Reference no: EM132986926

Bits'n'Bikes Limited (BnB) manufactures hybrid bicycles which it sells to bicycle shops throughout New Zealand. BnB manufactures a variety of alloy bicycle frames and wheels in its manufacturing facility in the Hutt Valley, and then assembles bicycles using these frames and wheels, and other parts such as cables, seats, brake assemblies, pedals, chains, shifters and levers, speed-cassettes, and tyres, sourced from within New Zealand and overseas. It also sells these bicycle parts to bicycle shops, to allow them to carry-out bicycle repairs. A hybrid bicycle offers a compromise between a road and mountain bike. Compared to a mountain bike, they have a slicker tyre and larger wheels. They are comfortable, durable and easy to ride and made an ideal bicycle for city riding or smooth trails. BnB hybrid bicycles have a good reputation for quality and durability. The Managing Director, Penelope Pedal, and her business partner and Production Manager, Carlos Cleat wish to maintain this and agree that BnB's mission is "to provide top-quality hybrid bicycles at a competitive price." However, they are concerned that current profit levels are inadequate given the size of their investment in the business. Carlos considers the high inventory levels throughout the manufacturing facility a key problem, and wonders if there is not a better way to manage this inventory. Penelope is more concerned about the recent increase in the number of bicycles and other parts being returned for repair or replacement. She is beginning to question where the problems are happening and asks, "Is it within our manufacturing facility or is it an issue with our suppliers?"

• BnB use an 8-year old automated inventory order system based on the economic order quantity and pre-set reorder points to manage its inventory. However, over time the market for bicycles has changed and demand has become more uncertain. As Carlos explains: "More bicycles are sold in the summer months, except when there is lots of rain, but sales of bicycle parts are the strongest in Spring." In addition, he says, "technology has changed the way parts are ordered and how the warehouse operates." Recently Carlos has attended a business seminar about inventory management. The presenter, Professor Hunt, suggested that inventories are a wasted physical and financial resource, which adds no value to the firm and conceal inefficiencies and defects. He argued that: "It is a good idea to reduce inventory levels to a minimum or ideally zero so as to expose production inefficiencies and defects and reduce storage and obsolescence costs. He called it a Just-in-Time approach and stated that it had been successfully used in many manufacturing organisations, including some in New Zealand. Carlos suggests to Penelope that they should investigate this approach with a view to implementing it at BnB. Penelope is not sure that it is worth investigating. She exclaims "Given our quality problems, why are you worried about inventory?" Penelope looks at the data about the bicycles and other parts that have been returned for repair or replacement and notices that approximately 60% relate to brake failure. Another 25% relate to parts such as seats, pedals, chains, shifters and levers, and speed-cassettes, sourced from within New Zealand and overseas. Only 15% of the failures relate to the wheels and frames produced by BnB's manufacturing facility. Penelope concludes the issue must be with BnB's supplier management practices.

• Carlos explains that BnB have already investigated whether they need to change brake assembly suppliers. BnB produces 16,000 bicycles per annum. Each bicycle requires two brake assemblies - one per wheel. The procurement officer has compiled information on two prospective suppliers: Brake Supplies Ltd., located near to BnB's manufacturing plant in the Hutt Valley, and International Bicycle Parts, located in Auckland. Brake Supplies will charge $17.00 per brake assembly. BnB can collect them directly from the Brake Supplies manufacturing facility, as required, at a cost of ten cents ($0.10) per brake assembly. In exchange for a long-term supply contact, Brake Supplies is willing to provide a 100% defect-free quality-guarantee for the brake assemblies. Its contract would contain a penalty clause to ensure this and therefore BnB will incur no inspection costs, nor will it receive any poor-quality brake assemblies that need to be scrapped. International Bicycle Parts will charge $15.00 per brake assembly and will ship the brake assemblies from Auckland in box-lots of 100 at a cost of $14.00 per box. However, the brake assemblies from International Bicycle Parts come with no quality-guarantee or warranty. Based on prior experience, it is estimated that it will cost $0.75 to inspect each brake assembly and ensure that it is working properly. Further, 6% of the brake assemblies will be of poor quality and it is estimated that it will cost $4.00 per brake assembly to remove, replace, and then scrap them. Carlos and Penelope compare the two supplier's expected performance. Penelope concludes: "We should just use Brake Supplies Ltd., the local supplier. Although their price per unit is higher than International Bicycle Parts, I believe the advantages of establishing a long-term supply relationship, with a quality guarantee, outweigh the price differential. This approach would also help if we decide to implement Just-in-Time." Carlos is unsure, especially given BnB's current poor financial performance. He argues: "We should just focus on the financial costs of purchasing the brake assemblies and choose the supplier with the cheapest purchase price. This will keep our costs down and therefore will not impact negatively on profits. Despite much discussion, Penelope and Carlos cannot agree on whether they should implement a Just-in-Time approach to managing their inventory, or on which supplier they should use. They have come to you, their management accountant, for advice.

Required:

Problem (a) Calculate the total cost of ownership per brake assembly (i.e. per unit) and the Supplier Performance Index of the local supplier (Brake Supplies Ltd.) and the Auckland supplier (International Bicycle Parts.), and compare the relative performance of the two suppliers.

Problem (b) List the qualitative factors that should be considered by BnB in deciding which of the two prospective suppliers to use.

Problem (c) Explain what a Just-in-Time (JIT) approach is, point out the relationship between JIT and the EOQ model, and discuss the benefits and risks of BnB adopting a JIT operating strategy to manufacture hybrid bicycles.

Problem (d) Provide recommendations (stating reasoning) regarding which brake assembly supplier BnB should use and whether a Just-inTime approach to inventory management should be adopted based on answers to (a), (b) and (c) above