Background: Danshui was a contract manufacturer assembling electronic products in southern China. There were many manufacturers like Danshui in China assembling parts for the companies wishing to save labor costs. Apple contracted with Danshui to assemble 2.4 million iPhones in Plant No.2 with the expected high demand of this product in 2010. As a profit center, Plant No.2 was credited for each iPhone produced and shipped. The process of assembling was complex and required almost entirely based on handwork for more than 100 components. Danshui was confident of its workers to adapt the new tasks and extra workers could be hired and trained as needed. The iPhone 4 was the most successful product of Apple as more than 1.7 million units were sold in the first 3 days they were launched. However, the plant was operating at a loss because of the underproduction.
Consequently, the controller of this plant considered preparing the new budget showing using a flexible budget system to identify what went wrong in their operations that contribute to the performance problems. Problems and issues: The plant has 2 big problems in terms of budgeting system and labor force. Firstly, they were in unfavorable performance by using standard budgeting system. They were unable to meet the Apple contract, which was shortage 10% from the 200,000 targeted units, resulting in the loss of $672,000 rather than the profit of $100,000. Actually, the plant was using the standard costing system to evaluate their performance, but it was not appropriate because the comparative quantities were different (180,000 and 200,000 units). That means the total standard costs would be overstated compared to the total actual costs. Consequently, the activities under the standard costing system were all overstated efficiency, leading to the unfavorable net income.
Secondly, the lack of qualified labor force also contributed to this problem. As the assembly of iPhone 4 was extremely complex, this would be higher chances of errors as the assembly process was handled by different workers with different skills and working styles. This will indirectly cause a lot wastes in term of cost and time due to the carelessness and the lack of skill of the workers. The burden of the supervisors must be increased as they must learn before guiding the workers, who were almost semiskilled. Although the plant had raised the wages to 30%, they still could not increase the number of labor force needed, which also contributed to the underproduction. On the other hand, as the production line was based on handwork, the damage of 1000 flash memories in installation was unavoidable. Thus, the actual output must be 181,000 units instead of 180,000 units in their report.
The replacement of the wastage had increased the cost that had led to the unfavorable variance of $389,000. When the reckless jobs had been done, the workers must use the new tools and supplies, resulting in the increase of the production costs and cause an unfavorable performance. Recommendations: For the short term, I recommend Danshui to change from using the standard costing system to the flexible budget system for performance evaluation purpose. By using the flexible budget will help them to compare results with adjustable budget and the variance analysis will be more accurate. This system also proves the unfavorable performance caused by the variance from variable costs of $1,041,200, which can analyze and evaluate the weaknesses in controlling the variable cost which is flash memories, assembly and packaging expenses. For the long term period, they have to overcome the disadvantages from the labor forces. First of all, the plant should improve their salary policy.
I recommend that they should motivate workers by setting a basic salary and offering bonus if they complete their jobs well. Secondly, the plant should provide professional training for labors. Through training, the labors can learn how to handle with care on the parts to avoid the wastage that will happen. This solution also assists managers to place the correct labor at the correct assembly parts to reduce the labor hours but still save the materials. Thirdly, the plant could hire more skilled supervisors who will able to response to the problems arises and know how to motivate the labor to achieve the goal.
Case | HBS Case Collection | August 2012
Danshui Plant No. 2
by William Bruns, Julie H. Hertenstein and Kelvin Liu
Danshui Plant No. 2 in southern China has a one-year contract with Apple Inc. to assemble 2.4 million iPhones. In the first three months of the contract, the plant is unable to assemble as many phones as expected and is operating at a loss. The plant manager must analyze the budget and prepare a summary of monthly operations to help identify the source of performance problems. The plant has had difficulty hiring enough workers despite raising wages over 30%. In addition, the assembly process for an iPhone is complicated, with 140 steps involving over 100 components. The plant manager considers whether a flexible budget would be more useful for uncovering problems than the static budget currently being used. Students must perform breakeven and flexible budget analyses and calculate price and usage variances as they consider solutions for the plant's problems with the iPhone contract. This case, which explores the challenges of outsourcing manufacturing, can be used as an introduction to managerial accounting.
Keywords: Job Cuts and Outsourcing; Production; Budgets and Budgeting; Manufacturing Industry; Electronics Industry; China;