Convenience Cookware, Inc.
Prepared for: The Upper Management of Convenience Cookware, Inc.
Prepared by Team #1 Consulting Firm
October 23, 2009
MEMO
To: The Upper Management of Convenience Cookware, Inc.
From: United Nations of Northridge, Consulting Firm
Subject: Ever Last Ovenware
At the request of Convenience Cookware Inc., the following report is an analysis regarding the company’s Ever Last Ovenware product line. Included are the projected income statements, detailing the two possible decisions made available by management. Also disused are any damages Convenience Cookware Inc. is liable for under strict product liability in the case involving Mrs. Farzam (plaintiff). Lastly, the decisions made by the company’s upper management are evaluated in accordance to principles of ethical decision making. Recommendations are then made as to how Convenience Cookware Inc. should conduct business in the future.
Please contact our firm for any additional information or questions.
TABLE OF CONTENTS
MEMO OF TRANSMITTAL
EXECUTIVE SUMMARY
PROBLEM
FACTS
FINDINGS
ANALYSIS
Budgeted Income Statement of 2007
Strict Liability
Ethical Responsibility to Consumer
CONCLUSION AND RECOMMENDATIONS
APPENDIX
Product Income Statement (2002-2006)
WORKS CITES
EXECUTIVE SUMMARY
PROBLEM
After Convenience Cookware, Inc. detected a problem during testing with their Ever Last Ovenware product, management had two potential options: (1) delay shipment and produce the original ovenware using the old, more expensive method or (2) ship the products without disclosing the possible dangers, hoping that no serious injury occurs, while engineers correct the problem before their next shipment. Management at Convenience Cookware made the decision to move forth with the second option, considering it to be worth the risk. They therefore sold and shipped defective products to their customers. Three months later, an explosion caused by the defect in an Ever Last Ovenware product severely injured a customer, Mrs. Farzam. Due to this occurrence, upper management of Convenience Cookware, Inc. has requested a report including: an analysis of their 2002 to 2006 Income Statements, two constructed Income Statements for 2007, (1) if the redesigned efforts of the product had worked as planned and (2) if the company had delayed shipment and produced the original ovenware using the old, more costly method. In addition to this, they have requested an analysis of the following questions as well as accompanying recommendations.
- What would the budgeted profit and return on sales have been if Convenience Cookware, Inc. had gone with Option 2?
- Under strict product liability, what punitive damages is Mrs. Farzam able to recover?
- Were there any ethical violations in the decisions made by Convenience Cookware, Inc. and who are the stakeholders affected by both options?
FACTS
Ever Last Ovenware, a product line made and sold by Convenience Cookware, Inc., was designed specifically to be able to withstand the stresses normally associated with the transfer of glass products from heat to cold, as in the transfer from a hot oven directly to a cool refrigerator without allowing the glass to return to a normal temperature first. In 2006, as a way of boosting profits to meet the target of 25% return on sales, design engineers for the ovenware modified the product slightly in order that it become less expensive to produce, saving about 35% in variable cost, while increasing product life by 10%. Due to the cost savings, the product manager offered 10% savings to all existing customers and booked sales of 1,500,000 units for the first quarter.
During routine testing, personnel found a serious flaw with the product. After sustained periods at high cooking temperatures of 450-500 degrees, when placed in cool temperatures, the product was found to have the potential for disastrous failure, with the possibility of serious injury to users. This problem was found to occur at a rate of 0.25 percent, or one in four hundred. As a result of this determination, management had two options: First- delay shipment, recycle the current production, and produce the original ovenware, allowing six months to solve the problem. Second- ship the products without calling attention to the defect, attempting to resolve the issue before another shipment cycle at the end of six months. Management made the decision to move forward with option 2, as well as altering the quality testing report to hide the potential threat to consumers and shipped out the orders as planned. Within two months of shipment, 1,575 product claims were made but none involving personal injury. Replacements were provided at a company cost of $12 per unit. In the third month, an Ever Last Ovenware product exploded, spraying glass and hot contents on Mrs. Farzam. A glass fragment struck her in the eye and she suffered second and third degree burns. The accident was reported in newspapers while the department store began investigating the cause. The product manager of Ever Last Ovenware provided the altered testing report and answered questions for the department store’s manager while continuing to sell the product. After several other incidents occurred, causing serious injury to more customers, a quality engineer for the company came forward and disclosed the original test. Convenience Cookware, Inc. was forced to recall all products and halt production.
ANALYSIS
In effort to increase sales, the modified ovenware product was less expensive to produce which saved about 35% variable production costs. The product was indistinguishable in looks and functionality from the original product. The product longevity increased about 10%. The price was lowered by 10%. 1,500,000 pieces were booked for sale to existing customers for the first quarter delivery. If the engineers’ redesign efforts had worked as originally planned, this would be the income statement.
EXHIBIT 1- A
| Product Ovenware
Income Statement for year 2007 |
|
| Sales | $81,000,000 |
| Sales in Units | 6,000,000 |
| Cost of Goods Sold | |
| Variable | 21,645,000 |
| Fixed | 24,033,769 |
| Gross Profit | $35,321,231 |
| Attributable Costs | |
| Marketing | 5,670,000 |
| Other (primarily fixed) | 2,580,475 |
| Product Line Profit | |
| Before G&A Allocation | $27,070,755 |
| Return on Sales | 33.42% |
The company’s selling price in 2007 is $13.50 per unit which is $15 per unit in 2006 minus 10%. Convenience Cookware will produce 1.5 million units per quarter in 2007. To calculate Sales in units for 2007, simply take 1,500,000 x 4 quarters will be equal to 6,000,000 sales in units in a year. Now to calculate sales for 2007, we will take sales of 6,000,000 units and multiply by $13.50, which is equal to $ 81,000,000. The variable cost of goods sold will be $21,645,000 because the variable production cost will be reduced by 35% ($5.55 times six million sales in units minus 35%). To get the fixed cost of 2007, we took the fixed cost for 2005 (Table 1), which is $23,221,033 increased by 3.5 % to $24,033,769. For the projected return on sales for 2007, it would have increased from the previous year from 16.84% to 33.42%. If there were no problems, the product manager would have met his profit target of 25% return on sales in 2007 for the product line with the redesign.
Calculation: ($15 x 10% = $13.50)
a) 1,500,000 x 4 = 6,000,000
b) (6000000 x 13.50 = 81,000,000).
c) 6,000,000 x 5.55 = 33,300,000
(FC of 2005) $23,221,033 + ($23,221,033 x 3.5% + 3.5%) = $24,033,769
Gross Profit = Sales – (VC+FC) = $81,000,000 – ($21,645,000 + $24,033,769)
Under this option shipment would be delayed and about one third of the year’s sales of units would be lost, remaining only 4,000,000. For the first six months, the product would have been produced under the old cost structure with the variable production costs of $5.55 per unit. For the rest of the year, the variable cost savings of 35% would be achieved. However, the product would be sold with 10% price reduction. Recycling the current production would cost an additional $500,000 to fixed cost. $2,000,000 would also be added to fixed cost for design engineering to solve the problem. Marketing and primary fixed costs would remain the same as the original income statement for 2007. The product line’s profits would be $9,151,231. The return on sales for the product line would be 1.67%.
EXHIBIT 1- B
| Product Ovenware
Income Statement for year 2007 Option # 1 |
|
| Sales | 54,000,000 |
| Sales in Units | 4,000,000 |
| Cost of Goods Sold | |
| Variable | 18,315,000 |
| Fixed | 26,533,769 |
| Gross Profit | $9,151,231 |
| Attributable Costs | |
| Marketing | 5,670,000 |
| Other (primarily fixed) | 2,580,475 |
| Product Line Profit | |
| Before G&A Allocation | $900,756 |
| Return on Sales | 1.67% |
The production, quality and product managers of Convenience Cookware, Inc. considered their second option to be producing and selling flawed units for six months while engineers corrected the problem. The defect rate for the first six months is .25%. If the production, quality, and product managers would disclose the problem and hope for the best, perhaps none of the product claims would involve any injury and only product replacement would be required at a cost of $12 per unit. We would then multiply this cost with the 7,500 defected ovenware to get $90,000 and add it to the marketing cost. $2,000,000 would also be added to fixed cost for design engineering to solve the problem. The budgeted profit would have been $33,321,231 and the return on sales would be 30.84%. (Exhibit 1-C)
| Product Ovenware
Income Statement for year 2007 Option # 2 |
|
| Sales | $81,000,000 |
| Sales in Units | 6,000,000 |
| Cost of Goods Sold | |
| Variable | 21,645,000 |
| Fixed | 26,033,769 |
| Gross Profit | $33,321,231 |
| Attributable Costs | |
| Marketing | 5,760,000 |
| Other (primarily fixed) | 2,580,475 |
| Product Line Profit | |
| Before G&A Allocation | $24,980,756 |
| Return on Sales | 30.84% |
EXHIBIT 1- C
Legal Analysis
Strict Product Liability
The Convenient Cookware, Inc. is faced with the lawsuit filed by the plaintiff, Mrs. Farzam, for the injuries she sustained from the defective ovenware product. She is claiming a tort of negligence under the theory of strict product liability. The Ever Last Ovenware product in question falls under strict liability because: (1) the product was defective at the time of sale and was therefore unreasonably dangerous, and (2) this dangerous condition caused injury to the plaintiff. The personnel from Convenience Cookware, Inc. knew of the defective condition of their product and the unreasonable danger to the consumer, from the results of the quality testing in production. The company failed to warn of these possible dangers and in not doing so the defective ovenware caused plaintiff’s injury, leaving Convenient Cookware strictly liable for any damages.
Damages
In this lawsuit dealing with strict liability, if the plaintiff prevails the damages that can be recovered are compensatory and punitive damages. Compensatory damages are monetary damages recovered to compensate for any losses due to injury, including medical expenses, lost pay and benefits, or intangible losses such as emotional distress. . In this case, the plaintiff not only sustained an eye injury due to the exploded ovenware, but also suffered from second and third degree burns to her face, neck, and arms.
Due to Convenient Cookware Inc.’s irresponsible actions the injured the plaintiff can recover punitive damage. These types of damages are intended to punish deliberate wrongdoing and deter others from behaving in a similar manner. In order to prove a plaintiff is owed punitive damages it must be concluded whether Convenient Cookware Inc.’s conduct would meets the standard of “egregiousness”, meaning that there has been a deliberate act or omission with knowledge of a high degree of probability of consequences.
During the quality testing in production of the redesigned product of Ever Last Ovenware, the personnel discovered the serious risk to the user’s health and safety. With knowledge of this harmful defect, upper management decided it would be more profitable to continue with shipment to fill all their orders, without disclosing any possible dangers and altering the results of the testing. Even after the plaintiff suffered injuries Convenient Cookware Inc. made no effort to stop sales. The Company’s egregious behavior makes them liable for punitive as well as compensatory damages.
Ethical Issues
In order to analyze whether or not Convenience Cookware Inc.’s decision was ethically made, the utilitarianism principle is applied. According to this principle, decisions must be made with the purpose of creating the greatest good for the greatest number of people. To do this, decision makers must utilize the cost-benefit analysis by calculating the consequences of both alternatives and choosing the one that will result in the greatest good. To conduct this analysis, first the possible stakeholders must be identified. In this case the primary stakeholders are; the company, customers, investors and shareholders. Any decision made by the company directly affects these people, so their consideration is necessary.
Cost-Benefit Analysis
With the Convenience Cookware Inc.’s stakeholders identified the cost and benefit for the stakeholders must be evaluated. If Convenience Cookware Inc. had gone with option 1 the costs to the company and shareholders would be the loss on profit from stop of sales of all the defected ovenware. The company would have a 1.67% return on sales as opposed to their projected goal of 25% return on sales. Because it’s Convenience Cookware Inc. mission to maximize profit for their shareholders they lost sight of their obligation to customer safety. In addition the company feared a loss of customers to competitors due to the product’s delay. Some possible benefits for the company and shareholders would be the avoidance of all the damage their hazardous product caused. They also would not have incurred all the legal liability and bad publicity. If Convenience Cookware Inc. had came forward with the real results of quality testing and halted production, customers that they thought might be lost, actually could respect the company’s honesty and commitment to quality and stick with the company after the defect is solved.
The cost of option 1 for the customers is a delay in shipment of the ovenware product, possibly leading customers to look to competitors for the product. Benefits of this decision for customers are not being exposed to the potentially very dangerous ovenware.
The company and shareholders cost for option 2 are what they are currently experiencing; loss of profits on all of the unsold product when production was stopped, all the legal fees acquired from injured customers and the ruined reputation in the community for their wrongful doings. If no customers experienced injury in the six month period and Convenience Cookware Inc. was in the clear, the company would have had the great benefit of exceeding their return on sales goal by making 30.84%.
The cost to customers for option 2 is the severe injury that can be caused by the product. Benefits for this option are the customer receiving their ovenware on time and getting the 10% discount although there is the .25% risk of explosion.
Convenience Cookware Inc.’s Unethical Decision
After discussing the cost-benefit analysis the results show pretty clearly that Convenience Cookware Inc.’s decision was made unethically due to the self interest nature, with only consideration of maximizing profits. The fact that management disregarded any consequences of injury to customers by altering the results of the quality tests, and hiding any knowledge of this defect, shows of their unethical decision making. Not to mention, even after the first incident involving Mrs. Farzam, the ovenware was continued to be sold. Finally after several more physical injuries to customers, a quality engineer came forward with the facts. This is the only employee who demonstrates some kind of ethical thinking even if very little. It took many injuries before coming forward, with the possible intention of stopping more injury or for self interest reasons like avoiding liability for the disaster. The whole company is guilty of unethical decision making because it is the responsibility of every company to teach and promote ethical thinking.
CONCLUSIONS AND RECOMMENDATIONS
The evaluation of the income statements for the two available options presented by the production, quality, and product managers concludes that option 1 would have decreased the return on sales to 1.67%, which is 23.33% less than their projected goal. The second option would have increased the return on sales to 30.84%, which puts the company 5.84% above their goal. Management afraid of losing all the possible profits and with no ethical consideration towards their stakeholders, decided with the option 2. However, the defective products caused serious injuries to the consumers. Convenience Cookware Inc.’s actions led to these injuries making them liable for compensatory and punitive damages under strict product liability. Lastly the company’s complete lack of consideration towards their stakeholders displays their unethical decision which ultimately led to the recall of all products and halt production costing more than if they had gone with option 1. If the managers would have gone with the first option they would have acted ethically.
It is recommended that Convenience Cookware, Inc. reprimand and/or terminate all management involved in making the final decision to continue the sale of the knowingly dangerous product, with no warnings and concealing the true quality of the ovenware. Also, the company should conduct seminars mandatory for all employees, teaching and promoting ethics within the businesses to stop such behavior in the future. Convenience Cookware Inc. must rebuild the public’s trust and loyalty in order to recover from this horrible incident.
APPENDIX
EXHIBIT 1
| Convenience Cookware, Inc. | |||||
| Ever Last Ovenware | |||||
| Product Income Statement | |||||
| For the year ended December 31, 2002-2006 | |||||
|
2006 |
2005 |
2004 |
2003 |
2002 |
|
| Sales | $78,599,808 | $81,874,800 | $86,184,000 | $75,600,000 | $67,500,000 |
| Sales in Units | 5,239,987 | 5,458,320 | 5,745,600 | 5,040,000 | 4,500,000 |
| Cost of Goods Sold | |||||
| Variable | 29,081,929 | 31,112,424 | 31,026,240 | 27,972,000 | 24,975,000 |
| Fixed | 27,865,240 | 23,221,033 | 21,701,900 | 19,729,000 | 18,100,000 |
| Gross Profit | $21,652,639 | $27,541,343 | $33,455,860 | $27,899,000 | $24,425,000 |
| Attributable Costs | |||||
| Marketing | 5,894,986 | 6,140,610 | 5,774,328 | 5,140,800 | 4,758,750 |
| Other (primarily fixed) | 2,517,537 | 2,502,522 | 2,317,150 | 2,106,500 | 1,915,000 |
| Product Line Profit | |||||
| Before G&A Allocation | $13,240,117 | $18,898,211 | $25,364,382 | $20,651,700 | $17,751,250 |
| Return on Sales | 16.84% | 23.08% | 29.43% | 27.32% | 26.30% |
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