Question: Scott Higgins the new plant manager of Old State Manufacturing

Scott Higgins, the new plant manager of Old State Manufacturing Plant Number 7, has just reviewed a draft of his year- end financial statements. Higgins receives a year- end bonus of 11.5% of the plant’s operating income before tax. The year- end income statement provided by the plant’s controller was disappointing to say the least. After reviewing the numbers, Higgins demanded that his controller go back and “work the numbers” again. Higgins insisted that if he didn’t see a better operating income number the next time around he would be forced to look for a new controller. Old State Manufacturing classifies all costs directly related to the manufacturing of its product as product costs. These costs are inventoried and later expensed as costs of goods sold when the product is sold. All other expenses, including finished goods warehousing costs of $ 3,630,000, are classified as period expenses.
Higgins had suggested that warehousing costs be included as product costs because they are “definitely related to our product.” The company produced 220,000 units during the period and sold 190,000 units. As the controller reworked the numbers, she discovered that if she included warehousing costs as product costs, she could improve operating income by $ 495,000. She was also sure these new numbers would make Higgins happy.

1. Show numerically how operating income would improve by $ 495,000 just by classifying the preceding costs as product costs instead of period expenses.
2. Is Higgins correct in his justification that these costs “are definitely related to our product.”
3. By how much will Higgins profit personally if the controller makes the adjustments in requirement 1?
4. What should the plant controller do?

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  • CreatedJanuary 15, 2015
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