Prompt: For the first milestone of your final project, you will submit a managing operations case study analysis that uses the tools and techniques that operations managers use. This case study analysis will be incorporated into the final summative analysis. This milestone is due in Module Two. Refer to the case study (located in the Reading and Resources area of Module One), your own independent research, and the course materials to complete this milestone. Specifically, the following critical elements must be addressed: I. Generating Value A. Evaluate how the company in the case study uses operations management functions to provide products and generate value for its customers. Support your claims with examples from the case study or outside sources. B. Assess how this company achieves a competitive advantage using operations management. Provide examples found in the case study or outside sources to support your reasoning. C. Compare and contrast service operations and manufacturing operations at the company in the case study. How are they the same? How do they differ? How does each of these operations provide value for their customers? II. Theories and Techniques A. Compare and contrast the critical path method (CPM) and the program evaluation and review technique (PERT). What types of projects at this company would favor PERT over CPM? Why? What types of projects at this company would favor CPM over PERT? Why? B. Explain the steps used to develop a forecasting system. How would these steps be specifically utilized by this company? What do you predict would be the result of implementing a forecasting system for the top-selling product line at this company? C. List the major categories of supply chain risk and associated risk reduction tactics. How could the company mitigate exposure to supply chain disruptions caused by natural disasters? For example, consider the 2011 earthquake and tsunami that devastated parts of Japan
Volume 17, Number 1 Printed ISSN: 1078-4950 PDF ISSN: 1532-5822 JOURNAL OF THE INTERNATIONAL ACADEMY FOR CASE STUDIES Editors Inge Nickerson, Barry University Charles Rarick, Purdue University, Calumet The Journal of the International Academy for Case Studies is owned and published by the DreamCatchers Group, LLC. Editorial content is under the control of the Allied Academies, Inc., a non-profit association of scholars, whose purpose is to support and encourage research and the sharing and exchange of ideas and insights throughout the world. Page ii Authors execute a publication permission agreement and assume all liabilities. Neither the DreamCatchers Group or Allied Academies is responsible for the content of the individual manuscripts. Any omissions or errors are the sole responsibility of the authors. The Editorial Board is responsible for the selection of manuscripts for publication from among those submitted for consideration. The Publishers accept final manuscripts in digital form and make adjustments solely for the purposes of pagination and organization. The Journal of the International Academy for Case Studies is owned and published by the DreamCatchers Group, LLC, PO Box 1708, Arden, NC 28704, USA. Those interested in communicating with the Journal, should contact the Executive Director of the Allied Academies at info@.alliedacademies.org. Copyright 2011 by the DreamCatchers Group, LLC, Arden NC, USA Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page iii EDITORIAL BOARD MEMBERS Irfan Ahmed Sam Houston State University Huntsville, Texas Devi Akella Albany State University Albany, Georgia Charlotte Allen Stephen F. Austin State University Nacogdoches, Texas Thomas T. Amlie SUNY Institute of Technology Utica, New York Ismet Anitsal Tennessee Tech University Cookeville, Tennessee Kavous Ardalan Marist College Poughkeepsie, New York Joe Ballenger Stephen F. Austin State University Nacogdoches, Texas Lisa Berardino SUNY Institute of Technology Utica, New York Thomas Bertsch James Madison University Harrisonburg, Virginia Steve Betts William Paterson University Wayne, New Jersey Narendra Bhandari Pace University North Brunswick, New Jersey Barbara Bieber-Hamby Stephen F. Austin State University Nacogdoches, Texas W. Blaker Bolling Marshall University Huntington, West Virginia Lisa N. Bostick The University of Tampa Tampa, Florida Michael W. Boyd Western Carolina University Cullowhee, North Carolina Thomas M. Box Pittsburg State University Pittsburg, Kansas William Brent Howard University Washington, DC Michael Broihahn Barry University Miami Shores, Florida Gary Brunswick Northern Michigan University Marquette, Michigan Carol Bruton California State University San Marcos Poway, California Gene Calvasina Southern University Baton Rouge, Louisiana Russell Casey Penn State University Worthington Scranton Dunmore, Pennsylvania Yung Yen Chen Nova Southeastern University Davie, Florida Wil Clouse Vanderbilt University Nashville, Tennessee Clarence Coleman Winthrop University Rock Hill, South Carolina Michael H. Deis Clayton College & State University Morrow, Georgia Carol Docan CSU, Northridge Northridge, California Scott Droege Mississippi State University-Meridian Campus Meridian, Mississippi Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page iv EDITORIAL BOARD MEMBERS Martine Duchatelet Purdue University Calumet Hammond, Indiana Steve Edison University of Arkansas at Little Rock Little Rock, Arkansas Andrew A. Ehlert Mississippi University for Women Columbus, Mississippi Henry Elrod University of the Incarnate Word San Antonio, Texas Mike Evans Winthrop University Rock Hill, South Carolina Werner Fees Georg-Simon-Ohm-Fachhochschule Nuernberg Nuernberg, Germany Troy Festervand Middle Tennessee State University Murfreesboro, Tennessee Art Fischer Pittsburg State University Pittsburg, Kansas Barbara Fuller Winthrop University Rock Hill, South Carolina Ramaswamy Ganesan BITS-Pilani Goa Campus Goa, India Joseph J. Geiger University of Idaho Moscow, Idaho Issam Ghazzawi University of La Verne La Verne, California Michael Grayson Jackson State University Jackson, Mississippi Richard Gregory University of South Carolina Spartanburg Spartanburg, South Carolina Robert D. Gulbro Athens State University Athens, Alabama Allan Hall SUNY Institute of Technology Utica, New York Karen Hamilton Appalachian State University Boone, North Carolina Heikki Heino Governors State University University Park, Illinois Terrance Jalbert University of Hawaii at Hilo Hilo, Hawaii Marianne L. James California State University, Los Angeles Los Angeles, California Marlene Kahla Stephen F. Austin State University Nacogdoches, Texas Joseph Kavanaugh Sam Houston State University Spring, Texas William J. Kehoe University of Virginia Charlottesville, Virginia Wasif M. Khan Lahore University of Management Sciences Lahore, PU, Pakistan Marla Kraut University of Idaho Moscow, Idaho S. Krishnamoorthy Amrita Institute of Management Tamil Nadu, India Dave Kunz Southeast Missouri State University Cape Girardeau, Missouri John Lawrence University of Idaho Moscow, Idaho Jonathan Lee University of Windsor Windsor, Ontario, Canada John Lewis Stephen F. Austin State University Nacogdoches, Texas Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page v EDITORIAL BOARD MEMBERS Rod Lievano University of Minnesota Duluth Duluth, Minnesota Steve Loy Eastern Kentucky University Richmond, Kentucky Anne Macy West Texas A&M University Canyon, Texas Edwin Lee Makamson Hampton University Hampton, Virginia Jeff Mankin Lipscomb University Nashville, Tennessee Paul Marshall Widener University Chester, Pennsylvania James R. Maxwell State University of New York College at Buffalo Buffalo, New York Steve McGuire California State University, Los Angeles Los Angeles, California Michael McLain Hampton University Elizabeth City, North Carolina Todd Mick Missouri Western State University St. Joseph, Missouri Kenneth K. Mitchell Shaw University Raleigh, North Carolina Mohsen Modarres Humboldt State University Arcata, California William B. Morgan Felician College Jackson, New Jersey Inge Nickerson Barry University Miami Shores, Florida Inder Nijhawan Fayetteville State University Fayetteville, North Carolina Adebisi Olumide Lagos State University Lagos, Nigeria Joseph Ormsby Stephen F. Austin State University Nacogdoches, Texas D. J. Parker University of Washington Tocama Tacoma, Washington Karen Paul Florida International University Miami, Florida Steven K. Paulson University of North Florida Jacksonville, Florida Terry Pearson West Texas A&M University Canyon, Texas Rashmi Prasad University of Alaska Anchorage Anchorage, Alaska Sanjay Rajagopal Western Carolina University Cullowhee, North Carolina Charles Rarick Purdue University Calumet Hammond, Indiana Sherry Robinson Penn State University New Albany, Pennsylvania Ida Robinson-Backmon University of Baltimore Baltimore, Maryland Durga Prasad Samontaray King Saud University Riyadh, Saudi Arabia Joesph C. Santora Essex County College Newark, New Jersey Sujata Satapathy Indian Institute of Technology New Delhi, India Bob Schwab Andrews University Berrien Springs, Michigan Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page vi EDITORIAL BOARD MEMBERS Elton Scifres Stephen F. Austin State University Nacogdoches, Texas Herbert Sherman Southampton College Southampton, New York Linda Shonesy Athens State University Athens, Alabama Mike Spencer University of Northern Iowa Cedar Falls, Iowa Harlan E. Spotts Western New England College Springfield, Massachusetts Harriet Stephenson Seattle University Seattle, Washington Philip Stetz Stephen F. Austin State University Nacogdoches, Texas Jim Stotler North Carolina Central University Chapel Hill, North Carolina Jennifer Ann Swanson Stonehill College N. Easton, Massachusetts Joseph Sulock UNC-Asheville Asheville, North Carolina Joe Teng Barry University Miami Shores, Florida Prasanna J. Timothy Karunya Institute of Technology Tamil Nadu, India Jeff W. Totten Southeastern Louisiana University Hammond, Louisiana Jack E. Tucci Mississippi State University-Meridian Campus Meridian, Mississippi George Vozikis University of Tulsa Tulsa, Oklahoma Rae Weston Macquarie Graduate School of Management NSW Australia Greg Winter Barry University Miami Shores, Florida Art Warbelow University of Alaska Fairbanks, Alaska Thomas Wright University of Nevada - Reno Reno, Nevada Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page vii JOURNAL OF THE INTERNATIONAL ACADEMY FOR CASE STUDIES TABLE OF CONTENTS EDITORIAL BOARD MEMBERS .............................................................................................. III LETTER FROM THE EDITORS ................................................................................................. IX PEANUT VALLEY CAFÉ: WHAT TO DO NEXT? ................................................................... 1 Lee E. Weyant, Kutztown University Donna Steslow, Kutztown University COMPETING IN THE AGE OF WAL-MART: A BOUTIQUE BUSINESS CASE STUDY ................................................................................. 11 Michael L. Thomas, Georgia Southern University Linda Greef Mullen, Georgia Southern University J. Michael McDonald, Georgia Southern University BYD OF CHINA: ELECTRIFYING THE WORLD'S AUTOMOTIVE MARKET.................. 19 Charles A. Rarick, Purdue University Calumet Kasia Firlej, Purdue University Calumet Arifin Angriawan, Purdue University Calumet PEGASUS RESEARCH INSTITUTECTHE DEVELOPMENT OF A COST ACCOUNTING AND PROJECT MANAGEMENT SYSTEM FOR A SMALL DEFENSE CONTRACTOR........................................................................................... 29 Richard E. McDermott, Weber State University AUSTRALIAN DREAM: AN AMERICAN DREAM............................................................ 49 Stephen L. Loy, Eastern KentuckyUniversity Steven Brown, Eastern Kentucky University Mark Case, Eastern Kentucky University Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page viii CHIROPRACTIC MARKETING: MARKET SEGMENTATION & GROWTH STRATEGY ........................................................................................................... 65 Jeanny Y. Liu, University of La Verne Stephanie N. Van Ginkel, University of La Verne ST. LOUIS CHEMICAL: COST OF CAPITAL .......................................................................... 83 David A. Kunz, Southeast Missouri State University Benjamin L. Dow III, Southeast Missouri State University FEMSA 2007: THE FINANCIAL STATEMENT ANALYSIS IMPACT OF DIFFERENCES IN MEXICAN AND US GAAP........................................................................ 89 Kevin L. Kemerer, Barry University ................................................................................ 89 Michael L. Tyler, Barry University ANDERSON’S DEPARTMENT STORE: A COSMETIC DILEMMA .................................. 109 Regina A. Julian, Stephen F. Austin State University Elton L. Scifres, Stephen F. Austin State University MIXED SIGNALS AT GABBA ENTERPRISES ..................................................................... 115 Kurt Jesswein, Sam Houston State University HSN, INC.: WEATHERING THE RETAIL STORM ............................................................... 121 Alexander Assouad, University of South Florida St. Petersburg William T. Jackson, University of South Florida St. Petersburg James A. Fellows, University of South Florida St. Petersburg Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page ix LETTER FROM THE EDITORS Welcome to the Journal of the International Academy for Case Studies. The editorial content of this journal is under the control of the Allied Academies, Inc., a non profit association of scholars whose purpose is to encourage and support the advancement and exchange of knowledge, understanding and teaching throughout the world. The purpose of the JIACS is to encourage the development and use of cases and the case method of teaching throughout higher education. Its editorial mission is to publish cases in a wide variety of disciplines which are of educational, pedagogic, and practical value to educators. The cases contained in this volume have been double blind refereed, and each was required to have a complete teaching note before consideration. The acceptance rate for manuscripts in this issue, 25%, conforms to our editorial policies. The Instructor’s Note for each case in this volume will be published in a separate issue of the JIACS. If any reader is interested in obtaining a case, an instructor’s note, permission to publish, or any other information about a case, the reader must correspond directly with the Executive Director of the Allied Academies: info@alliedacademies.org. We intend to foster a supportive, mentoring effort on the part of the referees which will result in encouraging and supporting writers. We welcome different viewpoints because in differences we find learning; in differences we develop understanding; in differences we gain knowledge and in differences we develop the discipline into a more comprehensive, less esoteric, and dynamic metier. The Editorial Policy, background and history of the organization, and calls for conferences are published on our web site. In addition, we keep the web site updated with the latest activities of the organization. Please visit our site and know that we welcome hearing from you at any time. Inge Nickerson, Barry University Charles Rarick, Purdue University, Calumet Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page x Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 1 PEANUT VALLEY CAFÉ: WHAT TO DO NEXT? Lee E. Weyant, Kutztown University Donna Steslow, Kutztown University CASE DESCRIPTION The primary subject matter of this case involves the management of a quick service restaurant (QSR). The case has a difficulty level of three, appropriate for junior level courses in management or hospitality management. The case is designed to be taught in 1, 75 minute class period and is expected to require 2 hours of outside preparation by students. CASE SYNOPSIS This case focuses on the operational and strategic management issues faced by a family owned quick service restaurant (QSR). The case explores the operational issues with a multiunit restaurant. What are the operational decisions necessary to effectively manage QSR facilities? What are the strategic issues facing a QSR owner? [NOTE: This case is a fictionalized version of a real-life situation. Names and other potentially identifying information have been changed to protect identities. The applicable fact situation is true to the real case.] THE PEANUT VALLEY CAFE Peanut Valley Café is a family owned, ethnic food quick service restaurant (QSR). The company has two locations in the southwestern part of the United States. The two facilities are 20 miles apart with one facility located in Plainsville and the other in Pleasant Valley. Both facilities are equidistant, about 8 miles, from a major military base that is in the process of expanding operations. The population of Plainsville is nearly 33,000 and the population of Pleasant Valley is approximately 11,000. Plainsville is the county seat for Mountain County. The city has a small, regional shopping mall, a civic center, a hospital, and Mountain Community College. Pleasant Valley is the county seat for Lovely County. The town has an ethanol processing plant, milk processing facility, several peanut processing facilities, and Regional State University (RSU). RSU is a small regional university providing undergraduate and graduate programs for approximately 4,000 students. Both cities are about 100 miles from a metropolitan area with a population greater than 50,000 and more than 120 miles from a population centers greater than 150,000. (See Appendix C: Map). Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 2 Peanut Valley Café started in 1967 serving Mexican-American fast food. Sam Snow joined the company in 1969 as a management trainee after graduating from a prestigious landgrant college with a degree in Hotel, Restaurant Management (HRM). By 1970, Peanut Valley Café had grown to five locations. In 1971, the owner of Peanut Valley Café offered Sam the opportunity to buy the Plainsville restaurant. This facility was located in front of a new shopping center, across the street from the Plainsville Park, and within a block of the Plainsville High School. In 1971, this was an ideal location since the highway had been expanded to three lanes to handle the traffic to the hospital and the military base located west of town. In 1975, Sam received permission from Peanut Valley Café general management to open a restaurant in Pleasant Valley across the street from a RSU dormitory and the RSU administrative building. Additionally, this location was along the main highway to Desert Sun, a city of 55,000 located about 90 miles southwest of Pleasant Valley. In 1979, Peanut Valley Café’s operations were facing financial difficulties. Originally, the locations in small towns resulted in little competition with national franchise operations such as McDonald’s and Burger King. With increased competition from national chains, three of the five Peanut Valley Cafés reported their third consecutive annual loss. Only Sam’s operations in Plainsville and Pleasant Valley posted profits during this time. When Peanut Valley Café’s general management decided to close the business, Sam offered to buy the company’s name and continue operating his two facilities. On January 1, 1980, Peanut Valley Café was officially sold to Sam Snow’s new corporation – High Plains Restaurant Management, Inc., dba Peanut Valley Café. Sam has operated the two restaurants in the same location since 1975. Over the years Sam has experienced the typical business cycles of all small businesses. Likewise he has experienced his share of attempting new projects. For example, from 1998 to late 2004 Sam operated a food court version of his café in the local mall with a limited menu. Also, during this time period, his corporation owned an Orange Julius franchise in the local mall. For simplicity, the gross revenue figures for the Plainsville operation during those years reflect these additional ventures. Moreover, in 1996 Sam was offered the opportunity to buy the gas station adjacent to the Pleasant Valley facility. This venture accounts for approximately 10% of the total revenue at the Pleasant Valley facility. (See Appendix A for current organizational chart and Appendix B for selected financials.) Last July, Sam met with Dr. Abraham, Associate Professor of Management, RSU. Dr. Abraham was designing the curriculum to support a new Hospitality Management degree at RSU and needed the input of industry leaders such as Sam Snow. Their initial conversation covered a variety of topics including the local economy, community growth, entrepreneurship, and the need for a hospitality degree in the area. During this conversation, Sam stated that he wished he had the time to implement the systems that would really help his business. “My managers are not a part of this operation. Sure, they try, but there is no follow through on items. I feel like we are not on the same page.” Sam asked Dr. Abraham if he could help in facilitating a discussion between Sam and his managers. Dr. Abraham agreed to assist Sam, but wanted to observe the Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 3 operation before conducting the meeting. Over the next several months, Dr. Abraham visited each facility, met with the employees, and received a tour of the operation. By November, it was agreed that Dr. Abraham would attend the employee meetings being conducted by Sam. The employee meeting for the Pleasant Valley facility was scheduled for late November. Following his normal procedure for these meetings, Sam decided to close the facility at 8:30PM versus 10. About ten minutes into the meeting a bus from Mountain Plains University arrived with the women’s basketball team and coaches. The team had played the RSU women’s team earlier in the evening. When the coach came to the door, a member of Sam’s management team answered the door and told the coach they were closed. Without prompting, the Peanut Valley Café employees asked Sam to open the restaurant for the team. Sam agreed and the team was invited into the facility. While the restaurant employees were busy preparing the food for the team, Sam overheard one of his Assistant Manager’s remark “We can’t afford to let that much revenue be turned away. I can’t believe this meeting is more important than servicing the community!” After the team completed their meal, Sam resumed the employee meeting. During a conversation about hours, one of the morning managers, Jesus, started complaining about the lack of support from the other managers, especially Daniel. This continued for several minutes with both managers and their respective subordinates trading barbs about the operational procedures. Finally Sam stopped the meeting and looking at Jesus stated “We’ll continue this conversation in private after the meeting.” The meeting ended with Sam and Jesus going to the manager’s office. As Dr. Abraham was collecting his materials, several employees stopped to talk. One employee commented, “This has been brewing for some time. Jesus and Daniel have not gotten along since Daniel was promoted to manager. Jesus is a great cook, but he is not a strong manager.” Another employee added, “You know this all began when Daniel started going to RSU for his management degree and doesn’t have to work the early morning shifts.” The next day Sam called Dr. Abraham to apologize for the incident with Jesus. “He probably has the best overall culinary skills of all my managers. But he is very narrow-minded about what needs to be done. He is not a good manager and tries to tell the others how things should be done. I had planned to talk to him about his overall performance for several weeks but never got the time to drive to Pleasant Valley for the talk”. About a week later, Sam and Dr. Abraham were coordinating a time for Sam to be a guest speaker in a hospitality management class when Sam stated, “Well, Jesus quit. Called me at 6:25AM last Tuesday and quit. That hurt since we open at 6:30AM. I had a young employee waiting outside the door for about 45 minutes until I got there to open. The young man was upset that he had to wait and tersely told me about 20 people stopped by and wanted to know why the restaurant was closed. When I explained what happened, he added ‘I should have known. Jesus and Daniel had words yesterday’.” During the spring, Sam and Dr. Abraham met to discuss managerial operations. They discussed the employee training programs. They reviewed the various videotapes Sam had collected over the years concerning customer service, sales, and safety. Sam stated that the Plainsville facility has an extra room above the restaurant that can be used for small groups or Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 4 individuals to view the tapes. “Unfortunately, I do not have the same luxury in Pleasant Valley. It’s a space issue. So I will periodically show a tape at Pleasant Valley as part of the employee meeting.” When asked who is responsible for the training, Sam stated it was the General Manager and Assistant Manager’s responsibility. “But they don’t have time to do the training. We get done what we can. I know some of my people are not very good at teaching others, but when you live on the margins, you do what you have to.” Additionally, Sam and Dr. Abraham discussed the menu. Dr. Abraham raised the issue, “Sam, there appears to be a lot of items on the menu from traditional Mexican cuisine of tacos and burritos to American cuisine of hamburgers and fried chicken. Doesn’t this cause inventory and production issues?” Sam responded “Not really. I use the same ground beef for the hamburgers that I use in the tacos and burritos. There is a longer prep time for the hamburger, but it’s not a big seller and whoever wants a burger is willing to wait.” As they talked about the size of the menu, Sam stated that he was proud of the fish taco. “I was in Hawaii for a conference and saw a restaurant similar to mine offering a fish taco. It’s been great, though not a big seller. I think we sold 10 fish tacos last week between the 2 facilities. I use fresh fish and created my own seasonings. Since we are using fresh fish, I’ve created a separate prep area to eliminate any cross contamination.” During a meeting in April, Sam lamented that he was 62. He had been in this business for is entire life. “I started with this venture on a lark. No clear plan. This was just a stopover until I found what I really wanted back in the northeast. Here I am 40 years later. I’ve done well. Had several years when I did not take a salary. Man, that was the closest to bankruptcy I’ve ever been. I enjoy this business, but for how long? I know I need help. I’m sorry my son lost his job with a major corporation. But he got a good buyout and has decided to come live with us for the next six months to help me get some of the systems I’ve always wanted to do in place.” About a month later, Dr. Abraham was ready to facilitate the meeting between Sam and his managers. Sam arranged to have the meeting in a location away from the restaurants. After introductions, Dr. Abraham started the meeting. “The purpose of today’s meeting is to discuss Peanut Valley Café – where you are, where you want to go, and your role in the journey. To start we will begin with “Through the Looking Glass”. Our initial goal is to identify as many items as possible. So please hold your comments until later. We will list the ideas on the flip chart and post these on the wall for ease of reference. Let’s begin. Where do you see Peanut Valley Café five years from now?” Please refer to Figure 1. “Look out the window. What do you see?” Please refer to Figure 2. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 5 Figure 1 Through the Looking Glass – Peanut Valley Café in 5 years Participate in city events More automation Better advertising Tours by elementary schools Training programs More family friendly Higher presence in community Keeping up with IT More managers Bigger Pleasant Valley store Double sales – customer count Work with Military base General Manager Faster service Menu redesign/simplify Advertise birthday parties Online orders Expand Figure 2 Out the Window – What do we see? RSU Businesses Banks Fire department Hospital Schools: Public and Private Travelers Military Base School Athletic teams Competitors (Partial List) McDonald’s Dairy Queen Burger King Taco Bell Wendy’s Juan’s Authentic Mexican Restaurant Price of Gas Increasing Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 6 “What are the roles the people in the room should have?” Please refer to Figure 3. Figure 3 Managerial Roles Sam Face of the Business Provide vision leadership Be supportive Marketing Vendor support Update stores Moral support Son Implement programs/IT Short term – implementation Training development Your Face of the store – true managers Hiring employees Smoother running crews Better customer service Follow through – see beyond the shift Administrative Organizer – Rose Sam called Dr. Abraham, a week after the manager’s meeting. “Dr. Abraham, I’d like to meet with you next week to discuss what I plan to do next.” At this meeting, Dr. Abraham presented Sam a copy of the notes made during the manager’s meeting. After discussing their general impressions of the manager’s meeting, Dr. Abraham asked Sam, “What is next for Peanut Valley Café?” Sam expressed doubt on what should be the next step. Dr. Abraham discussed with Sam that the manager’s meeting provided a basis for doing a strategic analysis of Peanut Valley Café. Dr. Abraham stated, “At least at the end of the analysis, Sam, you will have the framework to make an informed decision.” Dr. Abraham provided Sam with a handout outlining the strategic analysis process. They decided to meet in a month after Sam had worked on the analysis. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 7 Appendix A: Peanut Valley Café’s Organizational Chart Sam Snow President Mary Snow Vice President Rose Sally Purchasing and Accounting General Manager, Plainsville 3 Assistant Managers General Manager, Pleasant Valley 3 Assistant Managers Rose, Purchasing and Accounting Rose was one of Sam’s first hires in 1975. Rose became an Assistant Manager at the Plainsville facility within six months. By 1977 Sam had promoted Rose to General Manager for the Plainsville restaurant. Rose served in this capacity until 1991. Sally, General Manager at the Plainsville facility Sally was hired in 1981 as a Cashier/Cook at the Plainsville restaurant. After a year, she was promoted to Assistant Manager. When Rose was promoted in 1991, Sally was promoted to replace Rose as General Manager. Assistant Managers The Assistant Managers are responsible for the operations of the facility during their shift. They open and close their respective facility. These individuals are responsible for training the individuals assigned to their shifts. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 8 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 Appendix B: Peanut Valley Café Income Statement 1998-2007 Plainville Pleasant Valley Total Revenue Expenses $250,000 $50,000 $300,000 $285,000 $275,000 $50,000 $325,000 $308,750 $290,000 $60,000 $350,000 $332,500 $325,000 $70,000 $395,000 $375,250 $310,000 $55,000 $365,000 $346,750 $325,000 $65,000 $390,000 $370,500 $350,000 $70,000 $420,000 $399,000 $375,000 $75,000 $450,000 $427,500 $400,000 $80,000 $480,000 $456,000 $410,000 $90,000 $500,000 $475,000 $400,000 $75,000 $475,000 $451,250 $425,000 $80,000 $505,000 $479,750 $430,000 $90,000 $520,000 $494,000 $445,000 $90,000 $535,000 $508,250 $460,000 $100,000 $560,000 $532,000 $450,000 $105,000 $555,000 $543,900 $475,000 $120,000 $595,000 $583,100 $500,000 $140,000 $640,000 $627,200 $550,000 $150,000 $700,000 $686,000 $650,000 $160,000 $810,000 $830,250 $800,000 $150,000 $950,000 $973,750 $900,000 $150,000 $1,050,000 $1,102,500 $1,000,000 $175,000 $1,175,000 $1,233,750 $875,000 $190,000 $1,065,000 $1,043,700 $800,000 $190,000 $990,000 $970,200 $775,000 $210,000 $985,000 $935,750 $775,000 $210,000 $985,000 $935,750 $750,000 $250,000 $1,000,000 $950,000 P/L $15,000 $16,250 $17,500 $19,750 $18,250 $19,500 $21,000 $22,500 $24,000 $25,000 $23,750 $25,250 $26,000 $26,750 $28,000 $11,100 $11,900 $12,800 $14,000 ($20,250) ($23,750) ($52,500) ($58,750) $21,300 $19,800 $49,250 $49,250 $50,000 These financials are not the actual figures from the company upon which the case is based. However, they do represent the general trends that the owner expressed to the author over the time period covered. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 9 Appendix C: Map of Plainsville/Pleasant Valley Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 10 Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 11 COMPETING IN THE AGE OF WAL-MART: A BOUTIQUE BUSINESS CASE STUDY Michael L. Thomas, Georgia Southern University Linda Greef Mullen, Georgia Southern University J. Michael McDonald, Georgia Southern University CASE DESCRIPTION This case is intended for use in undergraduate marketing, management, fashion merchandising, entrepreneurship, or retailing courses. The purpose of the case is to demonstrate how small boutique businesses can compete against chain stores and large discounters such as Wal-Mart. Particularly, the concepts of key client management and customer delight are highlighted. Students are encouraged to evaluate the company’s strategy, tactics and uncover areas of potential customer delight. Additionally, students should attempt to provide thoughts on other strategic and tactical activities the business should pursue considering the recent economic downturn. The case is designed for a one-hour class and should require two hours of outside preparation. CASE SYNOPSIS The Thomas Shop is a women’s clothing boutique located in Effingham, Illinois. The business was started in 1936 and has since been handed down through the family with the second and third generations currently handling operations. Originally, the business offered approximately 2000 square feet of space, but was doubled in size in the early 1990’s to accommodate shoes and other accessories. The store moved to its current location, (owned by the business owners) in the downtown shopping district of Effingham in the early 1970’s. The town’s population is approximately 20,000 and is the main shopping district for the surrounding county of approximately 35,000 residents, and further, draws customers within a fifty-mile radius. The nearest major city, St. Louis, Missouri is 100 miles to the west. The Thomas Shop has thrived for over seventy years with superior service and merchandise adaptability. However, the recent downturn in the economy has Kathy worried. Kathy is concerned that consumers will become more and more price conscious and may gravitate to the large discounters such as Wal-Mart and other chain stores (i.e. Kohls) for price reductions, even though the merchandise quality is below that of The Thomas Shop. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 12 THOMAS SHOP OVERVIEW The atmosphere in downtown Effingham was bleak when Wal-Mart opened in the community. First, the hardware stores closed. Next, the pharmacies and small grocers disappeared; then other retail businesses ranging from pets to clothing left. The Thomas Shop owners watched as Wal-Mart steamrolled many long-standing local businesses. The owners are concerned that the current economic downturn is going to push more consumers toward the discounters. They are unsure as to whether or not they should keep their current business model which is built around key customer management, higher end merchandise, and superior customer service, or should they reduce services and bring in lower tier merchandise so as to better compete on price. Other small businesses in Effingham and surrounding communities were also feeling the effects of the large discounters. Several firms failed in their efforts to compete with Wal-Mart as they had difficulty offering similar products and services at competing prices. For example, Ivan’s Shoes and Juanita’s Slack Shop closed their doors soon after Wal-Mart arrived. B&H Clothing, a men’s clothier, (similar in business model to that of The Thomas Shop) was unable to continue and it too closed its doors. The downtown area was beginning to look like a ghost town. Alternatively, there were also firms that were successful. For example, Sylvester’s Sports Memorabilia (collectables) and Noah’s Ark (pet store) were not feeling the negative effects of the large discounter. Sylvester Frazier has been in business for many years and has developed a successful online business in sports memorabilia as well. On the other hand, Noah’s Ark recently opened in Effingham and has various pets, supplies, IAMS pet food and grooming services. Business is booming for both of these small firms. The demographic breakdown of Effingham County (Table 1) shows that it is predominantly white, (98.7%) and has a fairly equal split between males and females. Additionally, the vast majority of residents have at least a high school education, (87.7%) and approximately 20% have at least a bachelor’s degree. Finally, the income statistics reveal that while over 27% of families earn less than $35,000, 45% make more than $50,000 annually. The store carries a full selection of merchandise for women from teens to seniors (approximately 75% of the female population). Product lines include slacks, blouses, jeans, dresses, lingerie, costume jewelry, hand bags, hats, jackets, and shoes (Table 2 gives a sales breakdown by line). The focus has always been to provide mid to upper level merchandise for the style conscious woman. In the words of Yves Saint Laurent, "Fashion fades, style is eternal." The style conscious woman wants to make her own unique style and looks for clothiers who can help her accomplish this task. Therefore, The Thomas Shop provides brands and services to assist women in reaching this goal (Table 3 shows major brands by line). Finally, Table 4 shows sales by age groups. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 13 Staff includes the owner, (Kathy) who is also involved in the day-to-day operations, (including sales, displays, cleaning etc…) her daughter, (Stacia) and one part-time sales clerk, (Vickie). In addition to her daily duties at the store Kathy also does the daily bookkeeping, seasonal merchandise buying, payroll and taxes. She is assisted in the daily activities and merchandise buying by Stacia. Kathy has been involved in the business for nearly forty years, while Stacia has been with the store for approximately 15 years. When asked to describe a typical day Kathy responded that the reason she liked retailing so much was that there is no such thing as a typical day. She went on to explain that when customers are in the store her only concern is servicing their various needs. Slow times are opportunities to re-do window displays, (usually done once a week) change in-store displays, and take care of general maintenance. A major concern for any business is competition. The Thomas Shop is no exception. The owners have seen their share of other women’s clothing stores come and go over the years. However, being in a small town the store has never had the direct competition of large department stores. Effingham residents must drive to St. Louis to shop at these stores. While some customers have done this in the past, Kathy and Stacia have prided themselves on their service and merchandising providing department store brands and styles for this rural community. Not only has The Thomas Shop kept more locals from driving to the “big city” to shop, but the shop has drawn a loyal following from other neighboring communities. When WalMart and other large discounters arrived in the early 1990’s the proprietors were obviously concerned. Current competitors, (in addition to Wal-Mart) include Maurices, (direct competition for the youth market, but located in a run-down mall) and Kohls (a large chain that challenges The Thomas Shop for their lower tier clients). Past service successes were many and quite innovative. For example, when Kathy noticed that more and more of her customers were having trouble with bras following mastectomies she investigated what she could do to help. She worked with suppliers (i.e. Amoena) to become registered in providing mastectomy fittings. She enrolled in courses provided by Amoena and after several intensive sessions was certified to provide the service. This allowed The Thomas Shop to be the only one in the area certified to offer this unique service. While mastectomy fittings are a very small part of the market, (4.8% of women in the U.S. will develop breast cancer in their lifetime, and 56% will have a mastectomy) the emotional response from friends and family of the cancer survivor was notable. Kathy’s customers not only provided many mastectomy referrals, but also tended to become more loyal for other store merchandise. Additionally, they provided the ever-elusive positive word-of-mouth for the overall business. Stacia is trained in color analysis which aids in providing customers with outfits that promote their best features. She attended an intensive training course in St. Louis to receive her certification as an image consultant. While this skill had faded from popularity during the late 90’s, it has received increased attention recently as a means to offer superior customer service. Stacia can readily assess clients as a spring, summer, fall or winter according to skin tone, hair color and other factors. This aids in finding colors that best promote their respective traits. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 14 One additional service offered by the business deserves special attention. When Kathy goes to market to buy for the next season, she always keeps in mind her best customers. She knows what brands and styles each of these upper tier clients likes and she also knows what sizes they wear and what colors look best on them. With this information in hand, she tries to find oneoff items (items that she may not want to carry an entire line of) that may be of interest to one of these special customers. Kathy’s purpose here is to not just satisfy her best customers, but to delight them. The response from these purchases has been overwhelming. Kathy cannot remember a time when she made a personal buy at market for a customer who did not in turn purchase that item. This personalized attention extends beyond the upper-tier customer to other regular good customers as well. The store personnel pride themselves on knowing these customers by name, and are regularly complimented on the personal attention they give. For example, sales personnel bring clothes to the dressing room so the customer can find the perfect size and style as conveniently as possible. Kathy also stated that they don’t forget about traditional advertising and promotion. They run weekly local newspaper and radio spots (paper circulation is approximately 12,000 reader/households daily and the radio reaches the entire county), participate in the annual downtown sidewalk sale, pay particular attention to regular (weekly) window display changes, and participate in the Chamber of Commerce and Rotary. The sidewalk sale deserves additional explanation. It consists of all downtown businesses bringing racks of product out onto the downtown sidewalks and streets (the streets are closed to car traffic). This is a one day only (during June) sale and is always the store’s biggest sales day of the year. This day provides an opportunity to clear out summer stock to make room for fall. Kathy is quick to point out that while these activities are important they do not help differentiate themselves. Specialty promotions and skill development, such as the mastectomy fitting program and color analysis are services that aid more in differentiation and thus are promoted. Top tier clients receive regular mailings to let them know when new lines are arriving and information about upcoming sales. Additionally, biannual style shows at a local club draw 700 women per event and allows the store’s products to be displayed in a fun forum. Top tier customers receive special consideration with reserved seats and first access to purchases. Kathy recruits high school students and other local women to act as models for the shows. The great diversity in age allows for demonstrations that meet all their targeted age groups. Some specialty style shows which focus on a theme, such as prom dresses are promoted. Additionally, Kathy is involved in local career programs for junior high students, which allows her to recruit potential future customers. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 15 Table 1: Effingham County Demographics N Frequency (%) Gender 34,264 100 Male 16,983 49.57 Female 17,281 50.43 Age 34,265 100 Under 18 9,800 28.6 18-24 2,810 8.2 25-44 9,662 28.2 45-64 7,230 21.1 65 and over 4,763 13.9 Race 34,264 100 White 33,819 98.7 Black 69 0.2 Asian 103 0.3 Hispanic 240 0.7 Other 34 0.1 Education 22,265 100 High school or higher 19,526 87.7 Bachelor's degree or higher 4,542 20.4 Family Income 9,207 100 Less than $20,000 657 7.14 $20,000 - $34,999 1,869 20.3 $35,000 - $49,999 2,061 22.39 $50,000 - $74,999 2,442 26.52 $75,000 - $99,999 979 10.63 $100,000 - $199,999 596 6.47 $200,000 or more 134 1.46 (Source: 2000 US Census) Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 16 Table 2: Sales by Line Slacks and Jeans Blouses and Tops Dresses Shoes Lingerie Accessories Note: Accessories include: handbags, jewelry, & hats. Lingerie includes mastectomy fittings. % of Sales 25 40 8 10 12 5 Table 3: Top Brands by Line Slacks, Jeans, Blouses and Tops: Dresses: Shoes: Lingerie: Accessories: Windridge Tribal Joseph Ribikoff UBU 600 West Alyce Bella Formals Josh & Jazz Mephisto Birkenstock Merrill Dansko Maidenform Brighton Table 4: Sales by Age Group Age 18-24 26-44 45-64 Over 64 Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Sales 15% 35% 35% 15% Page 17 REFERENCES Berman, B. (2005). How to Delight Your Customers. California Management Review, 48(1), 129-151. Clow, K.E. and Cole, H.S. (2004). Small Retailers’ Road to Success: The Customer Value Concept. Services Marketing Quarterly, 26(2), 69-81. Coyne, K.P. (1989). Beyond Service Fads—Meaningful Strategies for the Real World. Sloan Management Review, 30(4), 69-76. Edwards, D. (2003). Delight Moves Customer Response to Next Level. Business Wire, (January 3) 52. Fornell, C., Johnson, M.D., Anderson, E.W., Cha, J., and Bryant, B.E. (1996). The American Customer Satisfaction Index: Nature, Purpose, and Findings. Journal of Marketing, (Oct.) 42, 7-18. Hallowell, R. (1996). The Relationship of Customer Satisfaction, Customer Loyalty, and Profitability: An Empirical Study. International Journal of the Service Industry Management, 7(4), 27-42. Johnston, R. (2004). Towards a Better Understanding of Service Excellence. Managing Service Quality, 14(2-3), 129-133. Kano, N. (1984). Attractive Quality and Must-Quality, Journal of the Japanese Society for Quality Control, 14(2), 39-48. McCaig, M. (2000). A Small Retailer Uses CRM to Make a Big Splash. Apparel Industry Magazine, 61(10), 30-36. McDonald, M.H.B., Millman, A.F. and Rogers, B. (1996). Key Account Management—Learning from Supplier and Customer Perspectives. Research report for the Cranfield KAM Best Practice Research Club, Cranfield School of Management. Ngobo, P.V. (1999). Decreasing Returns in Customer Loyalty: Does it Really Matter to Delight the Customers? Advances in Consumer Research, 26, 469-476. Piercy, N. F. and Lane, N. (2006). The Hidden Risks in Strategic Account Management Strategy. Journal of Business Strategy, 27(1), 18-26. Ryals, L. and Rogers, B. (2007). Key Account Planning: Benefits, Barriers and Best Practice. Journal of Strategic Marketing, 15, 209-222. Smith, P. (2000). Only Some Customers are King, New Zealand Management, 47(3), 24-26. Strange, M. (1996). Transforming the Rot Belt, Des Moines Sunday Register, Feb. 25, C1-C2. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 18 Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 19 BYD OF CHINA: ELECTRIFYING THE WORLD'S AUTOMOTIVE MARKET Charles A. Rarick, Purdue University Calumet Kasia Firlej, Purdue University Calumet Arifin Angriawan, Purdue University Calumet CASE DESCRIPTION The primary subject matter of this case concerns the move towards utilizing electricity to power automobiles and the potential of a Chinese company to become the world's largest automaker, as well as the strategic fit of its innovation with the current external environment. Secondary issues examined include issues of trade, public policy, and the environment. The case has a difficulty level appropriate for junior level students. The case is designed to be taught in one class hour and is expected to require three hours of preparation by students. CASE SYNOPSIS The Chinese company BYD hopes to soon become the world's largest car company. With the support of American Warren Buffett, the company which has only been in existence for a few years, mostly making batteries, has caught the attention of not only Mr. Buffett, but also many in the auto industry. This case examines the favorable conditions that are propelling the Chinese company to the forefront of the not so distant future of the auto industry. BYD OF CHINA Many Americans have never heard of the Chinese firm called BYD. In fact, it isn't really clear what the letters representing the company's name stand for, although some joke that recently it has meant "Bring Your Dollars." The company’s latest PR message states that BYD stands for “Build Your Dreams.” BYD is a privately owned company which started making batteries in 1995. Although Chinese-made batteries were already available, they were of poor quality. Imports of higher quality batteries were available in China mostly from Japan, but they were quite expensive. To satisfy the need for high quality and low cost batteries, Wang ChuanFu started BYD. Wang, who was a graduate of the Beijing Non-Ferrous Institute, found his competitive advantage by studying Japanese batteries and finding creative ways of making similar batteries at a lower cost. Wang had been fascinated with batteries as a graduate student at the Institute and now seeks to take that passion to the global automobile market. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 20 ELECTRIC AND HYBRID CARS Electric cars (also known as electric vehicles or EVs) rely exclusively on battery power. With an EV there is no internal combustion engine, muffler, gasoline tank, air and fuel filters, and other parts needed to run a gasoline powered system. The vehicle itself also produces no tailpipe emissions, and by getting its power from a more efficient utility company, overall it produces fewer greenhouse gases. This is especially true if the electricity is produced with nuclear power. EVs are also less expensive to fuel on a per mile basis. Electric cars, however, have a shorter driving range and are difficult to operate with long distance travel (Figure 1). There are also some safety concerns associated with using a lithium ion battery, as lithium is a highly reactive material prone to explosion. FIGURE 1 Source: www.hybridcars.com Hybrid vehicles run on battery power until the battery reaches exhaustion and then a gaspowered engine kicks in to power the vehicle and to recharge the battery. Given the relatively short driving range of electric vehicles, hybrid vehicles have been the logical first step towards all electric cars and the replacement of the internal combustion engine. Hybrid cars became hot selling items when the price of gasoline soared in 2008, and then fell back sharply as the price of gasoline fell. Gasoline prices appear to be rising as the world’s economy slowly rebounds from the economic slowdown and the appetite for oil increases worldwide. Some have proposed that electric vehicles can save the struggling U.S. auto industry. According to Andy Grove (of Intel fame), “batteries will become a competitive advantage for the automakers of the future.” He supports a position whereby the government takes a more active role in promoting and protecting an “infant industry” in new battery technology. The Obama administration took steps in 2009 to provide significant funding of battery research and the production of environmentally friendly Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 21 automobiles. New mileage standards were also proposed that will make electric vehicles more attractive to consumers. Many companies have begun to think electric automobiles will have a promising future. In addition to the world’s largest automakers who have begun to develop electrical cars, some upstarts have been established. One of these companies is Detroit Electric. The company represents an auto brand from the past and has teaming up with Proton of Malaysia to manufacture electric cars under the Detroit Electric name. Detroit Electric is a privately held company that got its brand name from a defunct 1907 company. The company hopes to sell its cars in China, Europe and the United States. Planned prices for the new all electric cars will be $23,000-25,000 range for the entry models, with a driving capacity of a little over 100 miles on a single charge. More expensive models will be available for $29,000-33,000 with a driving range of a little under 200 miles before needing to be recharged. GM, Ford, Toyota, Daimler Benz, Volkswagen all have moved into the electric or hybrid market. It is likely that most of these companies will offer electric vehicles soon. Troubled auto maker, Chrysler, showcased five electric concept cars at its recent Detroit Auto Show and is working with battery manufacturer A123 Systems and other suppliers to attempt to produce an electric vehicle. With its financial troubles and other obstacles Chrysler, it doesn’t seem likely that the company will be producing electric vehicles anytime soon. The success or failure of electric cars and the companies that enter this market is strongly related to the batteries that will power the vehicles. Troubled General Motors, who used to dominate the automobile market is touting the introduction of its electric-gasoline-ethanol hybrid in late 2010. The catch, however, is the price tag: the Chevy Volt will be offered at the hefty price of $30,000 to $40,000 at the retail level and will only be able to run about 40 miles on a single charge before switching over to the gasoline or ethanol powered engine. IT’S ALL ABOUT THE BATTERY Lithium ion is the current choice for batteries to power electric cars. Lithium ion batteries are lighter and more powerful than traditional batteries. Lithium, a metal compound, can be found in large quantities in South America, especially in Bolivia, Chile, and Argentina. Chile is currently the world’s largest producer of lithium, however, Bolivia has the largest known deposits of lithium in the Salar de Uyuni region. It is estimated that the lithium supply in Bolivia is somewhere around 5.4 billion tonnes. Significant deposits of lithium can also be found in China. The Chinese government has declared the lithium battery industry to be a “strategic industry” and will likely support its development. While lithium batteries are currently the most popular option for automobiles, they are still heavy and expensive. For example, GM’s electric car, the Volt, has a battery that is six feet long and weighs around 400 pounds. The cost of an electric car battery is in the range of $10,000-$20,000 each. Lithium batteries can store up to three times the power of nickel-metal Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 22 hydride batteries. They are clearly superior to conventional batteries. Further advances in lithium battery production may be able to produce smaller, lighter, and faster charging batteries. At least one reported research study shows this promising development. BYD’s advantage in this technology is the productions of ferrous lithium ion batteries, which are safer and cost about half of those of the competition, according to BYD’s general manager of its Export Trade Division, Henry Z. Li. With a big shift towards lithium batteries as a power source for vehicles is the possibility of supply problems. Bolivia, the largest potential source of lithium has a socialist president and an indigenous population not keen on development of the region. The possibility of undersupply, and or a cartel similar to OPEC would reduce the viability of electric cars. The United States is behind Asia in battery production and research. Sanyo, NEC, and LG have created core competencies in batteries and achieved economies of scale that will require the Americans some time to catch up U.S. firms in the industry are relatively small upstarts such as A123 Systems and Ener1 (ENERDEL). Even GM’s proposed electric car, the Volt, is powered by the Korean company, LG. American automakers have yet to establish firm strategic alliances with American lithium-ion battery producers. Serious movement into electric vehicles will require investment money, long term commitment and strategic alliances. Nissan has partnered with NEC to allocate $1B towards battery development. Toyota-controlled Panasonic EV Energy recently bought Sanyo for its battery making ability. While the U.S. is behind Asia in battery technology, a number of promising companies have arisen to research and develop batteries needed to fuel electric cars. Ener1 already operates two factories in Indiana and one in Korea, and is building another factory in Michigan. The Big Three: General Motors, Chrysler and Ford, have been considering alternative vehicles since the 70’s, however there is still a lack of knowledge about this technology and its useful application in the automotive market. An Indiana based company, Bright Automotive, has been working on a commercially viable plug- in electric vehicle, but does not anticipate rollout of the all electric powered vehicle until late 2012 or early 2013. Another Indiana based company, EnerDel, sees its primary focus as the automotive market, but is also actively working with the aviation, aerospace, and industrial markets. EnerDel works closely with the automotive industry and is excited about the prospects of its lithium ion battery, which is 100% recyclable, but the company representative admits that the batteries are still fairly expensive to produce and the firm continues to work on issues of energy storage and offloading electricity. It seems that BYD is moving much faster and much more aggressively in the direction of introducing an all electric car. Its e6 model is scheduled to be released at the end of 2009 and is much more competitively priced than the offerings of its Western competitors. Furthermore, BYD has tapped into a cost innovation strategy by reducing manufacturing costs through reverse engineering the expensive Japanese battery models and substituting the expensive raw materials with cheaper substitutes. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 23 FIGURE 2 Key Players in the Electric Auto Battery Industry A123 (USA) M.I.T. spin-off with $250M in venture capital AESC (Japan) Joint venture between Nissan and NEC BYD (China) Largest battery producer in China ENERDEL (USA) Once part of Delphi. Invested $200M in Indiana plant Johnson Controls/SAFT (USA/France) Joint venture with plant in France LG (Korea) Leading producer of lithium-ion batteries for cell phones Panasonic (Japan) Owns Sanyo Electric, the largest producer of rechargeable batteries. Source: Business Week, February 23, 2009. BYD Perhaps the most interesting player in the electric car arena is BYD. While most Americans had never heard of the company with its headquarters in Shenzhen, China, the company captured international attention when Berkshire Hathaway bought a 10% interest in the company. Warren Buffett wanted to buy 25% of the company, but BYD refused the offer. A company known for being cost-conscious and frugal, BYD has consistently been profitable. Located in Shenzhen, a manufacturing megacity better known for electronics, the company gained a competitive advantage by finding creative and innovative ways to manufacture batteries of high quality at costs lower than rival Japanese and American brands. The founder of the firm has bet on the substitution of low-cost labor for expensive machinery, and attention to detail, and these strategies have proven to be successful. By 2000, BYD had become the biggest producer of cell phone batteries. BYD raised capital through a public stock offering on the Hong Kong Stock Exchange in order to increase the size of its battery business. In 2003 company founder, Wang had the opportunity to purchase a failing state-owned automobile manufacturer. He thought that the company could leverage its battery competence in the auto industry by producing electric cars. While many thought that BYD was making a mistake in moving into automobiles, others thought differently. As Joann Muller of Forbes magazine stated in 2004: “In the vast and looming Chinese automobile market now dominated by foreigners, a small Chinese company called BYD is barely noticeable … Amateur hour maybe, yet it would be foolhardy for General Motors, Volkswagen and other foreign makers to ignore Chinese companies like BYD.” (Muller p. 76). It appears that she was right. With the capital injection from Berkshire Hathaway and a focus on an increasing share of the auto market, BYD has positioned itself well to compete internationally. BYD seeks to position itself as an innovator and to tap into the growing green business by not only producing electric automobiles, but also making its batteries environmentally Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 24 friendly. BYD is producing batteries that contain nontoxic fluids and thus do less harm to the environment, if the battery is discarded instead of being recycled. In addition to being environmentally friendly, BYD believes that it has made a major breakthrough in battery technology which will produce a longer lasting charge and allow the battery to be recharged numerous times, at the same time keeping the costs significantly lower than those of its competition. The U.S. Department of Energy is studying the claim made by BYD concerning its new battery technology. BYD operates eleven factories and employs 130,000, with most production facilities in China, but also operates factories in India, Hungary, and Romania. BYD employees, including engineers and scientists typically live on the company grounds with BYD providing housing and other living expenses. The labor cost is a fraction of the costs found in the United States or Europe. BYD has two offices in the United States, both close to important customers. BYD offices can be found in Elk Grove, Illinois and San Francisco, California, based on the location of its two major U.S. customers, Motorola and Apple. Most of the firm’s revenue comes from cell phones, components, and batteries, but automobile sales have been playing an increasingly significant role (Figure 3). FIGURE 3 Source: Fortune April 27, 2009 Revenue has increased consistently, and with the exception of 2005, BYD has had consistent profitability (Figures 4 and 5). BYD has achieved an impressive record in its short life utilizing low labor costs, little outsourcing, and successful innovation. The company is transferring its cutting edge technology innovation to the automotive market and at the same time closely following the global trends in green marketing that focus on a higher level of cost consciousness. BYD was named the second most innovative company in China in 2009 by Fast Company magazine. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 25 FIGURE 4 FIGURE 5 Source: Fortune April 27, 2009 BYD currently produces a number of vehicles including the F3DM : DM stands for dual mode, which means that the car can run on dual energy sources. The environment-friendly battery can be fully charged in as little as an hour. This model sells in China for around 22,000 USD. This hybrid car can travel 62 miles on a single charge and is the first mass produced plug in hybrid in the world. The difference between it and the Toyota Prius is that it is less expensive, has a very small engine and relies significantly on battery power, cutting down the costs of utilization and its carbon footprint. The F6 CVT has been widely distributed in the European market since 2008. BYD prides itself on equipping this particular model with a gasoline engine that possesses an innovative electronic fuel injection system that features high power to oil ratio, compact structure, low oil consumption and low emissions. The e6 is the latest addition to the BYD lineup of models. According to optimistic BYD predictions, it is slated for introduction the at the end of 2009 and could be sold in the United States as early as 2011. The e6 is an all electric vehicle that offers zero pollution, low noise, and guarantees that all the chemical substances in its battery can be recycled. It also offers 0 to 60 MPH acceleration in 8 seconds and is roomy enough to seat five adults. The best part of the vehicle utilization is that it can be plugged into a household socket to obtain a charge, and doesn’t have to rely on special “juicing stations” and can drive almost for almost 250 miles on a single charge. The estimated cost of this groundbreaking vehicle would be $30, 000 to 40,000. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 26 CONCLUSION With the American auto industry in a tail-spin, and the world’s supply of oil limited, BYD hopes to position itself to become the world’s largest car manufacturer. The Company is attempting to leverage its core competencies in battery production and development to meet the future needs of the driving public. It believes that the future of the auto industry will be in electric vehicles. In order for electric cars to replace gasoline powered one, infrastructural changes will have to be made to quickly charge depleted batteries, much like present day gasoline stations. Another possibility would be a battery replacement station in which a depleted battery is quickly replaced with fully charged one. Such battery changing stations are currently being developed in Japan, Denmark, and Israel. While Mr. Buffet may agree with BYD’s vision of the future, the company faces many challenges as it attempts to compete with the world’s largest automakers. DISCUSSION QUESTIONS Do you think electric cars are a viable alternative to gasoline-powered vehicles? What is the future of the electric car? Explain your answers. What are the strengths, weaknesses, opportunities, and threats of BYD? What suggestions would you make to BYD in order for it to achieve its goal of becoming the world’s largest automobile manufacturer? REFERENCES Balfour, Frederick (2008). China’s First Plug-in Hybrid Car Rolls Out. Business Week, December 16, 13-13. Bulkeley, W. (2009). Obama administration sparks battery gold rush. The Wall Street Journal, May 26. Castaldo, J. (2009). The lithium deficit. Canadian Business, 82(7), 17-18. Engardio, P., K. Hall, I. Rowley, D. Welch, and F. Balfour. (2009). The electric car battery war. Business Week, February 23, 52-54. Garthwaite, J. (2009). Battery breakthroughs: Progress on electric cars. Business Week, March 18. Grove, A. (2009). Andy Grove on battery power. Fortune, April 27, 62. Gunther, M. (2009). Buffett takes charge. Fortune, April 27, 45-50. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 27 Haung, K. (2008). China’s BYD plans U.S. hybrids. Automotive News, November 27, 6. Kahya, D. (2008). Bolivia holds the key to electric car future. BBC News, November 9. Keegan, P. (2009). Recharging Detroit. Fortune, April 27, 55-60. Lee, A. (2009). Most innovative companies in China. Fast Company, February 11. Muller, J. (2004). Thanks, now more over. Forbes, July 26, 76-78. Raymond, C. and N. Shirouzu. (2009). Volkswagen, BYD may team up on plug-in cars. The Wall Street Journal, May 26. Reed, J. (2009). Proton to build cars for Detroit Electric. Financial Times, March 30. Vlasic, B. (2009). Detroit goes for electric cars, but will drivers? The New York Times, January 11. Wernle, B. (2009). Chrysler is several steps away from electrics. Automotive News, January 1, 10. White, J. (2009). Kiss the guzzler goodbye. The Wall Street Journal, May 26. Winter, D (2009). China’s BYD Promises EVs in U.S. by 2011. Ward’s Auto World, February Walters, J., Kamischke, R. (2009). New Economy, New Rules (webinar), June 4. Williamson, P. Zeng M., (2009) Value-for-Money Strategies for Recessionary Times, Harvard Business Review, March. http://www.byd.com. Accessed on May 14, 2009. http://www.ford.com. Accessed on May 14, 2009. http://www.gm.com. Accessed on May 14, 2009. http://www. hybridcars.com. Accessed on May 14, 2009. http://www.toyota.com. Accessed on May 20, 2009. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 28 Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 29 PEGASUS RESEARCH INSTITUTECTHE DEVELOPMENT OF A COST ACCOUNTING AND PROJECT MANAGEMENT SYSTEM FOR A SMALL DEFENSE CONTRACTOR Richard E. McDermott, Weber State University CASE DESCRIPTION This case addresses cost accounting for contractors, a topic neglected in many cost accounting courses. It focuses specifically on contractors who work within the defense industry. The defense industry was chosen for its rich array of incentive-based contracts, which provide unique challenges to management accountants. The case is based on an actual firm, although names and places have been changed for the purpose of confidentiality. Although the firm explored is a defense contractor, most principles taught are applicable to contractors in other industries. The case is written in an easygoing style with language and humor intended to appeal to college students, and is designed to be covered in three one-hour class periods. Student preparation time should be approximately two hours for each hour of class. The difficulty level is five to six and is best suited for advanced or graduate cost accounting courses. The case is best worked in groups of three to five students. An appendix provides definitions of terms unique to the defense industry. CASE SYNOPSIS Evan Elmore, a graduate of a master=s program in accountancy, has recently married and accepted a job as a chief accountant of a small defense contractor. After spending his savings to move himself and his new bride to a distant town, he discovers that his employer is on the verge of bankruptcy. Reasons for the firm=s marginal performance include: (1) a lack of understanding of how to bid and later bill the various forms of incentive payment contracts awarded by the Department of Defense (DOD), and (2) an inability to produce cost reports that provide the information needed for managers to control costs. The survival of Evan=s employer, and the possible viability of his own career, is dependent upon his ability to fix these problems. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 30 SECTION ONE INTRODUCTION Evan Elmore drummed his fingers impatiently on the gray metal table in the boardroom of the Pegasus Research Institute. The furnishings looked like they had been purchased from an Army surplus store. He smiled cynicallyCit was quite different from the work environment described to him when he accepted the job as the company=s new chief accountant. For the third time in as many minutes, he checked his watch. His lips drew into a thin line of I rritation. The president had scheduled his first meeting with the management committee at 12:00 noon. It was now 12:15, and no one was there. Was this characteristic of the way management ran the company? He shook his head in disgust. This was his first day of workCit had not been a stellar morning. Four weeks earlier, Evan had been preparing to graduate from the Masters of Accountancy program at Oklahoma State University. Unlike many of his classmates, he shied away from public accounting. APublic accounting recruits are nothing more than cannon fodder!@ Barry Cohen, a classmate, told him over lunch one day in the student union. Barry wore large horn-rimmed glasses that magnified his eyes in a scary sort of way when he got excited. AThe firms work you 16 hours a day at starvation wages, and when they=ve used you up, they spit you out!@ he exclaimed. Barry leaned forward as though sharing a secret. AIf you want a life,@ he said, Awork in industry, be a management accountant.@ Barry=s judgment wasn=t the best. Still, for someone with Evan=s interests, a job in industry seemed like a reasonable alternative. The problem, however, was that a suitable position had not presented itself, at least in the time he had spent hunting for a job. Spring semester of his senior year, Evan met and fell in love with Susan Holloman, the daughter of a prominent Tulsa judge, and spent more time courting her than he did looking for a job. Two weeks before graduation, Susan accepted his proposal of marriage. There was just one problem, her father wanted to know how Evan planned to support his daughter. The judge realized that by the end of May, most accounting graduates had a job. All Evan had was Susan. On May 22, just as Evan was starting to panic, he received a call from Lewis Levine, a former fraternity buddy. Levine had graduated in December, and gone to work in contract administration for the Pegasus Research Institute, a defense contractor in Dayton, Ohio. The company needed a new chief accountant, and the President, Charles Anderson, asked Levine to help identify candidates. Anderson, it turns out, was Levine=s Uncle. Levine explained the company was small but had great growth potential. AWe are just five miles from Wright Patterson Air Force Base,@ he said, Ahome of aeronautical research and development for the U.S. Air Force.@ Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 31 Evan discussed the job with his future wife, and with Judge Holloman. Following a brief telephone interview with the president, Evan accepted a job offer. The young couple was married June 1st, and now two weeks later, they were moving into a small apartment in downtown DaytonCif you can call moving in without furniture, moving in. Susan had called Evan earlier that morning to remind him that the moving company was not going to deliver their furniture until they a received a check. The firm had yet to send the $1,000 for moving expenses promised at the time Evan accepted the job. Susan=s call came as Evan was completing his orientation with Levine. Levine, it turned out, had quit his job. AToo much pressure,@ he reported. He was taking a year off to find his Ainner self.@ Evan=s eyes reflected surprise and disappointment. He planned on leaning heavily on Levine, as he knew little about defense contracting. There was an awkward silence. Levine grabbed his name badge. ALet=s go on a tour of the plant,@ he said, in an effort to cheer his old friend up. For the next hour, he introduced Evan to many of the firm=s employees. After their tour, he filled Evan in on the strengths and weaknesses of each member of the management committee. Evan learned that the president, Charles Anderson had worked for 20 years as a chief engineer at Northrop before buying Pegasus from Wright State University. Wright State=s faculty had long opposed the acceptance of research contracts from the Department of Defense (DOD), and finally persuaded the university to negotiate the transfer of their contracts to a for-profit institute, which the university then sold to Anderson. ACharles Anderson is a good engineer,@ Levine said, Abut not very good with people.@ He paused for a moment trying to find just the right words. AI would probably describe his style as management by intimidation,@ he said. AAnderson=s right hand man is Henry Frye,@ Levine continued. AHe=s vice president of marketing. Anderson hired him from Air Force Procurement. It raised eyebrows at the base, as Frye had just awarded Pegasus a large fixed-price contract. ABig time violation of revolving-door legislation,@ Levine continued. AThrough legal maneuvering, however, Frye was able to keep both of them out of jail.@ AGotta watch Frye,@ Levine advised. ASince he=s paid on a commission, his incentive is to sell contracts. Sometimes, he promises more than the firm can deliver. David Lee is the other key player. Like Anderson, his background is engineering. He serves as project director on several key projects, but hasn=t been able to get a handle on cost control.@ Levine looked at his watch. ATime to go,@ he said. AAnother appointment.@ AAnything else you want to tell me?@ Evan asked skeptically as Levine turned to leave. AActually, there is one more item,@ Levine said, pausing at the door. AThe company has yet to be paid on its largest contract.@ He scratched his scruffy beard as though considering the problem for the first time. ASomething about defective pricing,@ he continued. AUnless you and Anderson can work something out with the Defense Contract Audit Agency (DCAA), you won=t be able to make payroll Friday.@ Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 32 Evan=s eyes grew wide with astonishment. It was clear now why his moving check hadn=t arrivedCthe company had cash flow problems. As he tried to picture how Susan would react to eating off a card table, the door to the boardroom flew open and the management committee marched in. Anderson first, followed by Frye, then Lee. Behind Lee was a slight man with a weak chin and rooster-like eyes. AThat=s Arnold Sprouse,@ Levine whispered, Aour purchasing agent.@ Last through the door was the president=s secretary. She pushed a serving table loaded with sack lunches, which she distributed as the committee members took their seats around the board table. The room was heavy with tension as President Anderson took his chair at the end of the table. He had just been on the phone with an auditor from DCAA about a certified letter he had received earlier that morning. AGentlemen!@ he began, AThis is the most serious crisis we have ever had at the institute!@ Pausing for dramatic emphasis, he slowly looked around the table, making eye contact with each member of his management team. Satisfied he had their complete attention, he retrieved the certified letter, detailing DCAA=s findings during its most recent audit. Anderson read from the letter. AContract FFP-0001, a firm-fixed price contract. Contract price bidCone million dollars.@ He turned and glared at David Lee, project manager. AHow much have we spent contract-to-date?@ he asked. Lee gulped. AAlmost one million dollars,@ he replied. AHow much will it cost to complete?@ ADunno sir.@ Anderson=s face reddened as he continued reading. ADelivery date June 15th.@ He lifted his beefy arm and glared at the calendar on his watch for effect. AIt is now June 18th,@ he drawled. He refocused his eyes on the project manager. AWhen will it be done?@ he asked. ANot sure,@ Lee replied. AAnd why not?@ Anderson asked, feigning benevolence. AThe scope of work keeps changing,@ Lee replied. Anderson turned to Levine who was providing contract administration on the project. AThe scope of work keeps changing?@ the president asked incredulously. Levine had just taken a generous bite of cold slaw. His response was muffled. ADon=t know nothin= about it,@ he said, wiping his chin with a napkin. He nodded at the vice president of marketing. AFrye mentioned some time ago his friends at Wright-Patt wanted a few more bells and whistles on the system.@ He shook his head. AHaven't seen a shred of paperwork.@ Anderson shot a withering look at Frye. AYou=re not going to tell me we=ve added new features to the system, without an amendment to the contract?@ he asked. ASmall technicality,@ Frye sniffed. ASmall technicality!@ the president shouted, tossing aside any trace of false geniality. AWithout an amendment, we won=t get paid!@ Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 33 Frye dismissed the idea with a wave of his hand. AWe=ll make it up someplace else,@ he said. AI have friends in procurement. I can get them to issue a cost-reimbursement contract with a vague work statement,@ He nodded in agreement with himself. AWe=ll charge the cost overruns there!@ he said. AThat's illegal!@ the president said. AOnly if we get caught,@ Frye replied. AYou=ll get us all thrown in jail!@ the president retorted. ANot all of us,@ Frye mumbled, more to himself, as he flecked a shred of coleslaw on his tie. APart of the problem is the purchasing department=s fault,@ Lee said. AContract-to-date material costs are running 20% higher than bid.@ The purchasing agent, Arnold Sprouse, joined in. AThat=s because no one gave my department the opportunity of pricing materials when the bid was prepared,@ he said. AThen who priced them?@ the president asked. AOur marketing VPCHenry Frye,@ Sprouse replied. AHe also provided the estimates for labor and tacked on the overhead.@ AI thought that=s what our engineers are supposed to do,@ Anderson said. Frye shrugged. AI was in a hurry,@ he said. AWrestling with our bureaucracy would have delayed the bid at least two weeks.@ President Anderson took a deep breath in anticipation of the answer to the next question. ATell me,@ he asked. AWithout input from anyone, how did you come up with a price of $1,000,000 for the bid?@ AOne of my friends in procurement tipped me off that was what the Air Force set aside for the project.@ Frye shrugged. AHeck, you can do anything for a million dollars.@ The president threw his hands in the air in disgust. The gesture failed to impress Evan. Where was the president when all this was going on? Certainly, this is not the first he has heard of these problems. President Anderson, either enjoyed dramatics, or was a master at blame passing. David Lee, project manager, now spoke. AEven if the bid had been accurate, it would have been hard to bring the project in on budget, given the reports we get from accounting.@ Evan, who would be assuming responsibility for cost accounting, injected himself into the conversation for the first time. AWhat=s wrong with the reports?@ he asked, ready to take notes. AThere=s not enough detailClittle we can use to control costs.@ ASuch as?@ Evan asked, writing Lee=s comment on a notepad. AThe reports tell how much has been spent for labor, but provide no detail on how much work has been done. Without that, there is no way to tell if we are over budget.@ Evan nodded, as he considered the problem. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 34 AI=ve tried to get contract costs broken into milestones and tasks,@ Lee continued. AYour predecessor said he couldn=t do that in the general ledger; if I wanted that detail, I would have to track the costs myself.@ While Evan took notes, the president moved onto another topic. Once again, he read from the certified letter. AIn violation of section 31.203 of the Federal Acquisition Regulations (FAR), the pricing rates used in billing cost-plus-fixed-fee contract CPFF-0001 were never approved. Until approved rates are in place, we have suspended progress payments on all cost-reimbursement contracts.@ Anderson=s brows drew together in a questioning expression. AWhat in the Sam Hill does that mean?@ he asked. AIt means our former chief accountant didn't do his job,@ David Lee replied. There was a pauseC AThat's why we hired Evan Elmore, isn't it? To fix this mess?@ Lee looked around the room at the other members of the committee. ALast time we met, Levine told us Evan was a guru in defense contractor accounting,@ he said, stressing the word guru. Evan=s eyes opened wideCit was news to him. He shot a questioning look at Levine, who refused to return eye contact. President Anderson nodded. A light came on in his eyes, and for the first time during the meeting, his body relaxed. AThat=s right,@ he said, nodding in agreement with himself. AThat=s why we hired Evan Elmore, isn=t it?@ A benevolent smile spread expansively across Anderson=s face as he turned to Evan. AI was wondering what to do about tomorrow=s board meeting,@ he said. ANow, I can report to the directors that we have handled the problem!@ He continued with an air of self-approval. AThat should clear the way for me to approach the chairperson for another loan.@ As the committee left the room, everyone smiled in recognition that the president had found a way to avert disaster. Everyone, that is, but Evan Elmore. *** It was evening and most of the employees had gone for the day. Evan sat quietly in his office, building a model of a funeral pyre from a box of pencils on his desk. He had yet to call his wife about the moving expenses. Most likely, they would borrow $1,000 from her father to get their furniture out of hawk. He shook his head ruefully and reviewed his options. The company was in trouble, and so was he. He could bail out, break and run, but where would he go? Back to Tulsa where they could move in with his wife=s folks? And then what? A one-day tenure as chief accountant of Pegasus would do little for his resume. His job prospects would be as bleak as before. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 35 He wondered if he had the training or experience to solve the problems President Anderson and his former controller had created. He placed one more pencil on the pyre and it collapsed, strewing pencils across the desk and onto the floor. As ill advised as accepting the job had been, quitting was not an option. As he gathered the pencils, it occurred to him that many important decisions in his life had been made with little forethought. Before the wedding, life had been Afun and games.@ Now he had the responsibility of providing for a family, it was time to Agrow up.@ Evan turned and stared out the small window at the vacant parking lot below. He was on his own. Where do I start? he wondered. On the far wall of his office was a blackboard. He crossed the room and picked up the chalk. One by one, he began to list the problems he uncovered his first day of work. When finished, he prioritized them into the order in which he would address them. ASSIGNMENT ONE 1. Prepare a list of the problems facing Pegasus Research Institute. Prioritize them in order of importance. 2. Evan=s situation illustrates the importance of performing Adue diligence@ before accepting a job offer. Prepare a list of questions you feel accounting graduates should ask whenresearching a potential employer. Tell where one might find the answers. 3. President Dwight Eisenhower was the one who coined the terms Amilitary-industrial complex@ and Agovernment-industry revolving door.@ Using the internet as a resource, define both terms. Explain why the practice exists, and discuss the problems it causes. SECTION TWO Forward-pricing Rates Having prioritized the problems facing the firm, Evan decided the most pressing problem was the cost-reimbursement contract. Without approved forward-pricing-rates, DCAA would not authorize periodic payments, and the company would be unable to make payroll. Tuesday morning, Evan called the Dayton office of DCAA and was routed to Frank Davis, the auditor assigned to provide field support to Pegasus Research Institute. As Evan was to learn, the government has a strong interest in preserving the financial viability of its defense contractors. Without contractors, there would be no one to build weapon systems. Davis, consequently, was responsive to Evan=s request for help and agreed to meet with him later in the day. At 2:00 p.m., Davis arrived at Evan=s office. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 36 Frank Davis had learned by experience that contractors vary greatly in their understanding of the rules of defense contracting. He began with a discussion of application of overhead costs to work-in-process, as he knew Evan would be familiar with that concept from his accounting training. AThe Financial Accounting Standards Board (FASB) mandates that overhead be treated as a product cost,@ Davis began. AContractors typically apply overhead through the use of an overhead rate. The overhead rate is calculated by dividing estimated overhead by some base. This base can be direct labor dollars, direct labor hoursCanything that correlates with or drives overhead costs,@ he said. AOther indirect costs receive no such treatment, but are shown on the income statement as period costs. ASince our objective is not inventory valuation, but contract pricing, we recommend that all indirect costs be applied to defense contracts through the use of rates. @ Davis pulled a file containing the notes of his first meeting with Pegasus from his briefcase. AWhen Pegasus began operation,@ he said, AI recommended the company select three rates for use in bidding contracts: (1) an overhead rate that uses as its base direct labor dollars, (2) a materials handling rate that uses as its base direct materials, and (3) a G&A rate that uses as its base total contract costs (the sum of direct labor, direct materials, overhead, and material handling costs). Davis explained that DCAA must approve, through an audit, a contractor=s proposed rates prior to the award of any cost-reimbursement type contract. AIn some situations,@ he said, Acontractors can apply for forward-pricing rates. These save the firm from having to request an audit every time they bid a new contract.@ Davis looked at Evan over the top of his glasses. ASomehow, we missed this step when we accepted the bid for your first cost-type contract.@ For the remainder of the day, Frank Davis and Evan Elmore worked on a proposal for forward-pricing rates for 2009 calendar year. The source document was Pegasus= 2009 budget shown as Table 1. ASSIGNMENT TWO 1. From the 2009 pro forma income statement for Pegasus (Table 1), prepareforward pricing rates using the formula given above. 2. Use these forward-pricing rates to calculate a bid price for a firm-fixed-price contract with an estimated $450,000 of direct labor, and $600,000 of direct materials. Assume that management wishes to earn a 10% fee or profit on this contract. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 37 Table 1 Pegasus Research Institute Pro Forma Income Statement; Fiscal Year 2009 Sales $ 22,306,125 Less contract costs Direct labor 5,500,000 Direct materials 7,800,000 Material handling cost 1,170,000 Overhead 3,025,000 Contract costs 7,495,000 Gross margin 4,811,125 G&A 4,373,750 Income before tax $ 437,375 Bidding Procedures Two days after submitting his proposed forward-pricing rates for 2009, Frank Davis notified Evan they were approved. Evan was then able to renegotiate the price of the contract and the government paid for the work done to date. Evan now turned his attention to the problems of contract bidding and cost control. To gain a better grasp of these topics, he once again sought help from Frank Davis, DCAA auditor. Davis began by reviewing the procurement process for all Department of Defense (DOD) contracts. He explained that when the DOD wishes to buy goods or services, procurement issues either an Invitation for Bid (IFB), Request for Quote (RFQ), or a Request for Proposal (RFP). If procurement knows exactly what it wants (i.e. the product specification, the quantity, and delivery date), it uses an IFB. If procurement only wants current market pricing data, it uses an RFQ. If procurement is not sure what it wants, but wishes to have the contractor work with it to develop a specification, it uses an RFP. RFPs can be either competitive or non-competitive. Review and Approval Evan recognized that many of the firm=s problems had arisen because Henry Frye had prepared bids for contracts without input from those who would be doing the work, and without approval from finance or contract administration. Davis provided Evan with a bid release form used by another contractor. This, Evan used as the basis for a new bid release procedure at Pegasus. Prior to the release of a bid, the chief accountant would sign to verify that the company had sufficient working capital to complete the contract, and that the contract provided for periodic payments, and that the approved forward-pricing rates had been used. The director of human resources would verify that salaries were correct. The director of purchasing would Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 38 review the proposed bill of materials, verifying with vendors that prices were correct and including an adjustment for inflation, when the contract would run over an extended time period. The firm=s attorney would review the contract to see that terms were favorable to the company. Lastly, Evan got the management committee to agree that the only individual with the authority to sign or change a contract was the contract administrator. Analysis of PerformanceCManagement Accounting By August, Evan was familiar enough with the unique problems of defense contracting to start analyzing why Pegasus was doing so poorly. He gave special attention to the company=s first firm-fixed-price contract FFP-001, which the project manager still estimated would overrun its budget by approximately $500,000. In his spare time, Evan had studied the Federal Acquisition Regulations (FAR). One section that caught his interest reviewed techniques for estimating contract costs. The only one that made sense for Pegasus was detailed estimating. Detailed estimating involves the preparation of a detailed design, from which work is broken into tasks, each with a budget for labor and materials. These tasks then become the cost centers for the job costing system. Avery Mitton, a project manager recently hired from Boeing provided some interesting insights about Pegasus=s traditional job cost reports. AThe problem at Pegasus,@ she said, Ais that management often doesn=t learn a project is in trouble until it is too late to take corrective action. On FFP-001, for example, engineers reported they were on budget up until 95% of the labor budget was spent. It now appears that the last 5% of the contract will cost as much as the first 57%. The problem, of course, is that management assumed that a 95% labor dollar expenditure implied that 95% of the work had been accomplished.@ She shook her head. AThat assumption was deadly wrong.@ To prevent similar occurrences in the future, she suggested that the new job costing system report both Alabor spent@ and Alabor earned.@ Since Evan didn=t know what the term >labor earned= meant, she explained. ABy labor earned, I mean the actual amount of work done. In a small company like this, the best way to do this is to have the project leader provide an estimate of the amount of labor required to finish a task. This should be done at the end of each payroll period. This amount would then be subtracted from the labor budgeted to determine earned labor.@ She gave an example. ALet=s assume,@ she said, Athat a new contract has 25 tasks. Task 1 has a budget of $10,000. During the first pay period, $7,000 of labor is charged against this task. As the project manager submits the time cards, she is asked to estimate the labor dollars still needed to complete the task. The estimate is $6,000. Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 39 ATo calculate the labor dollars earned, the cost accountant would subtract that $6,000 from the initial budget of $10,000. The result would be $4,000; the amount of labor actually earned which is synonymous for the amount of work actually done.@ ATo calculate what the total cost of the task will be, the accountant would now add the labor spent-to-date, $7,000, to the labor estimated to complete the task, $6,000. Task 1, with an original budget of $10,000, would now be estimated to cost $13,000. It would be up to the project manager to find a way to eliminate the potential $3,000 overrun. This could be done by completing the current task for less, or completing a future task for less than budget. The nice thing about publishing a report every two weeks is that the information is available early enough to take corrective action.@ ASSIGNMENT THREE 1. Explain why it is not enough to know only the labor budget and the labor dollars spent-to-date when managing a fixed price contract. 2. The cost reports previously received by project managers provided three figures: (1) budget, (2) costs spent contract-to-date, and (3) percent of total costs spent. Identify additional information that you think would be useful for a project leader managing a complex firm-fixed-price contract, and prepare a direct labor job cost report using the data from Table 2. Table 2 Actual and Estimated Labor Dollars for Firm-fixed-price Contract FFP-0010 as of July 2009 Contract Labor Dollar Labor Dollars Spent Estimated Labor Dollars Budget Contract To date to Complete Contract Task 1 $ 85,500 $ 50,000 $ 25,000 Task 2 200,000 120,000 100,000 Task 3 20,000 25,000 500 Task 4 167,000 95,000 65,000 Task 5 205,000 200,000 25,000 Task 6 22,500 15,000 Task 7 65,000 45,000 10,000 Task 8 90,000 55,000 55,000 Task 9 10,000 10,000 Total $ 865,000 $ 605,000 $ 290,500 Journal of the International Academy for Case Studies, Volume 17, Number 1, 2011 Page 40 SECTION THREE Evan=s job was complicated by the fact that the DOD uses many incentive contract types, each requiring separate procedures for bidding, cost control, and revenue recognition. These can be classified into two general categories: fixed-price and cost-reimbursement contracts. Fixed-price contracts are designed for situations where the work can easily be estimated. Fixed-price contracts place the risk of contract overruns on the contractor. Cost-reimbursement contracts are designed for situations where the cost of work cannot be accurately estimated, such as when a project requires state-of-the-art technology or technology yet to be developed. Cost-reimbursement contracts place the risk of contract overruns on the government. The problem with cost-reimbursement contracts is that they provide few incentives for contractors to control costs. To address this problem, the DOD has developed what are called incentive-payment contracts. Both fixed price and cost-reimbursement contracts can have incentive provisions. The four contract types that Pegasus currently had in-house were: Firm-fixed-price contract: With a firm-fixed-price contract, the price is agreed to before the contract is awarded. It remains fixed for the life of the contract, regardless of the cost to perform the contract. In other words, the contractor accepts full financial risk. In the terminology of defense contracting, the risk sharing arrangement is 0/100. If actual costs exceed budgeted costs, the government pays 0% of the cost overrun, while the contractor pays 100%. Fixed-price-firm-target contract: With a f...Order an Essay Now & Get These Features For Free:
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