Frich Turbo Engine Company

6 Pages   |   1,565 Words

Table of Contents

Summary

The case study explains the efficiency of Mr. Fingold of Frich Turbo Engine Company who is responsible for company’s procurement. His excellent accounting skills and supplier’s production cost estimates makes him a real-time successful negotiator for prices. He always has had successful procurements being price efficient.
Right now the company has to purchase valves for which it has decided to take bids from potential suppliers. Mr. Fingold has estimated the cost which could be incurred by any company on average bases, which came out to be $ 1.74. Proposals were sent to eighteen companies out of which thirteen sent their prices in the first phase which came under the range of $1.84 to $2.08 per unit and some of them were $2.32 to $3.04. However two companies, the Bayfleet Machining Company, quoted a unit price of $1.23 and the Union Stamping Company, quoted $1.488. Mr. Fingold was surprised to see the quotations of both the companies being lower than his estimates.

Introduction

Mr. Fingold is a successful procurement Manager who always apply historical costs and accounting techniques to calculate a ‘base price’ for any of new procurement company intends to go for. This given him excellent negotiation skills and enables company to reap maximum profits. Now the company has to procure valves for the company’s engine. Once again he made his calculations for the base price for per unit of value which is to be procured. He gave Expression of Interests to eighteen different companies and got the price. Not surprisingly mast of the companies quoted prices which were falling in this window of estimation; though some of them were on the higher side. Surprisingly, two companies, Union Stamping Company and Bayfleet Machining Company quoted $ 1.488 and $ 1.23 respectively. Both the companies enjoy good reputation in the market and has got stable production line which makes Fingold amazed about the quoted prices which falls under his estimation window.

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Problem Statement

Out of eighteen companies, Nine of the supplier quoted prices between $ 1.84 and $ 2.08 per valve, where as other four companies showed $ 2.32 to $ 3.04. According to Fingold’s estimation, the unit price of valve must not be more than $ 1.74 in cost to the supplier. Surprisingly, two companies quoted lower prices than estimation, which are $ 1.448 and $ 1.23 by Union Stamping Company and Bayfleet Machining Company respectively. Both the companies have sounded no compromise on quality. This marks a question mark on Fingold’s projections and gives him an idea that the problem can put company in losses in future; therefore the problem should be identified in the projections.  

Data Analysis

Direct Material

Bayfleet Company shows the minimum sum in dollar terms for direct material which amounts to be $ 0.344. Whereas for Union Stamping and Mr. Fingold’s estimates for are relatively same for Direct Material which comes out to be $ 0.408 and $ 0.0448 respectively.
 

Subcontracted Parts

Only Bayfleet Machining Company has identified an expense of subcontracted parts which is $ 0.080. Both the other projection of Union Stamping and Mr. Fingold does not constitute subcontracted parts in their cost analysis.
 

Direct Labor

Once again Bayfleet Machining Company has projected the lowest of the direct labor to be a part of final cost. It amounts to be $ 0.288. Union Stamping gives $ 0.40 and Mr. Fingold projects it to be $ 0.344
 

Manufacturing Overheads, Tooling and General and Administrative expenses

Bayfleet shows a minimum manufacturing overhead once again; Mr. Fingolds estimate being on the highest of all the of the three projections - $ 0.516
Same happens with tooling and General and administrative expenses in which Bayfleet Machining company shoes minimum cost allocation.
 

Profit

Bayfleet is tends to exhibit keeping the lowest profit base for supplying the valves. It is keeping $ 0.045 where Union Stamping has projected $ 0.120 and Mr. Fingold’s estimations show it to be % 0.1276 per valve.
 
Alternative Scenarios in Mr. Fingold’s Estimates
 
Direct Material                                  $0.30
Direct Labor                                        $0.31
Manufacturing Overhead             $0.32
Tooling                                 $0.11
General and Admin                         $0.03
Profit                                                     $0.10
Selling Price                                       $1.17
 
Keeping the industrial averages, Fingold should be devising the above mentioned pricing. Also, there could be a difference in the projections is due to several factors involved, including automated machinery with Bayfleet Machinery, skilled labor and Economies of Scale, which distributes the large fixed cost over a number of units and thus reduces the cost of production. Also, some of the projections by Mr. Fingold are wrongly projected included Direct Labor and Selling and Administrative expenses.
 

Question 1: What factors might have caused the variance between Bayfleet's quotation and Mr. Fingold's estimate?  Between Bayfleet's quotation and Union's quotation?

 
Mr. Fingold is the procurement manager at Frich Turbo Engines who is about to get valves for engine by Expressions of Interests from thirteen companies. He uses the historical date of the company and estimates the cost that the supplier would have incurred. This gives him a comparative picture which helps in getting best prices. Till the time, Mr. Fingold is considered as a good procurement manager since his past analysis enabled him to negotiate on best terms with the suppliers. This time, out of thirteen, most of the supplier quoted prices which are near about manager’s estimates. But two companies, Bayfleet and Union Machiene company has quoted prices lower than his estimates. This puts a question to his prior procurements done on the same accounting principles that he used this time.
There could be many problems associated with this problem associated with Bayfleet and Union’s. First of all Mr. Fingold’s accounting principles seems to be outdated. This is because, he use past trends and figures which are not subject to giving reliable and accurate results in the end. Also, this accounting principle is not used in many parts of the world. Interest rates, currency exchange rates etc change on daily bases. On the other hand, many of the estimates are wrongly assumed by Mr. Fingold. First of all direct material is wrongly estimated. Also Selling and administrative expenses and over head expenses are not estimated on real and true ground. As a matter of fact, the cost could show a variance because both of the companies could be operating on economies of scale or want to sale out their excess capacity on low selling prices. There is variety of possibilities which could be involved.

Question 2: In the light of your previous answer to the above questions, what conclusions can you draw concerning: (a) the reliability and usefulness of cost estimates made by the buyer and (b) the value to be gained from comparison of one supplier's quotation with that of another? 
 

Mr. Fingold is a successful procurement manager who made good decision and saved company a lot in terms of negotiations from the supplier. He uses the past trends and historical prices to estimate the cost prices which could have incurred to the supplier and then negotiate. This time, the suppliers showed much lower prices than his estimates; direct posing a question to accuracy of his estimates. Also it puts a question to his prior procurement he did in the past based on same accounting principles. According to my point of view, the accounting principle and estimation technique used by Mr. Fingold is not reliable. This is because, the prices and industrial average’s matters a lot. Also the pricing strategy changes from company to company. What he should do is make pools and put companies in those pools on some known criteria and characteristics. This will give him a good insight for different companies falling under some criteria.
On the other hand, the difference in the prices also poses certain financial profits to the company as Bayfleet and Union Machine Company has shown lower selling price. Therefore the company should utilize the value that should be gained from low cost valves.

Recommendations

  1. Direct Labor cost is to be looked again, since many manufacturers tend to have automated systems for production which reduces man hours and reduce costs.
  2. Selling and administrative expenses tend to be on the lower side too; since office automations are an integral part of today’s business, therefore it should not be projected in such a manner.
  3. In such a competitive world, companies fight on prices by keeping possible lowest profit margin, which is exactly Bayfleet Machining Company is doing. This is the portion which also lacks in Mr. Fingold’s cost analysis of per unit of valve to be incurred.
  4. Historical prices in today’s time are not regarded as a novel accounting principle. Futuristic look has to be given as prices tend to be changing due to many exogenous and internal factors, for example inflation, interest rates, import or export duties etc.

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