Guillermo Furniture Cost Relationships and Break-Even Analysis

Cost relationships and behaviors at Guillermo Furniture will have a significant impact on decision-making. Guillermo is currently faced with a choice between three distinctly different strategic options. In order to accurately assess these options, Guillermo needs to understand the direction in which his current business is heading. Labor costs are escalating, and there is downward price pressure on his mainstream product lines as a result of increased competition. This will squeeze the company's margins on its core products. Analyzing how these environmental shifts will impact the mainstream furniture line in the future is therefore important for Guillermo to determine where best to place strategic emphasis.

Likewise, the alternatives can also be evaluated on the basis of cost relationships. For example, the choice to focus on the high-end market could be driven by a couple of key cost relationships. The first is the relationship between labor costs and high-end production. Such production may not be cost-effective going forward if the company is unable to extract higher prices for its goods. Alongside this alternative is distributing the Norwegian company's furniture, and that option must be analyzed against the profits that such activity could generate compared with the labor costs associated with it. It is therefore critical that Guillermo understand the cost behaviors and relationships associated with each of the strategic options he faces.

In the discussion of control systems, it will be assumed that Guillermo continues to produce furniture in the near term. Guillermo needs to establish a number of key measures that can be used in the control system. Financial measures represent the most basic level of control, as they provide information about the company's overall performance. Figures such as revenues and profits should therefore be tracked, as should balance sheet measures such as liquidity, total assets, debt level, and equity level.

Other control measures should focus on internal production. In order for Guillermo to make a better determination about the direction of his furniture production business, he needs to understand how that business is performing. Measures such as cycle time, gross margin, operating margin, labor cost per unit, materials cost per unit, and overhead per unit can be used to gauge the productivity of the company and the performance associated with each particular product line. This is especially important given that one of the options currently available to Guillermo involves dropping one product line and replacing it with another.

Guillermo can also implement a number of quality measures, including defect rates and customer complaints. These can help him improve productivity and devise ways to produce better high-end products, if that is the route he decides to pursue. In addition, if defect information for the Norwegian company's products is available, Guillermo can better assess exactly how well his own production team performs in comparison to competitors in the marketplace.

By focusing measurement on cycle time, productivity, quality, and profitability, Guillermo will have better information to guide his decision-making with respect to the different strategic choices he faces. If he chooses to continue making furniture, he will be better equipped to improve his processes over time, as this information forms the basis of a much stronger control system than is currently utilized at Guillermo.