Relevant Cost Analysis—Quality Improvements Destin Company produces water control valves, made of brass, which it sells primarily to builders for use in commercial real estate construction. These valves must meet rigid specifications (i.e., the quality tolerance is small). Valves that, upon inspection, get rejected are returned to the Casting Department; that is, they are returned to stage 1 of the four-stage manufacturing process. Rejected items are melted and then recast. As such, no new materials in Casting are required to rework these items. However, new materials must be added in the Finishing Department for all reworked valves. As the cost accountant for the company, you have prepared the following cost data regarding the production of a typical valve:
the company, spurred by intense price pressures from foreign manufacturers, recently initiated a number of quality programs. As a result, the rejection rate for valves has decreased from 5.0% to 3.5% of annual output (equal in total to 15,000 units). The reduction in reject rates has enabled the company to reduce its inventory holdings from $400,000 to $250,000. Destin estimates that the annual financing cost associated with inventory holdings is 12%.
Required 1. What are the estimated manufacturing cost savings per year (to the nearest whole dollar) associated with the reduction in rework costs? 2. What is the annual financing cost savings (to the nearest whole dollar) associated with the reduction in inventory holdings? 3. Provide a dollar estimate of the total annual cost savings (to nearest whole dollar) associated with the recently enacted quality improvements.