The Thomas Corporation sells 300,000 V262 valves to the automobile and truck industry. Thomas has a capacity of
110,000 machine-hours and can produce 3 valves per machine-hour. V262’s contribution margin per unit is $8. Thomas sells only 300,000 valves because 30,000 valves (10% of the good valves) need to be reworked. It takes 1 machine-hour to rework 3 valves, so 10,000 hours of capacity are used in the rework process. Thomas’s rework costs are $210,000. 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
Thomas’s process designers have developed a modification that would maintain the speed of the process and ensure 100% quality and no rework. The new process would cost $315,000 per year. The following additional information is available:
◆ The demand for Thomas’s V262 valves is 370,000 per year.
◆ The Jackson Corporation has asked Thomas to supply 22,000 T971 valves (another product) if Thomas implements the new design. The contribution margin per T971 valve is $10.
Thomas can make two T971 valves per machine-hour with 100% quality and no rework.
1. Suppose Thomas’s designers implement the new design. Should Thomas accept Jackson’s order for 22,000 T971 valves? Show your calculations.
2. Should Thomas implement the new design? Show your calculations.
3. What nonfinancial and qualitative factors should Thomas consider in deciding whether to implement the new design?