Case Summary

Lehigh Steel founded in 1913 and has been famous for its high strength and multipurpose
utilization. They produced several products with steel as its material such as Alloy, Bearing,
Conversion, Corrosion, Die Steel, High Speed and High Temp. In 1975, Lehigh was acquired by
the Palmer Company. By this acquisition, Lehigh enjoyed the capability of producing CRM
(Continuous Rolling Mills). CRM is a machine for converting steel immediately to a wire that
will be used for Palmer’s bearing rolls.
Comparing to market, Lehigh financial performance is better but by 1991 its financial
performance is decreasing. For this purpose, Jack Clark its CFO has explored to change from its
current standard cost method to ABC or TOC. Lehigh had a matrix organization structure where
their performance was measured by contribution margin found in standard costing system.

The industry structure consists of 10% of the total US steel industry, Lehigh product compete in
the market by its special steel that use grading to define the different between one product to
another. Lehigh manufacturing division is the one melting, refining, and molding steel in their
production process. The manufacturer sells its semi-finished steel to the distributors/ finishers
division where they shape specifically.

Comparing Actual Based Costing (ABC) and Theory of Constraint (TOC)

Activity Based Costing is the modern costing system mostly used in manufacturing industry by
using the volume as a driver because it can produce the most exact cost during the production
process.
The process is begin by deciding the volume driver then allocating activities to the products and
consumers using the correct cost driver.

Activity Driver Driver Amount Rate Cumulative

Volume Rate
Melting: Depreciation Melt machine $ 2,139,865 0.416
minutes 5,145,632
Melting: Maintenance Melt machine $ 975,130 0.190 1.001
minutes 5,145,632
Melting: Utilities Melt machine $ 2,036,477 0.396
minutes 5,145,632
Refining: Depreciation Refine machine $ 1,711,892 0.301
minutes 5,691,042
Refining: Maintenance Refine machine $ 780,104 0.137 0.745
minutes 5,691,042
Refining: Utilities Refine machine $ 1,745,551 0.307
minutes 5,691,042
Molding: Depreciation Mold machine $ 427,973 0.101
minutes 4,226,965
Molding: Maintenance Mold machine $ 390,052 0.092 0.262
minutes 4,226,965
Molding: Utilities Mold machine $ 290,925 0.069
minutes 4,226,965
Rolling: Depreciation Roll machine $ 2,995,811 0.363
minutes 8,258,382
Rolling: Maintenance Roll machine $ 975,130 0.118 0.587
minutes 8,258,382
Rolling: Utilities Roll machine $ 872,776 0.106
minutes 8,258,382
Finishing: Depreciation Finish machine $ 1,283,919 0.316
minutes 4,057,311
Finishing: Maintenance Finish machine $ 780,104 0.192 0.724
minutes 4,057,311
Finishing: Utilities Finish machine $ 872,776 0.215
minutes 4,057,311
General & Administrative pounds $ 5,400,955 0.107 0.107
50,299,420
Material Handling & orders $ 4,936,068 86.375 86.375
Setup 57,147
Order Processing orders $ 3,953,709 69.185 69.185
57,147
Production Planning orders $ 3,339,500 58.437 58.437
57,147
Technical Support skus $ 5,766,579 868.199 868.199
6,642
Total $ 41,675,296

Standard cost Alloy Coversion Die Steel: Die Steel High Speed
$/lb : Condition : Roller Wire Chipper Knife : Round Bar : Machine Coll
Round
Price $2.31 $ 0.77 $1.02 $ 0.93 $2.33
Materials $ 0.54 $ 0.00 $0.12 $ 0.21 $1.58
DL $0.29 $ 0.07 $0.28 $ 0.18 $0.14
Contribution margin $1.48 $ 0.70 $0.62 $ 0.54 $0.61

Manufacturing
expense
Melting (Electric Arc $0.200 $ 0.000 $0.090 $ 0.090 $0.090
Furnace)
Refining (VOD) 0.156 0.000 0.074 0.074 0.074
Molding/ Breakdown 0.031 0.000 0.018 0.021 0.018
(Ingot/PFF)
Rolling (CRM) 0.059 0.088 0.194 0.053 0.018
Finishing (multiple) 0.043 0.014 0.051 0.058 0.036
General & 0.107 0.107 0.107 0.107 0.107
Administrative
Material Handling, 0.173 0.173 0.115 0.043 0.035
setup
Order Processing 0.138 0.138 0.092 0.035 0.028
Production Planning 0.117 0.117 0.078 0.029 0.023
Technical Support 0.564 0.197 0.15 0.022 0.035
Total $1.590 $ 0.835 $0.970 $ 0.533 $0.465

Operating Profit $ -0.110 $ -0.135 $ -0.350 $ 0.007 $0.145

Operating Profit % -4.74% -17.51% -34.27% 0.79% 6.22%

Production 478,679 2,081,543 2,413,299 6,697,682 2,530,552

Total Operating Profit $ (52,431.15) $ (280,700.12) $ (843,503.10) $ 49,432.09 $ 366,702.64
Total Profit $(760,499.64)

By comparing the ABC to the traditional costing in Lehigh, as we predict that traditional costing
is not precisely measure the cost and profit obtained by Lehigh.

TOC explained the possibilities of weakness factor occurred in multiple related activities in a
business that will suppress the business process as a whole. Understanding this theory will help
management in limiting problem that became a bottleneck in the process. For that reason, this
theory is also named the bottleneck theory.

Theory Of Constraint
Price $2.31 $0.77 $1.02 $0.93 $2.33
Materials $0.54 $0.00 $0.12 $0.21 $1.58

Throughout Contribution $1.77 $0.77 $0.90 $0.72 $0.75

Time taken in bottleneck 0.21 0.15 0.33 0.10 0.10
Throughout 8 5 3 7 8
Contribution/Time taken in
bottleneck

The bottleneck theory explained that there was still bottleneck in production process. In order to
maximize the capability process, Lehigh should optimize the constraint. Minimizing time taken
in production will obviously reduce the bottleneck. The process then repeated for more than once
up to its maximum capacity.