BendOR, Inc., manufactures control panels for the electronics industry and has just completed its first year of operations. The following discussion took place between the controller, Gordon Merrick, and the company president, Matt McCray: Matt: I’ve been looking over our first year’s performance by quarters. Our earnings have been increasing each quarter, even though our sales have been flat and our prices and costs have not changed. Why is this? Gordon: Our actual sales have stayed even throughout the year, but we’ve been increasing the utilization of our factory every quarter. By keeping our factory utilization high, we will keep our costs down by allocating the fixed plant costs over a greater number of units. Naturally, this causes our cost per unit to be lower than it would be otherwise. Matt: Yes, but what good is this if we are unable to sell everything that we make? Our inventory is also increasing. Gordon: This is true. However, our unit costs are lower because of the additional production. When these lower costs are matched against sales, it has a positive impact on our earnings. Matt: Are you saying that we are able to create additional earnings merely by building inventory? Can this be true? Gordon: Well, I’ve never thought about it quite that way… but I guess so. Matt: And another thing. What will happen if we begin to reduce our production in order to liquidate the inventory? Don’t tell me our earnings will go down even though our production effort drops! Gordon: Well… Matt: There must be a better way. I’d like our quarterly income statements to reflect what’s really going on. I don’t want our income reports to reward building inventory and penalize reducing inventory. Gordon: I’m not sure what I can do—we have to follow generally accepted accounting principles. In teams: Discuss why reporting income under generally accepted accounting principles “rewards” building inventory and “penalizes” reducing inventory. What are the alternative course of action to be done by the controller?

Essentials of Business Analytics (MindTap Course List)
2nd Edition
ISBN:9781305627734
Author:Jeffrey D. Camm, James J. Cochran, Michael J. Fry, Jeffrey W. Ohlmann, David R. Anderson
Publisher:Jeffrey D. Camm, James J. Cochran, Michael J. Fry, Jeffrey W. Ohlmann, David R. Anderson
Chapter8: Time Series Analysis And_forecasting
Section: Chapter Questions
Problem 21P: The president of a small manufacturing firm is concerned about the continual increase in...
icon
Related questions
Question

BendOR, Inc., manufactures control panels for the electronics industry and has just completed its first year of operations. The following discussion took place between the controller, Gordon Merrick, and the company president, Matt McCray:

  • Matt: I’ve been looking over our first year’s performance by quarters. Our earnings have been increasing each quarter, even though our sales have been flat and our prices and costs have not changed. Why is this?

    Gordon: Our actual sales have stayed even throughout the year, but we’ve been increasing the utilization of our factory every quarter. By keeping our factory utilization high, we will keep our costs down by allocating the fixed plant costs over a greater number of units. Naturally, this causes our cost per unit to be lower than it would be otherwise.

    Matt: Yes, but what good is this if we are unable to sell everything that we make? Our inventory is also increasing.

    Gordon: This is true. However, our unit costs are lower because of the additional production. When these lower costs are matched against sales, it has a positive impact on our earnings.

    Matt: Are you saying that we are able to create additional earnings merely by building inventory? Can this be true?

    Gordon: Well, I’ve never thought about it quite that way… but I guess so.

    Matt: And another thing. What will happen if we begin to reduce our production in order to liquidate the inventory? Don’t tell me our earnings will go down even though our production effort drops!

    Gordon: Well…

    Matt: There must be a better way. I’d like our quarterly income statements to reflect what’s really going on. I don’t want our income reports to reward building inventory and penalize reducing inventory.

    Gordon: I’m not sure what I can do—we have to follow generally accepted accounting principles.

In teams:

  1. Discuss why reporting income under generally accepted accounting principles “rewards” building inventory and “penalizes” reducing inventory.

  2. What are the alternative course of action to be done by the controller?
Expert Solution
trending now

Trending now

This is a popular solution!

steps

Step by step

Solved in 3 steps with 3 images

Blurred answer
Knowledge Booster
Pricing Decisions
Learn more about
Need a deep-dive on the concept behind this application? Look no further. Learn more about this topic, accounting and related others by exploring similar questions and additional content below.
Similar questions
  • SEE MORE QUESTIONS
Recommended textbooks for you
Essentials of Business Analytics (MindTap Course …
Essentials of Business Analytics (MindTap Course …
Statistics
ISBN:
9781305627734
Author:
Jeffrey D. Camm, James J. Cochran, Michael J. Fry, Jeffrey W. Ohlmann, David R. Anderson
Publisher:
Cengage Learning
Managerial Accounting: The Cornerstone of Busines…
Managerial Accounting: The Cornerstone of Busines…
Accounting
ISBN:
9781337115773
Author:
Maryanne M. Mowen, Don R. Hansen, Dan L. Heitger
Publisher:
Cengage Learning
Cornerstones of Cost Management (Cornerstones Ser…
Cornerstones of Cost Management (Cornerstones Ser…
Accounting
ISBN:
9781305970663
Author:
Don R. Hansen, Maryanne M. Mowen
Publisher:
Cengage Learning
Principles of Accounting Volume 2
Principles of Accounting Volume 2
Accounting
ISBN:
9781947172609
Author:
OpenStax
Publisher:
OpenStax College