Read about the Medford Mug Company. After reading the narrative work through the following questions.
Construct an Income Statement for the year ended 2017 and calculate the new Presidentâs bonus for 2017. Hint: Use the Income Statement pictures for year ending 2016 as an example and show the full statement.
1. Calculate the value of the ending inventory of mugs at the end of 2017. Please show all your work.
2. Take all of the factors into account and evaluate the performance of the new President at the end of his first year.
3. Did the new President do as good a job and the numbers in part (1) suggest?
Medford Mug Company
The Medford Mug Company is an old-line maker of ceramic coffee mugs. It imprints company logos and other sayings on mugs for both commercial and wholesale markets. The firm has the capacity to produce 50 million mugs per year, but the recession has cut production and sales in the current year to 15 million mugs. The accompanying table shows the operating statement for 2016.
MEDFORD MUG COMPANY
Income Statement
Year Ending 2016 ($ in Millions)
Sales (15 million @ $2)
$ 30.0
Less costs of goods sold
Variable cost (15 million @ $0.50)
(7.5)
Fixed cost
(20.0)
(27.5)
Gross margin
$ 2.5
Less selling and administration
(4.0)
Operating profit
$ (1.5)
At the end of 2016, there was no ending inventory of finished goods.
The board of directors is very concerned about the $1.5 million operating loss. It hires an outside consultant who reports back that the firm suffers from two problems. First, the president of the company receives a fixed salary, and because she owns no stock, she has very little incentive to worry about company profits. The second problem is that the company has not aggressively marketed its product and has not kept up with changing markets. The current president is 64, and the board of directors makes her an offer to retire one year early so that they can hire a new president to turn the firm around. The current president accepts the offer to retire, and the board immediately hires a new president with a proven track record as a turnaround specialist.
The new president is hired with an employment contract that pays a fixed wage of $50,000 a year plus 15 percent of the firmâs operating profits (if any). Operating profits are calculated using absorption costing. In 2017, the new president doubles the selling and administration budget to $8 million (which includes the presidentâs salary of $50,000). He designs a new line of âpolitically correctâ sayings to imprint on the mugs and expands inventory and the number of distributors handling the mugs. Production is increased to 45 million mugs, and sales climb to 18 million mugs at $2 each. Variable costs per mug remain at $.50 and fixed costs at $20 million in 2017.
At the end of 2017, the president meets with the board of directors and announces he has accepted another job. He believes he has successfully gotten Medford Mug back on track and thanks the board for giving him the opportunity. His new job is helping to turn around another struggling company.
Read about the Medford Mug Company. After reading the narrative work through the following questions.
Construct an Income Statement for the year ended 2017 and calculate the new Presidentâs bonus for 2017. Hint: Use the Income Statement pictures for year ending 2016 as an example and show the full statement.
1. Calculate the value of the ending inventory of mugs at the end of 2017. Please show all your work.
2. Take all of the factors into account and evaluate the performance of the new President at the end of his first year.
3. Did the new President do as good a job and the numbers in part (1) suggest?
Medford Mug Company
The Medford Mug Company is an old-line maker of ceramic coffee mugs. It imprints company logos and other sayings on mugs for both commercial and wholesale markets. The firm has the capacity to produce 50 million mugs per year, but the recession has cut production and sales in the current year to 15 million mugs. The accompanying table shows the operating statement for 2016.
| MEDFORD MUG COMPANY | ||
|---|---|---|
| Income Statement Year Ending 2016 ($ in Millions) | ||
| Sales (15 million @ $2) | $ 30.0 | |
| Less costs of goods sold | ||
| Variable cost (15 million @ $0.50) | (7.5) | |
| Fixed cost | (20.0) | (27.5) |
| Gross margin | $ 2.5 | |
| Less selling and administration | (4.0) | |
| Operating profit | $ (1.5) | |
At the end of 2016, there was no ending inventory of finished goods.
The board of directors is very concerned about the $1.5 million operating loss. It hires an outside consultant who reports back that the firm suffers from two problems. First, the president of the company receives a fixed salary, and because she owns no stock, she has very little incentive to worry about company profits. The second problem is that the company has not aggressively marketed its product and has not kept up with changing markets. The current president is 64, and the board of directors makes her an offer to retire one year early so that they can hire a new president to turn the firm around. The current president accepts the offer to retire, and the board immediately hires a new president with a proven track record as a turnaround specialist.
The new president is hired with an employment contract that pays a fixed wage of $50,000 a year plus 15 percent of the firmâs operating profits (if any). Operating profits are calculated using absorption costing. In 2017, the new president doubles the selling and administration budget to $8 million (which includes the presidentâs salary of $50,000). He designs a new line of âpolitically correctâ sayings to imprint on the mugs and expands inventory and the number of distributors handling the mugs. Production is increased to 45 million mugs, and sales climb to 18 million mugs at $2 each. Variable costs per mug remain at $.50 and fixed costs at $20 million in 2017.
At the end of 2017, the president meets with the board of directors and announces he has accepted another job. He believes he has successfully gotten Medford Mug back on track and thanks the board for giving him the opportunity. His new job is helping to turn around another struggling company.
Related questions
LO 2) Aston Corporation performs year-end planning in Novemberof each year before its calendar year ends in December. Thepreliminary estimated net income is $3 million. The CFO, RitaWarren, meets with the company president, J. B. Aston, to reviewthe projected numbers. She presents the following projectedinformation.
| ASTON CORPORATION PROJECTED INCOME STATEMENT FOR THE YEAR ENDED DECEMBER 31, 2017 | ||
|---|---|---|
Sales | $28,995,000 | |
Interest revenue | 5,000 | |
Cost of goods sold | $14,000,000 | |
Depreciation | ??2,600,000 | |
Operating expenses | ??6,400,000 | ?23,000,000 |
Income before income tax | 6,000,000 | |
Income tax | ??3,000,000 | |
Net income | $?3,000,000 | |
| ASTON CORPORATION SELECTED BALANCE SHEET INFORMATION AT DECEMBER 31, 2017 | |
|---|---|
Estimated cash balance | $?5,000,000 |
Available-for-sale debt investments (at cost) | ?10,000,000 |
Fair value adjustment (1/1/17) | â0â |
Estimated fair value at December 31, 2017:
Security | Cost | Estimated Fair Value |
|---|---|---|
A | $?2,000,000 | $?2,200,000 |
B | ??4,000,000 | ??3,900,000 |
C | ??3,000,000 | ??3,100,000 |
D | ??1,000,000 | ??1,800,000 |
Total | $10,000,000 | $11,000,000 |
Other information at December 31, 2017:
Equipment | $3,000,000 |
Accumulated depreciation (5-year SL) | 1,200,000 |
New robotic equipment (purchased 1/1/17) | 5,000,000 |
Accumulated depreciation (5-year DDB) | 2,000,000 |
The corporation has never used robotic equipment before, andWarren assumed an accelerated method because of the rapidlychanging technology in robotic equipment. The company normally usesstraight-line depreciation for production equipment.
Aston explains to Warren that it is important for thecorporation to show a $7,000,000 income before taxes because Astonreceives a $1,000,000 bonus if the income before taxes and bonusreaches $7,000,000. Aston also does not want the company to paymore than $3,000,000 in income taxes to the government.
Instructions
(a)
What can Warren do within GAAP to accommodate the president'swishes to achieve $7,000,000 in income before taxes and bonus?Present the revised income statement based on your decision.
(b)
Are the actions ethical? Who are the stakeholders in thisdecision, and what effect do Warren's actions have on theirinterests?
LO 2) Aston Corporation performs year-end planning in Novemberof each year before its calendar year ends in December. Thepreliminary estimated net income is $3 million. The CFO, RitaWarren, meets with the company president, J. B. Aston, to reviewthe projected numbers. She presents the following projectedinformation.
| ASTON CORPORATION PROJECTED INCOME STATEMENT FOR THE YEAR ENDED DECEMBER 31, 2017 | ||
|---|---|---|
Sales | $28,995,000 | |
Interest revenue | 5,000 | |
Cost of goods sold | $14,000,000 | |
Depreciation | ??2,600,000 | |
Operating expenses | ??6,400,000 | ?23,000,000 |
Income before income tax | 6,000,000 | |
Income tax | ??3,000,000 | |
Net income | $?3,000,000 | |
| ASTON CORPORATION SELECTED BALANCE SHEET INFORMATION AT DECEMBER 31, 2017 | |
|---|---|
Estimated cash balance | $?5,000,000 |
Available-for-sale debt investments (at cost) | ?10,000,000 |
Fair value adjustment (1/1/17) | â0â |
Estimated fair value at December 31, 2017:
Security | Cost | Estimated Fair Value |
|---|---|---|
A | $?2,000,000 | $?2,200,000 |
B | ??4,000,000 | ??3,900,000 |
C | ??3,000,000 | ??3,100,000 |
D | ??1,000,000 | ??1,800,000 |
Total | $10,000,000 | $11,000,000 |
Other information at December 31, 2017:
Equipment | $3,000,000 |
Accumulated depreciation (5-year SL) | 1,200,000 |
New robotic equipment (purchased 1/1/17) | 5,000,000 |
Accumulated depreciation (5-year DDB) | 2,000,000 |
The corporation has never used robotic equipment before, andWarren assumed an accelerated method because of the rapidlychanging technology in robotic equipment. The company normally usesstraight-line depreciation for production equipment.
Aston explains to Warren that it is important for thecorporation to show a $7,000,000 income before taxes because Astonreceives a $1,000,000 bonus if the income before taxes and bonusreaches $7,000,000. Aston also does not want the company to paymore than $3,000,000 in income taxes to the government.
Instructions
(a)
What can Warren do within GAAP to accommodate the president'swishes to achieve $7,000,000 in income before taxes and bonus?Present the revised income statement based on your decision.
(b)
Are the actions ethical? Who are the stakeholders in thisdecision, and what effect do Warren's actions have on theirinterests?
