CASE 1329 Plant Closing Decision

QualSupport Corporation manufactures seats for automobiles, vans, trucks, and various recreational
vehicles. The company has a number of plants around the world, including the Denver Cover Plant, which
makes seat covers.
Ted Vosilo is the plant manager of the Denver Cover Plant but also serves as the regional production
manager for the company. His budget as the regional manager is charged to the Denver Cover Plant.

Vosilo has just heard that QualSupport has received a bid from an outside vendor to supply the equivalent
Of the entire annual output of the Denver Cover Plant for $35 million. Vosilo was astonished at the low
outside bid because the budget for the Denver Cover Plants operating costs for the upcoming year was
set at $52 million. If this bid is accepted, the Denver Cover Plant will be closed down.

The budget for Denver Covers operating costs for the coming year is presented below. Additional
facts regarding the plants operations are as follows:

a. Due to Denver Covers commitment to use high-quality fabrics in all of its products, the Purchasing
Department was instructed to place blanket purchase orders with major suppliers to ensure the receipt
of sufficient materials for the coming year. If these orders are canceled as a consequence of the plant
closing, termination charges would amount to 20% of the cost of direct materials.

b. Approximately 400 plant employees will lose their jobs if the plant is closed. This includes all of the
direct laborers and supervisors as well as the plumbers, electricians, and other skilled workers classified
as indirect plant workers. Some would be able to find new jobs while many others would have difficulty.
All employees would have difficulty matching Denver Covers base pay of $18.80 per hour,
which is the highest in the area. A clause in Denver Covers contract with the union may help some
employees; the company must provide employment assistance to its former employees for 12 months
after a plant closing. The estimated cost to administer this service would be $1.5 million for the year.

c. Some employees would probably choose early retirement because QualSupport has an excellent
pension plan. In fact, $3 million of the annual pension expense would continue whether Denver Cover
is open or not.

d. Vosilo and his staff would not be affected by the closing of Denver Cover. They would still be
responsible for administering three other area plants.

e. If the Denver Cover Plant were closed, the company would realize about $3.2 million salvage value for
the equipment and building. If the plant remains open, there are no plans to make any significant
investments in new equipment or buildings. The old equipment is adequate and should last indefinitely.
 Denver Cover Plant
Annual Budget for Operating Costs

Materials ............................................................. $14,000,000

Labor:
Direct ............................................................... 13,100,000
Supervision..................................................... 900,000
Indirect plant ................................................... 4,000,000 18,000,000
Overhead:
Depreciationequipment ............................... 3,200,000
Depreciationbuilding .................................... 7,000,000
Pension expense ............................................. 5,000,000
Plant manager and staff .................................. 800,000
Corporate expenses* ....................................... 4,000,000 20,000,000
Total budgeted costs ........................................... 52,000,000

*Fixed corporate expenses allocated to plants and other operating units based on total
budgeted wage and salary costs.

Required:

1. Without regard to costs, identify the advantages to QualSupport Corporation of continuing to obtain
covers from its own Denver Cover Plant.

2. QualSupport Corporation plans to prepare a fi nancial analysis that will be used in deciding whether or
not to close the Denver Cover Plant. Management has asked you to identify:

a. The annual budgeted costs that are relevant to the decision regarding closing the plant (show the
dollar amounts).

b. The annual budgeted costs that are not relevant to the decision regarding closing the plant and
explain why they are not relevant (again show the dollar amounts).

c. Any nonrecurring costs that would arise due to the closing of the plant, and explain how they
would affect the decision (again show any dollar amounts).

3. Looking at the data you have prepared in (2) above, should the plant be closed? Show computations
and explain your answer.

4. Identify any revenues or costs not specifically mentioned in the problem that QualSupport should
consider before making a decision.