Danshui Plant No. 2 Case Solution And Analysis, HBR Case Study Solution & Analysis of Harvard Case Studies

1. Situation:

This report presents an analysis of a case where plant manager of Danshui (DC), a Chinese company, Wentao Chen (WC), is worried over variances observed (actual results obtained versus budget developed) in respect of its contract with Apple for assembling 2.4 million units of iPhone 4.

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The contract period is of 12 months, beginning from June 2010 and just after three months, by August 2010, DC have to revisit. Monthly production target for DC is 200,000 units but three months study reflects that DC may not meet this target in 12 moths and would also overrun the cost barrier thus landing in an unprofitable situation. Plant controller, Jianye Ma (JM) also presented WC her analysis for August production.

2. Questions to be answered:

- Using budget, how many iPhone 4 are required for breakeven.

- Using budget, what is expected cost/unit (for planned production) & actual cost/unit (for production & shipping).

- For August, prepare a flexible budget for 180,000 units and its variance from actual costs.

- Estimate variances in material price, usage for memories, labour rate, labour usage & overheads spending.

3. Hypothesis:

It is expected that the contract price should be raised in order to be profitable as variances observed in the analysis suggest cost overruns and lack of production handling & control while damages are also observed in material handling. Thus DC is expected to cover efficiency of its production while reducing loss / damages to materials.

4. Evidence for hypothesis:

For the purpose of calculation, please refer calculations done in excel sheet.

Using budget, how many iPhone 4 are required for breakeven:

The calculations performed in excel sheet, specifies that based on the budget figures the target monthly production required to meet a breakeven point for the contract is 176,087 units. For the purpose of reaching a breakeven level, DC have to meet its monthly budgeted fixed cost of $729,000 in addition to the variable charges attached to production of 176,087 units. Breakeven has been calculated based on $206.2 budgeted sales price (per unit) and $202.06 budgeted variable cost per unit.

Using budget, what is expected cost/unit (for planned production) & actual cost/unit (for production & shipping).

Based on budget, per unit total cost for production of 200,000 units as per plan, is $207.71 per unit, whose calculation is shown in the excel sheet. This total per unit cost is a combination of $203 as variable cost, which does not include shipping cost. Shipping cost is $1.06 per unit and further fixed cost per unit amounts to $3.65 per unit. Thus total per unit cost reaches up to $207.71 per unit. Another calculation done based on actual production of 180,000 units, reflects a total cost to be $211.93 per unit, which is a combination of $206.78 per unit of actual variable cost, $1.06 per unit of actual shipping and $4.09 per unit of actual fixed cost. Thus both variable and fixed costs rose in actual as compared to budgeted data increasing total cost per unit by $4.23 per unit based on production issues and damages of flash memories

Excel based calculations show a flexible budget developed for 180,000 units produced in August 2010, which is based on variable cost and fixed costs per unit. A further addition of $2 per unit is made on behalf of increased sales price as well as cost price of flash memories, along with 30% increase in labour cost. Actual costs of 180,000 units (in August 2010) and the flexible budget for 180,000 units are also compared for determining variances from budgeted predictions. Few items showed no variances whereas there were positive and negative variances observed in certain cost items.

Items which did not changed from budget includes revenues, cost of application processor (from Samsung), cost of phone calls chip (from Infinion) and cost of Gryoscope (from STMicroelectronics). Revenue is assumed to be unchanged as the rise of flash memory cost is adjusted in sales price and hence the net impact is zero. However variance observed in flash memories was due to damage of flash memories, which is discussed below. Positive change was observed in cost of 8 other chips, as the cost of these chips reduced by $0.71 per unit allowing DC to fetch savings of $128,000 in cost. This is a huge positive impact as it allowed DC to turn cost of total material in to a net position of positive variance. Negative variances included areas where cost rose in Flash memory (from Samsung), cost hike in variable supplies and tools, rise in labour cost and supervision cost.

Negative variance in flash memory is due to damage of 1,000 units of flash memories during the month of August 2010. This in turn resulted in higher cost incurred for producing 180,000 which is a negative change solely because of usage variance. Simultaneously, August 2010 variance was studied by JM as well (Exhibit 3 of case) but she failed to recognised the concept of flexibility in cost per unit for 180,000 units and just compared budget for 200,000 units with actual data of 180,000 units, which caused an issue in her analysis. This area is also highlighted in the calculations which shows a variance analysis of “budget versus flexible” done by our calculation and variance analysis of “budget versus actual” done by JM and these two variance analysis are further compared in order to find the issue in JM’s analysis......

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