Leader Automotive Canada is a Tier 1 supplier in the automotive industry (direct supplier to car assemblies), an industry that is considered the most competitive in the manufacturing sector. A couple of years ago the CEO decided to revise the bonus plan (based, at the time, entirely on operating income) to encourage plant managers to focus on areas that were important to customers and that added value without increasing cost. In addition to a profitability incentive, the revised plan also includes incentives for reduced rework costs, reduced rejections (sales returns), and on-time deliveries. Bonuses are calculated and awarded semiannually on the following basis. A base bonus is calculated at 2% of operating income. The bonus amount is then adjusted by the following amounts:
a. i. Reduced by excess of rework costs over 2% of operating income.
ii. No adjustment if rework costs are less than or equal to 2% of operating income.
b. Increased by $6,000 if over 98% of deliveries are on time, by $2,400 if 96% to 98% of deliveries are on time, and by $0 if on-time deliveries are below 96%.
c. i. Increased by $3,600 if rejections are less than or equal to 1.5% of sales.
ii. Decreased by 50% of excess of rejections over 1.5% of sales.
Note:If the calculation of the bonus results in a negative amount for a particular period, the manager simply receives no bonus, and the negative amount is not carried forward to the next period.
Results for Leader Automotive Canadaâs plants for the year 2015, the first year under the new bonus plan, follow. In the previous year, 2014, under the old bonus plan, the Alliston Plant manager earned a bonus of $32,472 and the Oshawa Plant manager a bonus of $26,928.
Required: 1. Why did the Leader Automotive CEO introduce these new performance measures? That is, why does he need to use these performance measures over and above the operating income numbers for the period? 2. Calculate the bonus earned by each manager for each six-month period and for the year 2015. 3. What effect did the change in the bonus plan have on each managerâs behaviour? Did the new bonus plan achieve what the CEO desired? What changes, if any, would you make to the new bonus plan?
Alliston Plant Oshawa Plant January 1, 2015 July 1, 2015 January 1, 2015 July 1, 2015 to to to to June 30, 2015 Dec. 31, 2015 June 30, 2015 Dec. 31, 2015 Revenues $5,040,000 $5,280,000 $3,420,000 $3,480,000 $ 554,400 $ 528,000 $ 410,400 $ 487,000 Operating income On-time delivery 95.4% 97.3% 98.2% 94.6% $ 13,800 $ 100,800 $ 13,200 $ 84,000 Rework costs 7,200 $ 8,600 Sales returns $ 53,750 $ 51,000