Reference no: EM131600814

Problem -

Levin Ltd manufactures tractors for agricultural use. Levin purchases the engines need for its tractors from two sources: Jakeson Engines and Waikato Industrial Co. The Jakeson engine has a price of $1,000. The Waikato engine is $900 per unit. Levin produces and sells 22,000 tractors. Of the 22, 000 engines need for the tractors, 4000 are purchased from Jakeson Engines and 18,000 are from Waikato. The production manager, James Murray, prefers the Jakeson engine. However, Jan Booth, the purchasing manager, maintains that the price difference is too great to buy more than the 4000 units currently purchased. Booth also wants to maintain a significant connection with the Jakeson source just in case the less expensive source cannot supply the needed quantities. James, however, is convinced that the quality of the Jakeson engine is worth the price difference.

Frank Wallace, the financial controller, has decided to use the activity costing to resolve the issue. The following activity cost and supplier data have been collected:

Activity	Cost $
Replacing enginesa	800,000
Expediting ordersb	1,000,000
Repairing engines	1,800,000

^aAll units are tested after assemble and some are rejected because of engine failure. The failed engines are removed and replaced, with the supplier replacing any failed engine. The replaced engine is retested before being sold. Engine failure often causes collateral damage, and other parts often need to be replaced.

^bDue to late or failed delivery of engines.

^cRepair work is for units under warranty and almost invariably is due to engine failue. Repair usually means replacing the engine. The cost plus labour, transportation and other costs make warranty work very expensive.

	WAIKATO	JAKESON
Engines replaced by source	1,980	20
Late or failed shipment	198	2
Warranty repairs (by source)	2,440	60

Required:

1. Calculate the activity-based supplier cost per engine (acquisition cost plus supplier-related activity costs - round to the nearest cent). Which of the two suppliers is the low-cost supplier? Explain why this is a better measure of engine cost than the usual purchase costs assigned to the engines.

2. Consider the supplier cost information obtained in requirement 1. Suppose further that Jakeson can only supply a total of 20,000 units. What actions would you advise Levin to undertake with its suppliers?