboard with the special printing already on it, but would supply its own inside liner and corrugating medium. The outside liner would be supplied by the Soft division at a price equivalent of $90 per thousand boxes, and would be printed for $30 a thousand by the Design division. Of the $30, about $25 would be out-of-pocket costs.
Since this situation appeared a little unusual, Samuel Chen, manager of the Production division, discussed the wide discrepancy of bids with Zhuhai’s commercial vice-president. He told the vice-president: “We sell in a very competitive market, where higher costs cannot be passed on. How can we be expected to show a decent profit and return on investment if we have to buy our supplies at more than 10% over the going market?”
Knowing that Mr. Zhang, the manager of Zhuhai Company’s Design Division had...