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John Gillis and Alex James are production managers in the Consumer Electronics Division of National Electronics Company, which has several dozen plants scattered in locations throughout the world. Alex manages the plant located in Boise, Idaho, while John manages the plant in Seattle, Washington. Production managers are paid a salary and get an additional bonus equal to 5% of their base salary if the entire division meets or exceeds its target profits for the year. The bonus is determined in March after the company’s annual report has been prepared and issued to stockholders.
Shortly after the beginning of the new year, Alex received a phone call from John that went like this:
John: How’s it going, Alex?
Alex: Fine, John. How’s it going with you?
John: Great! I just got the preliminary profit figures for the division for last year and we are within
$200,000 of making the year’s target profits. All we have to do is pull a few strings, and we’ll be
over the top!
Alex: What do you mean?
John: Well, one thing that would be easy to change is your estimate of the percentage completion of your ending work in process inventories.
Alex: I don’t know if I can do that, John. Those percentage completion figures are supplied by Ron Leslie, my lead supervisor, who I have always trusted to provide us with good estimates. Besides, I have already sent the percentage completion figures to corporate headquarters.
John: You can always tell them there was a mistake. Think about it, Alex. All of us managers are doing as much as we can to pull this bonus out of the hat. You may not want the bonus check, but the rest of us sure could use it.
The final processing department in Alex’s production facility began the year with no work in process inventories. During the year, 210,000 units were transferred in from the prior processing department and 200,000 units were completed and sold. Costs transferred in from the prior department totaled $39,375,000. No materials are added in the final processing department. A total of $20,807,500 of conversion cost was incurred in the final processing department during the year.
- Ron Leslie estimated that the units in ending inventory in the final processing department were 30% complete with respect to the conversion costs of the final processing department. If this estimate of the percentage completion is used, what would be the Cost of Goods Sold for the year?
- Does John Gillis want the estimated percentage completion to be increased or decreased? Explain why.
- What percentage completion would result in increasing reported net operating income by $200,000 over the net operating income that would be reported if the 30% figure were used?
- Do you think Alex James should go along with the request to alter estimates of the percentage completion? Why or why not?