Carmody Ltd sells 300 000 V262 valves to the car and truck industry. Carmody has a capacity of 110 000 machine-hours and can produce three valves per machine-hour. V262’s contribution margin per unit is €8. Carmody sells only 300 000 valves because 30 000 valves (10% of the good valves) need to be reworked. It takes one machine-hour to rework three valves so that 10 000 hours of capacity are lost in the rework process. Carmody’s rework costs are €210000. Rework costs consist of:
Direct materials and direct rework labour (variable costs) €3 per unit Fixed costs of equipment, rent and overhead allocation €4 per unit Carmody’s process designers have come up with a modification that would maintain the speed of the process and would ensure 100% quality and no rework. The new process would cost €315 000 per year. The following additional information is available:
• The demand for Carmody’s V262 valves is 370 000 per year.
• Clohisey has asked Carmody to supply 22 000 T971 valves if Carmody implements the new design. The contribution margin per T971 valve is €10. Carmody can make two T971 valves per machine-hour on the existing machine with 100% quality and no rework.
1. Suppose Carmody’s designers implemented the new design. Should Carmody accept Clohisey’s order for 22 000 T971 valves? Explain.
2. Should Carmody implement the new design?
3. What non-financial and qualitative factors should Carmody consider in deciding whether to implement the new design?