Performance Edge (PE) is a consulting company with offices in all major Canadian cities; its corporate headquarters are in Hamilton, Ontario. The company specializes in developing employee reward and recognition programs for its clients, which range from manufacturing companies to reservation centres for hotel chains. One of the most popular programs developed by PE involves working with its clients’ management teams to establish performance goals for employees.
Once the performance goals are established, PE develops a reward program whereby employees receive points instead of cash for attaining the goals set by management. The more difficult the goal, the greater the number of points received by the employee for goal attainment. The points can be redeemed for prizes such as bicycles; barbecues; computers; cameras; vacations; and gift certificates to restaurants, clothing and jewellery stores, and so on. PE has developed a catalogue of prizes that is distributed to employees so that they can see what they will be able to redeem their points for should they attain their performance goals for the period.
As part of the service offered to its clients, PE maintains an inventory of the prizes that can be purchased by its clients’ employees with their points. PE purchases the prizes directly from manufacturers and wholesalers but maintains a reasonably large inventory of most items offered in its catalogue to ensure that they are available to clients on a timely basis. The inventory is kept in a warehouse at Stoney Creek, a community that is part of the city of Hamilton.
The warehouse was purchased several years ago, and PE has grown considerably since then. Indeed, in recent months, delays have occurred in getting prizes to some clients because the warehouse is no longer large enough to maintain sufficient quantities of all items. About a month ago, Reg White, the facilities manager at PE, became aware of a larger warehouse in nearby Burlington that is available for a long-term lease.
The lease would qualify as an operating lease, so the monthly lease payments would be expensed. Although the ware- house in Burlington is larger than the current facility in Stoney Creek, White estimates that the utility costs will be lower because it is more modern and energy efficient. Another benefit of moving to the new warehouse will be that PE won’t have to pay property taxes or building insurance since it won’t own the building. Also, because the new warehouse is larger than PE currently requires to maintain an adequate inventory of prizes, it will be able to sublet about 15% of the total space to another tenant, at least for the next few years until it needs to take over the entire facility.
White also believes that it shouldn’t be too hard to sell the existing warehouse in Stoney Creek based on conversations he has had with a commercial property real estate agent who already has clients interested in making an offer. Because the existing warehouse isn’t yet fully depreciated, White also thinks that selling it will help PE’s bottom line because the company will no longer have to charge the depreciation expense to the income statement. Another benefit of selling the existing warehouse is that PE will no longer incur the maintenance and repair costs, or the salary of the building maintenance manager, who will be let go if the company decides to rent the new facility.
Maintenance costs of the new warehouse will be paid by the building’s owner, unless the repairs are the result of damage caused by PE, in which case PE will be responsible for the costs. White thinks that insurance on the inventory of prizes and the costs of security personnel on-site 24/7 will not change if PE decides to move to the new warehouse. One drawback in selling the existing warehouse is that PE will no longer earn the operating income associated with the small parking lot it had on one corner of the property. PE rented parking spaces to employees of a business on an adjacent property that did not have its own parking. Net of the annual costs of maintaining the parking lot (snow removal, repairs, security cameras, etc.), PE made a small operating profit each year.
1. Identify the differential revenues and costs related to keeping the existing warehouse in Stoney Creek versus renting the new facility in Burlington.
2. Are there any opportunity costs associated with selling the old warehouse?
3. What kind of cost is the depreciation expense on the old warehouse? Should it be considered in deciding whether to stay in the existing location or rent the new facility? Why or why not?

  • CreatedJuly 08, 2015
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