Professional Documents
Culture Documents
J
anet McKinley is employed by the “I know the bottom line looks pretty
Quality Products Corporation, a bad,” she says. “But we made great
publicly traded conglomerate. strides this year. Sales are higher than
The corporation manufactures and
sells many different kinds of products, 1 This case is based on field research at an ex-
including luggage, music synthesizers, isting toy company. The essential facts relat-
ing to production and sales have been re-
breakfast cereals, peanut butter, and tained. However, all names, dates, actual
children’s toys. McKinley is Vice Presi- events, and identifying details have been con-
dent in charge of the Berkshire Toy cealed to protect the privacy and identity of
Company, a division of Quality the company. Thus, if any names used in this
case are those of actual firms or individuals,
Products. then it is purely coincidental.
It is late July 1998 and McKinley
has just received the preliminary in-
come statement for her division for the Dean Crawford and Eleanor G. Henry
year ended June 30, 1998 (see Table are both Associate Professors at SUNY
1). The master (static) budget and mas- at Oswego.
ter budget variances for the same pe-
riod are included for comparison pur- The valuable comments and suggestions on
poses. McKinley looks at the bottom earlier versions of this case from Professors
line, a loss approaching a million dol- Jeffery Abarbanell, James Noel, Nicholas
lars, then picks up the phone to call you. Schroeder, the editor, David E. Stout, and
You are an accountant in the associate editor, Jeffrey Cohen, two anony-
mous reviewers, and the students of the
controller’s office at the headquarters Graduate School of Business Administration
of Quality Products Corporation. You at the University of Michigan and the Col-
worked with McKinley when her com- lege of Business Administration at the Uni-
pany was acquired by Quality Products, versity of Toledo are gratefully acknowledged.
284 Issues in Accounting Education
TABLE 1
Berkshire Toy Company
A Division of Quality Products Corporation
Master Master
(Static) Budget
Actual Budget Variance
a The actual operating income reported in Table 1 is a preliminary figure that has not been ad-
justed for fiscal 1998 bonuses, if any.
Crawford and Henry 285
ever. Customers love our product and ucts Corporation in a friendly ex-
respect our quality. There must be a change of common stock valued at
way to make this business work and $23.2 million.2 The terms of the acqui-
turn a profit, too. The budget variances sition included an agreement to employ
should provide some insights. Could McKinley for no fewer than five years
you do an analysis of the budget at an annual salary of $120,000.
variances?” The Berkshire Toy Company pro-
duces the Berkshire Bear, a fifteen-inch
BACKGROUND teddy bear enjoyed by children and
The Berkshire Toy Company was adult toy collectors around the world.
founded by Franklin Berkshire, Janet The company touts the handcrafted fea-
McKinley’s father, in 1974. Berkshire tures of the bear and advertises its
was an industrial artist who enjoyed product as the only teddy bear made in
making stuffed animals in his spare America. The bears are fully jointed,
time. His first creation, a teddy bear constructed of washable acrylic pile fab-
that he presented to Janet on her sev- ric, and stuffed with a polyester fiber
enth birthday, occupies a place of filling. The toys are dressed in various
honor at Berkshire Toy Company’s accessories, such as bow ties, sports jer-
headquarters. In 1974, Frank Berk- seys, or character and occupational cos-
shire acquired an old pneumatic pump tumes. Thus, the product can be per-
that had been used to fill life-jackets sonalized for numerous occasions. The
for the Navy during World War II. He Berkshire Bear is sold with an uncon-
modified the machine to mass produce ditional lifetime guarantee. In commu-
stuffed animals, and the Berkshire Toy nicating with customers, the company
Company was born. refers to its repair center as the “bear
The company started small at first, hospital.” A damaged bear may be re-
but grew quickly as Berkshire’s reputa- turned by the customer and repaired (or
tion for quality spread. By 1986, annual replaced, at the company’s discretion)
sales exceeded a million dollars for the free of charge.
first time. Janet McKinley had learned The Berkshire Toy Company’s 241
the business from the bottom up. She employees are organized into three
had started out with the company in the departments: purchasing, production,
mail room as a part-time summer em- and marketing. The purchasing depart-
ployee. As a college student, she had ment consists of David Hall, the pur-
spent summers and Christmas vacations chasing manager, and a staff of ten. The
working on the production floor, in the department is responsible for acquir-
sales department, and finally in the ac- ing and maintaining the supply of pro-
counting department. She was named duction materials. Bill Wilford man-
Assistant to the President in 1988 after ages 174 employees in the production
receiving her M.B.A.. department, where the manufacture
In 1991, at her urging, the com-
pany launched an initial public offer- 2 In a friendly acquisition, the terms of the ex-
ing (IPO) of common stock and became change are negotiated by the acquiring com-
publicly traded on the NASDAQ. Janet pany and the incumbent management of the
McKinley became CEO of the company target (acquired) firm. This method of merg-
ing two companies is quite different from a
on July 1, 1993 when her father re- “hostile takeover,” which is initiated by the
tired. On March 17, 1995, Berkshire acquiring company over the objections of the
Toys was acquired by the Quality Prod- target’s incumbent management.
286 Issues in Accounting Education
and assembly of the product takes In the next stage of production, op-
place. The marketing department is erators of industrial sewing machines
headed by Rita Smith. She is respon- construct the six parts of the finished
sible for all aspects of marketing and unit: two arms, two legs, the head, and
she supervises the nine sales clerks and the torso. Each piece is sewn inside-
42 sales representatives that make up out and then turned right-side-out for
Berkshire’s sales force. The remaining assembly. Sewing is the most labor-in-
three employees are McKinley, her sec- tensive phase of the production pro-
retary, and her secretary’s assistant. cess. Any additional sewing steps, such
as appliqués5 or monograms, require
Production additional production time.
Production begins with a large In the next step, two optical-grade,
press that cuts the acrylic pile fabric acrylic eyes are attached to the head
into the required pattern pieces. The with plastic rivets. If the rivet posts are
press-cutter machine applies 23,000 too short, the eyes may fall off later. If
pounds per square inch of pressure to the rivet posts are too long, the eyes
a tray of pattern stainless steel dies3 will stand out from the head, giving a
that are stamped into the fabric. The nonstandard appearance. Eye color is
bolts4 of fabric are rolled out and lay- also somewhat important. Acrylic eyes
ered on the cutting table. The fabric is are purchased from vendors in “dark
measured at this time for length and brown,” but the exact shade may vary
width and inspected for fabric flaws, from supplier to supplier. Defects are
tears, and soiled areas. Fabric flaws not discovered until the eyes are used
create waste. Shortages in length or in production. At that point, defective
width may require a different cutting eyes are discarded and replaced with
set-up and increase fabric waste. Ad- ones that meet specifications.
ditional cutting set-ups increase pro- After the cut pieces have been sewn
duction time. The press-cutter ma- together and eyes attached, the
chine cuts 14 layered bolts at a time, company’s unique pneumatic stuffing
enough for 588 units. The machine pro- machine6 is used to blow the polyester
duces a clean, crisp, cut edge that will fiber filling into the unassembled parts.
not fray or ravel.
The fabric is also inspected for
3 Dies are heavy-duty, three-dimensional pat-
trueness of color. The Berkshire Bear
terns used to cut the fabric into parts for the
is advertised as a honey bear. Thus, bear. Dies function in a manner similar to
fabric dye lots are important for match- cookie cutters.
ing shades of brown. The toy animal is 4 Fabric is shipped from the manufacturer
available also in off-white and dark wrapped around a cylindrical core or “bolt.”
A standard bolt of fabric is ten yards long and
brown. Off-color fabric must be 72 inches wide.
scrapped or returned to the supplier. 5 Appliqués are descriptive or ornamental fea-
Because the toy is designed to be wash- tures made from contrasting materials that
able, the fabric must be colorfast. Berk- are applied to the outside surface of the bear.
The alligator emblem used by Izod on sweat-
shire obtains the most economical price ers and polo shirts is a common example of
for specified colors by timing its fabric an appliqué. Another example is an identify-
orders with the production runs of its ing patch applied to pockets of uniforms bear-
suppliers. Rush orders almost always ing the employer’s name and logo.
6 Berkshire Toy Company adapted technology
increase substantially the price of the used by the Navy. The stuffing machine is
required fabric. not patented.
Crawford and Henry 287
Except for two replacements of the the employees and to safeguard the
electric motor and a new power cord, production equipment. The company
this is the same machine that Franklin has taken several steps to control the
Berkshire acquired from Navy surplus fibers. First, an air filtration system
in 1974. Bags of filling are loaded into works constantly to remove dust and
the machine hopper and mechanically fibers from the factory. Second, produc-
fluffed to the proper loft.7 An operator tion employees wear dust masks while
places the empty arm, leg, body, or they are working with fabric or filling.
head over a stationary nozzle and uses Finally, regular cleaning and mainte-
a foot pedal to control the flow of fill- nance of the sewing, cutting, and stuff-
ing. The machine operator judges ing machines is performed to prevent
whether the part has been filled cor- the fibers from building up.
rectly. Too little filling affects the firm- Maintenance is especially impor-
ness of the bear; too much filling is tant for the sewing machines. Machine
unnecessary and expensive. Inferior oil and static electricity attract pile
grade fiber filling is less expensive but fabric lint. Lint buildup can cause lines
can cause clumping and clogging in the of stitches that are uneven and seams
hopper. When this happens, produc- that do not hold. The Berkshire Bear
tion is interrupted and the operator workmanship is guaranteed for life.
must unclog the vacuum hose and re- Burst seams require rework during the
set the machine. production phase and during the life-
Next, the arms, legs, and head are time of the product.
attached to the torso using three-part, All production employees are paid
snap-on, hard plastic disc joints. The a regular wage for a 40-hour work
disc joints allow the head and limbs to week. They receive their regular wage
rotate and eliminate the need for sewn plus an overtime premium of one-half
attachment. The plastic joints are de- the regular wage rate for overtime. The
signed to be foolproof in production and cost of fringe benefits and employer
dependable for the life of the product. taxes, such as social security, health
However, the joints cannot be removed insurance, and vacation time, adds
without destroying them. Occasionally, 20.55 percent to the cost of labor. The
after initial joint insertion, the parts employees’ regular wages are charged
do not fit together properly and they to direct labor. The overtime premium
must be removed and replaced. and the fringe benefits are carried as
At the end of the construction pro- variable overhead costs.
cess, a woven satin label that states
“Made in America by the Berkshire Toy Marketing
Company” is attached to the back of Marketing of the product takes
each bear. More polyester filling is place at the retail level via catalogue
stuffed into the torso and the back seam sales and in the company’s retail store
is hand-stitched, using essentially the
same “shoelace” procedure practiced by 7 Fiber filling is a loose material. Two pounds
surgeons. Each seam is brushed by of bagged filling occupy approximately one
hand to give the bear a seamless look. cubic foot of space. The filling is loaded manu-
The production process is a continu- ally into a metal bin or “hopper.” Rotating
ous source of airborne polyester and sets of fork-like tines separate the strands of
filling and increase the volume by incorpo-
acrylic fibers that must be controlled, rating air. The proper mixture of air and fill-
both to protect the health and safety of ing is the “loft.”
288 Issues in Accounting Education
adjacent to the factory. Retail factory store, have been closed in pre-
Internet sales are a new addition to vious years.
the overall marketing effort. The
company also sells wholesale to de- The Accounting Problem
partment stores, toy boutiques, and “I think I know what some of the
other specialty retailers. The product problems are, but I would like a de-
can be delivered by two-to-five-day tailed analysis that provides confirma-
ground service, next-day air, or holi- tion from our accounting data,”
day express. The customer pays the McKinley continues.
insurance and delivery charges. “Did inventory change much?” you
Berkshire promises same or next-day ask.
shipment. Most orders are shipped “It’s pretty negligible. Our peak sell-
the same day as received. ing time is from Christmas to Mother’s
When the company receives a Day, so we don’t have much on hand at
customer’s order, an employee takes a the June 30 year-end. We started last
bear of the requested color and dresses year with almost nothing and it was all
it according to the customer’s wishes. we could do to keep up with demand, so
Then the bear is packaged with a pro- we ended up with almost nothing as
tective air bag and complimentary well.” You jot down a note to ignore
piece of chocolate candy, and shipped changes in raw materials and finished
in a designer box. The designer box goods inventories and to assume that
contributes to the product image. It is production volume equals sales volume.
reminiscent of the packaging used for “Didn’t you put a new incentive
a famous-name cologne and intended compensation plan in place this year?”
to lend an air of status and exclusivity “As a matter of fact, we did. Per-
to the product. The box is also impor- haps it was a factor in what happened
tant to toy collectors who expect to pay this year.”
or receive a price premium in the sec- The new incentive compensation
ondary market for items that are in plan was adopted effective July 1, 1997.
“mint-in-box” condition. Producing the Under this plan, each of the three de-
box is a custom job involving a box partment heads is rewarded based on
manufacturer and a printing company. the performance of his or her responsi-
The unit cost of the box decreases with bility center. Performance is measured
the size of the order that the company against the company’s master budget
places with the manufacturer. Rush and its standard cost system. The plan
orders are more costly than normal was the result of several meetings with
orders. In July 1997, the purchasing McKinley and her managers who ar-
manager placed an order for enough gued and bargained for a plan that re-
boxes to cover budgeted sales in the warded the managers fairly for indi-
coming year. vidual contributions and achievements.
Berkshire’s policy on sales commis- McKinley’s plan was intended to pro-
sions has remained stable over the past mote participation and teamwork and
several years. Commissions of 3 percent the managers accepted the new pro-
are paid on retail store sales and sales gram enthusiastically. The plan pro-
to wholesale buyers. No commissions vides for the following:
are paid on catalog sales. The company- • David Hall, the purchasing man-
owned retail outlets have proved un- ager, will receive a bonus equal to
profitable, so all of them, except for the 20 percent of the net materials
Crawford and Henry 289
The expected distribution of 85 percent retail and 15 percent wholesale was based on the
company’s experience in prior years. Thus, the budgeted average selling price was $46.45.
Actual sales for the year were as follows:
Retail and catalog 174,965 units × $49.00 = $ 8,573,285
Internet 105,429 units × $42.00 = 4,428,018
Wholesale 45,162 units × $32.00 = 1,445,184
Total 325,556 units $14,446,487
TABLE 2
Berkshire Toy Company
A Division of Quality Products Corporation
Direct materials
Acrylic pile fabrica 0.02381 bolts $35.00/bolt $ 0.8333
10-mm acrylic eyes 2 eyes $0.19/eye 0.3800
45-mm plastic joints 5 joints $0.14/joint 0.7000
Polyester fiber filling 0.90 lbs. $1.45/lb. 1.3050
Woven label 1 label $0.05/each .0500
Designer box 1 box $0.24/each .2400
Accessoriesb various .1200
Total direct materials 3.6283
Direct labor
Sewing 0.50 hours
Stuffing and cuttingc 0.30 hours
Assembly 0.30 hours
Dressing and packaging 0.10 hours
Total direct labor 1.20 hours $8.00/hour 9.6000
16.9651
$19.3291
a One bolt of fabric is 10 yards long by 72 inches wide. Fabric for 42 finished units can be cut from
one bolt.
b The cost of accessories varies from 7 cents per unit for a bow tie to 45 cents per unit for fisherman’s
gear. The standard of 12 cents per unit reflects the historical assortment of accessories chosen by
customers.
c Less than 0.01 hour per unit is spent cutting the fabric. Therefore, hours spent in the cutting
operation are not separately recorded. They are included with hours spent operating the pneu-
matic stuffing machine because both operations are usually performed by the same employees.
d Variable and fixed overhead are allocated to production on the basis of standard direct labor hours
allowed. Standard amounts are computed at normal capacity of 280,000 units. Maximum practical
capacity is 350,000 units of production attainable in consideration of planned maintenance and
scheduled down time for holidays. Normal capacity is the long-run average productive output that
smoothes out seasonal, cyclical, and other variations in customer demand.
292 Issues in Accounting Education
TABLE 3
Berkshire Toy Company
A Division of Quality Products Corporation
Direct labor
Sewing 189,211 hours
Stuffing and cutting 104,117 hours
Assembly 121,054 hours
Dressing and packaging 34,615 hours
Total direct labor 448,997 hours $8.1700/hour 3,668,305
Overtime premium 103,787 hours $4.0850/hour 423,970
Other variable manufacturing overhead 1,301,695b
a The actual input price for accessories is derived by dividing the actual cost of $66,013 by units sold
(325,556), yielding an average accessories cost of $0.20277 per bear.
b The actual input price for variable overhead is obtained by dividing the total variable overhead
($1,301,695 + $423,970) by actual direct labor hours worked, yielding a price or rate of $3.843377
per direct labor hour.
Crawford and Henry 293
TABLE 4
Berkshire Toy Company
A Division of Quality Products Corporation
Variable overhead:
Payroll taxes and fringes $ 840,963 $524,846 $467,967 $413,937 $356,150
Overtime premiums 423,970 24,665 2,136 1,874 1,965
Cleaning supplies 4,993 6,842 6,119 5,485 4,996
Maintenance labor 415,224 256,883 232,798 244,037 216,142
Maintenance supplies 27,373 15,944 12,851 15,917 14,323
Miscellaneous 13,142 11,244 9,921 8,906 7,794
Total $1,725,665 $840,424 $731,792 $690,156 $601,370
Fixed overhead:
Utilities $ 121,417 $119,786 $117,243 $116,554 $113,229
Depreciation—machinery 28,500 28,500 28,500 28,500 28,500
Depreciation—building 88,750 88,750 88,750 88,750 88,750
Insurance 62,976 61,716 57,211 55,544 54,988
Property taxes 70,101 70,101 68,243 68,243 66,114
Supervisory salaries 287,153 274,538 275,198 269,018 254,469
Total $ 658,897 $643,391 $635,145 $626,609 $606,050
TABLE 5
Berkshire Toy Company
A Division of Quality Products Corporation
1998 1997
Fixed expenses:
Salaries $2,734,868 $2,345,121
Advertising and promotion 2,288,324 2,086,021
Total $5,023,192 $4,431,142
294 Issues in Accounting Education