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Seligram Case Study

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Seligram, Inc.: Electronic Testing Operations
Seligram is a manufacturing company of defense related products. ETO is Seligram’s central testing division providing electrical and mechanical testing services for electric components such as circuits, diodes and transistors. ETO is a cost centre, and under the current accounting system, the costs of components testing are allocated based on direct labor cost. A company’s account manager and a consultant propose alternative methods, whereby separate pools are formed, and machine hours are used as a hand to allocate the costs that are not associated with direct labor. Pros and Cons analysis has been done, and calculations have been carried out to conclude that the consultant’s proposed plan is the best option as it allocates costs closest to the associated sources of costs.
The questions which we need to answer here are: * What caused the existing system at ETO to fail? * Of the existing system, system proposed by the manager and the system proposed by the consultant which one is preferable? * Any recommendations to the system preferred? * What are the repercussions of treating the new machine as a separate cost center or as a part of the main test room?
Let’s see the answers to these questions one by one. * The existing cost system at ETO failed because it didn’t match their complex business model which comprises of 200+ different standard process flows, 6500 different software programs, 1500 tools and fixtures, multiple machines, testing for 100’s and soon 1000’s of conditions. Yet they have a simple all-in-one cost system that uses a single metric (direct labor hours) to cost for every product type even though that metric is not unilaterally relevant to every product type * The consultant’s proposal is the most preferable because it separates costs based on what activities are occurring in the testing of each product rather than blanketing those costs across all products regardless of testing processes/components. The selection of an optimal cost system is based on trade-offs between increased accuracy and the cost of system redesign * Some of the recommendations which can be considered are allocating costs by machine rather than just by machine hour as different machines have different costs to buy, appreciate, run, etc., standardizing costs according to the type of test, splitting into a 4th pool separating engineering overhead costs from G&A overhead costs, providing different amounts of engineering support for different tests/products * A new machine should be treated as a separate cost center than as a part of main test room because there is a potential loss of 25% of customer base by allocating new costs to main test room. Hence, failing to treat the new machine as a separate cost center seriously distorts the burden rates

Based on the case these are the recommendations I could come up with for the key questions defined.…...

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