Mile High Cycles Assignment Questions Bob Myer prepared a budget for Mile High Cycles (MHC) at the

beginning of year 2004. In the budget, he envisaged a production of 10,000 cycles and forecast possible production costs, both direct and overheads. Additional demand saw MHC producing 10,800 cycles i.e. 8% more than the budget. Simultaneously, total cost of production exceeded the budget of $10,895,000 to reach $11,969,787, which was roughly 9.86% more than the budget. Appendix-I provides the detailed flexible budget that shows what total costs would have been had MHC produced 10,800 cycles at similar per unit cost as budgeted. The summary shown below (Table-1) indicates that if MHC could maintain the estimated expenses, they would have produced the 10,800 cycles at an individual cost of $1,084, which is $6 lower than the budget of $1,090. This $6 would have meant an addition of $56,000 to their bottom line. Flexible Budget Cost Particulars Frame Assembly Wheel Assembly Final Assembly Var. Other Costs Total Variable Cost Fixed Costs Fixed Other Costs Total Fixed Costs Total Cost Total Cost per Bike Budgeted Costs 4,825,000 1,265,000 3,605,000 500,000 10,195,000 450,000 250,000 700,000 10,895,000 1,090 Cost 5,211,000 1,366,200 3,893,400 540,000 11,010,600 450,000 250,000 700,000 11,710,600 1,084

Table-1: Flexible Budget for Increased Production (All numbers in $) However, the actual production costs were higher than the flexible budget and totaled $11,969,788 or $1,108 per cycle. Appendix-II shows detailed calculations of the actual costs compared to the flexible budget. The appendix also shows the variances on individual scores as calculated. The variances consist of two parts. The first is the variance due to change in the per-unit costs of materials and labor and the second is the increase in costs due to lower efficiency of utilization of inputs. An additional element of rework parts appears that Bob had not accounted for while preparing the budget. This alone added $70,000 to the total expenses a number that accounts for

about 27% of the total variance in costs. Table-2 below provides a summary of the variance calculations. Cost Particulars Frame Assembly - Steel Tubing - Paint - Labor Total - Frame Wheel Assembly - Parts - Rework Parts - Labor Total - Wheel Final Assembly - Parts - Rework Parts - Labor Total - Assembly Var. Other Costs Total Variable Cost Fixed Costs Total Cost Total Cost per Bike Flexible Budget Cost 3,564,000 27,000 1,620,000 5,211,000 1,296,000 70,200 1,366,200 3,780,000 113,400 3,893,400 540,000 11,010,600 700,000 11,710,600 1084 Actual Results Cost 3,572,100 28,188 1,528,050 5,128,338 1,317,600 25,000 74,250 1,416,850 3,963.600 45,000 116,000 4,124,600 600,000 11,269,788 700,000 11,969,788 1108 Variance Total Efficiency -8,100 -1,188 91,950 82,663 -21,600 -25,000 -4,050 -50,650 -183,600 -45,000 -2,600 -231,200 -60,000 -259,188 -259188 -24 162,000 -500 117,000 278,500

Price -170,100 -688 -25,050 -195,838 -21,600 -25,000 -2,750 -49,350 -183,600 -45,000 -4,000 -232,600 -60,000 -537,788

-1,300 -1,300

1,400 1,400 278,600

Appendix-I: Flexible Budget Initial Budget 10,000 Bikes Rate $30 $20 $15 Cost $3,300,000 $25,000 $1,500,000 $4,825,000 $1,200,000 $65,000 $1,265,000 $3,500,000 $105,000 $3,605,000 $9,695,000 $250,000 $100,000 1 1 Input Efficiency 11 0.125 10 Flexible Budget Output 10,800 Bikes Quantity 118,800 1,350 108,000 Rate $30 $20 $15 Cost $3,564,000 $27,000 $1,620,000 $5,211,000 $1,296,000 $70,200 $1,366,200 $3,780,000 $113,400 $3,893,400 $10,470,600 $250,000 $100,000

Cost Particulars Frame Assembly - Steel Tubing - Paint - Labor Total - Frame Wheel Assembly - Parts - Rework Parts - Labor Total - Wheel Final Assembly - Parts - Rework Parts - Labor Total - Assembly Total Variable Cost Fixed Costs - Rent - Office Staff

Output Quantity 110,000 1,250 100,000

10,000 5,000

$120 $13

10,800 5,400

$120 $13

10,000 7,500

$350 $14

10,800 8,100

$350 $14

- Depreciation Total Fixed Costs Other Costs - Fixed Portion (1/3) - Variable Portion (2/3) Total Other Costs Total Annual Costs - Variable - Fixed Total Cost Cost Per Bike - Variable - Fixed Total Cost per Bike

$100,000 $450,000 $250,000 $500,000 $750,000 $10,195,000 $700,000 $10,895,000 $1,020 $70 $1,090 25 50

$100,000 $450,000 $250,000 $540,000 $790,000 $11,010,600 $700,000 $11,710,600 $1,020 $65 $1,084

Cost Particulars

Flexible Budget Output 10,800 Bikes Quantity Rate $30 $20 $15 Cost $3,564,000 $27,000 $1,620,000 $5,211,000 $1,296,000 $70,200 $1,366,200 $3,780,000 $113,400 $3,893,400 $10,470,600 $250,000 $100,000 $100,000 $450,000

Actual Results Output 10800 Bikes Quantity 113,400 1,375 100,200 Rate $32 $21 $15 Cost $3,572,100 $28,188 $1,528,050 $5,128,338 $1,317,600 $25,000 $74,250 $1,416,850

Variance

Variance division Efficiency Price

Total -$8,100 -$1,188 $91,950 $82,663 -$21,600 -$25,000 -$4,050 -$50,650 -$183,600 -$45,000 -$2,600 -$231,200 -$199,188 $162,000 -$500 $117,000 $278,500 -$170,100 -$688 -$25,050 -$195,838 -$21,600 -$25,000 -$2,750 -$49,350 -$183,600 -$45,000 -$4,000 -$232,600 -$477,788

Frame Assembly - Steel Tubing - Paint - Labor Total - Frame Wheel Assembly - Parts - Rework Parts - Labor Total - Wheel Final Assembly - Parts - Rework Parts - Labor Total - Assembly Total Variable Cost Fixed Costs - Rent - Office Staff - Depreciation Total Fixed Costs

118,800 1,350 108,000

10,800 5,400

$120 $13

10,800 5,500

$122 $14

-$1,300 -$1,300

10,800 8,100

$350 $14

10,800 8,000

$367

$3,963,600 $45,000 $15 $116,000 $4,124,600 $10,669,788 $250,000 $100,000 $100,000 $450,000

$1,400 $1,400 $278,600

Other Costs - Fixed Portion (1/3) - Variable Portion (2/3) Total Other Costs Total Annual Costs - Variable - Fixed Total Cost Cost Per Bike - Variable - Fixed

$250,000 $540,000 $790,000 $11,010,600 $700,000 $11,710,600 $1,020 $65

$250,000 $600,000 $850,000 $11,269,788 $700,000 $11,969,788 $1,043 $65

-$60,000 -$60,000 -$259,188 -$259,188 -$24

The transition in customer preferences from 10-speed road bikes to the 15 to 21-speed mountain bikes for not only mountain and dirt track biking but also for city use marks the most important aspect of Mile High Cycles (MHC) business scenario. Entry into this business at the appropriate time allowed the company to exceed its target of 10,000 bikes in the first year of operations by as many as 800 bikes. A key aspect of the business is the knowledge and passion for cycling the owner Bob Moyer brings to the business. He is a graduate in mechanical engineering and is an avid cyclist who represented Stanford University while in college. The manufacturing process for the bikes appears straightforward as MHC manufactures only the frames in its factory. The other processes of wheel assembly and final assembly require labor for giving the wheels and the bikes a final shape. MHC manufactures its own frames by cutting steel tubing to precise size, shaping them, and welding individual components together before painting. Strict quality control through frequent inspections and measurements marks the process. MHC uses an automatic lacing and truing machine to build the wheels from spokes, rims, and hubs sourced from an outside supplier. Some damages take place during the insertion of the spokes and correcting machine errors requires manual effort. Skilled workers take up the task of final truing and inspection of the wheels before passing them on to the final assembly shop. Using the frames and wheels and a host of other components and sub-assemblies purchased from outside suppliers the assembly shop personnel put together the final package for delivery to bicycle dealers. The cycles do not take final shape here because, in an effort to reduce damage during transit, MHC packs some of the components as such, which the dealers assemble themselves before selling to the ultimate customer.

In the first year MHC produced only one model of mountain bike painted in ten different color schemes. This could act as a constraint for future increase in sales. A distinct market exists for DIY kits for customization of 10-speed bikes. As volumes grow, MHC would need to consider backward integration of its manufacturing facility to include some of the parts and sub assemblies it presently buys from outside vendors. Adding more models, customization/upgrade kits, and backward integration will help expand business but will add greater complexity to manufacturing processes and inventory management.