2024-25 Semester 2 Cost and Management Accounting II

Group Project (Due date: 9 May 2025, 4:00pm)

All students are expected to observe UIC’s academic honesty policy. Specifically, you are
expected to complete this assignment on your own without copying the work from other
student(s) and without allowing other student(s) to copy your work. Plagiarized work will
receive zero mark (Please refer to “Guidelines for Handling Academic Dishonesty” for
details).
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detected through AI Detection Tool) will lead to partial deduction of the mark and work
resubmission.

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Students should not just rely on the PPT.

Due Date: 9 May 2025 4:00pm

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Please follow the instructions below:

1. You must use Word file format to complete the assignment answers which are allowed
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in Excel (spreadsheet) format in the answers, please “copy” the table/report from the
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2. After finishing, please submit a soft copy of your completed assignment to the drop-
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instructor.

3. For iSpace submission, please name your file in the format as “your section number +
your project group number”.

4. Complete all Tasks.

CMA II Project Case

Coverage: Various Chapters

Case Description

Overview

HomeComfort Furnishings (HCF) is a regional furniture retail and manufacturing business

that grew steadily over 15 years. The company operates eight showrooms and a central
manufacturing plant producing home furniture and décor. HCF was founded by Robert “Bob”
Hansen, a craftsman-turned-entrepreneur who began by making custom furniture in a small
workshop. Over time, HCF’s reputation for quality craftsmanship enabled expansion into
multiple stores under the “HomeComfort” brand.

Alongside retail sales through its showrooms, HCF’s production facility fulfills wholesale and
contract orders. Major clients include hotels, offices, and independent furniture shops that resell
HCF products. This multi-channel approach provides diversified revenue streams and broader
brand recognition. The company was consistently profitable for many years, but recent market
changes have started to threaten its growth and profitability:

Franchise Loss: A franchising agreement with a partner (D&L Corporation) ended, costing
HCF royalty income and wholesale orders formerly supplied to franchised stores. (In 2023,
about $10 million – 20% of total revenue – came from franchise royalties and sales to
franchised stores. All of that disappeared in 2024 with the termination of the deal.)

New Competition: The former franchisee rebranded as D&L Home and now directly competes
head-to-head with HCF’s showrooms, copying HCF’s business model but offering similar
products at roughly 10% lower prices. HCF’s leadership worries that engaging in a price war
to win back price-sensitive customers would erode profit margins, given HCF’s higher-quality
materials and higher cost base.

In response, HCF’s leadership is reviewing costs, pricing strategy, segment profitability, and
possible operational changes (e.g. focusing on high-margin segments or introducing a budget-
friendly line) to counter these challenges and restore momentum.

Company History and Business Model

Bob Hansen started HCF after honing his carpentry and design skills. Over 15 years, he grew
the company from one small workshop to 8 showrooms plus a full-scale production plant.
HCF’s hallmark has always been quality materials (e.g. solid wood frames, premium
upholstery) combined with a personalized retail experience in showrooms. Historically, the
company followed a cost-plus pricing model – calculating the full cost to produce each
furniture piece, then adding a markup to ensure a healthy profit margin.

To expand retail presence faster without heavy capital investment, Bob licensed the
HomeComfort brand to a third party (D&L Corporation) which opened 3 franchised HCF
showrooms in other locations. HCF earned royalty fees and revenue from supplying inventory
to these franchised stores. However, that arrangement ended last year. D&L Corporation not
only ceased paying royalties but also converted its stores to a new competing brand (D&L

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Home), often opening locations adjacent to HCF’s showrooms. This competitor uses cheaper
materials to undercut HCF’s prices by around 10%. As a result, HCF lost its franchise income
and also saw a portion of its more price-sensitive retail customers drawn away by the lower
prices at D&L Home.

Operations and Cost Structure

HCF’s business now spans two main operations: the retail showrooms and the manufacturing
plant (which supports both HCF’s own stores and external wholesale clients). Key operational
details and cost structures are outlined below.

Showrooms

• Number of Showrooms: 8 company-owned retail stores (no franchises remain).

• Lease Terms: Each store is leased, with 3–5 year terms per location.
• Inventory Approach: Minimal on-site stock; most products are delivered just-in-time
from the central plant as customer orders are taken. This keeps showroom inventory costs
low, though it requires efficient coordination with the factory.
• Cost Structure (per showroom):
– Staff Salaries: $25,000 per month (sales and support staff).
– Rent: $40,000 per month (leased premises).
– Depreciation (store fixtures & equipment): $100,000 per year.
– Utilities & Maintenance: ~2% of that store’s sales (variable cost).
– Selling & Admin (S&A): $50,000 per year fixed, plus 3% of store sales (variable
S&A expenses like local advertising, credit card fees, etc.).
– Cost of Goods Sold (COGS): For internal accounting, each showroom “purchases”
furniture from HCF’s factory at a transfer price ~45% of the final retail price. (This
roughly represents the cost of producing the item, allowing retail gross margins around
55%.)

Each showroom therefore has a significant fixed-cost burden (staff, rent, etc.), meaning a
certain volume of sales is needed for break-even. Variable costs at the store level are relatively
low (mostly the cost of goods and a few percent-of-sales expenses). The showrooms focus on
showcasing products and providing a high-touch sales experience, while actual production is
centralized at the plant.

Manufacturing Plant

• Location & Ownership: A single production facility, fully owned by HCF, located
centrally to supply all showrooms and wholesale clients.
• Capacity Utilization: Currently running at only ~50%–52% of its potential capacity. There
is substantial room to increase output with existing facilities if demand grows.
• Cost Structure (for the plant and wholesale operations):
– Materials: ~50% of wholesale/contract sales value (raw materials like wood, fabric,
hardware – this percentage of sales reflects typical material cost in an order).
– Base Production Labor: $80,000 per month in total base wages for ~20 full-time
carpenters, upholsterers, and finishers (these are fixed salaries to maintain a skilled
workforce).
– Variable Production Labor: ~5% of sales value in additional labor costs for overtime
and temporary workers during volume spikes.

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 – Supervisory/Support Labor: $60,000 per month (fixed) for plant managers and
support staff.
– Depreciation (Plant & Equipment): $1,000,000 per year (fixed) for machinery, tools,
and building wear-and-tear.
– Utilities & Insurance: 8% of sales (semi-variable with production volume, covering
electricity for machinery, climate control, insurance, etc.).
– Selling & Admin (Wholesale): $400,000 per year fixed for wholesale division
overhead, plus 5% of wholesale revenue (variable costs such as sales commissions and
order processing for wholesale clients).
– Distribution & Delivery: 3% of sales for in-house delivery costs (trucks, drivers) for
regional deliveries. Additionally, about $500,000 per year is spent on third-party logistics
for farther deliveries (a fixed contract with a third-party logistics provider).

The factory’s cost structure has a mix of significant fixed costs (labor, overhead) and variable
costs (materials, some labor, shipping). With only ~50% utilization, the plant is underused –
current production volume covers those fixed costs only partially. Management sees an
opportunity to improve profitability if they can increase volume (to spread fixed costs) or
reduce those fixed expenses. The transfer pricing of goods to retail (at ~45% of retail price)
implies that the production cost of items is roughly 45%–50% of their sale price, in line with
the material and labor cost percentages given above.

Recent Developments & Challenges

Several developments have prompted HCF to re-evaluate its strategy:

• Loss of Franchise Revenue: As mentioned, the end of the D&L franchise deal cut HCF’s
annual revenue by an estimated 15–20%. In 2023, about $10 million (20% of total revenue)
came from franchise royalties and sales to the franchised stores (see financial results in
Appendix C). All of that franchise-related revenue disappeared in 2024, putting pressure
on the top line.
• New Low-Price Competition: D&L Home (the ex-franchisee) now competes directly with
HCF’s showrooms. They use a similar store format and product lineup, but D&L Home
uses cheaper materials to undercut HCF’s prices by roughly 10%. HCF’s leadership is
concerned that trying to match those lower prices would severely erode HCF’s margins,
given its higher-cost materials and craftsmanship.
• Underutilized Production Capacity: HCF’s manufacturing plant is running at only about
half of its capacity. This unused capacity represents a missed opportunity: increasing
production (for instance, by expanding wholesale orders beyond the current region or
adding new product lines) could spread the plant’s fixed costs over more units, improving
overall margins. Some managers advocate aggressively pursuing new wholesale contracts
or even launching online/direct-to-consumer sales to make use of this capacity.
• Cost Structure Dilemmas: The high fixed costs of running eight showrooms and a factory
are weighing on profitability now that revenue has dipped. Management is examining
where costs can be trimmed or made more flexible. For example, if certain showrooms are
unprofitable, would closing a showroom (or reducing retail floor space) save enough in
overhead to justify the lost sales? On the other hand, can the factory’s fixed costs be better
absorbed by increasing volume through new channels?

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Strategic Questions

HCF’s leadership is grappling with several strategic questions as they plan for the future:

• Budget Line vs. High-End Focus: Should HCF introduce a budget-friendly furniture line
to compete more directly on price with competitors like D&L Home? Or would it be better
to double down on higher-end segments, emphasizing HCF’s quality and design to justify
premium pricing?
• Market Expansion: Can HCF find growth by targeting new markets or channels – for
example, expanding wholesale distribution outside its region, or investing in e-
commerce/direct-to-consumer sales – to boost volume and utilize the factory’s idle capacity?
• Showroom Footprint: Does HCF need all 8 showrooms going forward? If some stores are
struggling, would closing or consolidating showrooms (and shifting focus to wholesale or
online sales) improve profitability by cutting fixed costs, or would it undermine the brand’s
presence and customer access?
• Customer & Segment Profitability: Which of HCF’s customer groups and sales channels
are truly profitable once all costs are considered? Are some large wholesale clients eating
into margins with big discounts or special service requirements? Identifying the most (and
least) profitable segments could guide where to focus efforts.
• Operational Efficiency: How can HCF improve its cost structure and efficiency? This
includes exploring process improvements or investments (like automation in
manufacturing) to lower unit costs, as well as adopting a more data-driven management
approach (using metrics beyond just financials).

2024 Projections and Strategic Meeting

At a strategy meeting in November 2024, HCF’s leadership reviewed the company’s financial
projections and recent performance. The projected full-year results for 2024 (see Appendix A)
show net sales of $45 million, which is a decline from the $50 million achieved in 2023. The
drop is mainly due to the loss of the $10 million franchise-related revenue that HCF had in
2023. Even though HCF’s own retail and wholesale sales grew modestly in 2024 (partially
filling the gap), it wasn’t enough to fully offset the loss.

More concerning, operating profit has fallen sharply. HCF expects an operating income (EBIT)
of about $6.05 million for 2024 (a 13.4% operating margin), down from $8.0 million in 2023
(which was a 16.0% margin). This deterioration in profit is partly because the lost franchise
revenue carried very high margins (royalty fees had little direct cost). Additionally, HCF is
facing slightly higher costs in its core operations – for instance, extra marketing efforts to fend
off the new competitor, and some inefficiencies from lower production scale. The retail vs.
wholesale mix has also shifted: in 2023, retail/wholesale sales (excluding franchise royalties)
were roughly 80% retail and 20% wholesale; in 2024, with royalties gone, the mix is about 67%
retail and 33% wholesale. Wholesale typically has slightly lower gross margins than retail,
which also contributes to the overall margin pressure.

During the 2024 review, management also discussed implementing a Balanced Scorecard
approach to broaden the performance metrics used in decision-making. They recognized that
solely looking at financial results is not enough, especially given the changing market. Some
non-financial metrics under consideration include:

• Customer satisfaction – e.g. scores from post-purchase surveys in showrooms.

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• Product quality – defect rates or warranty claim rates (currently around 2% of units sold
have warranty claims).
• Operational efficiency – metrics such as average production lead time (currently about 4
weeks from order to delivery) and on-time delivery percentage.
• Innovation – number of new product designs introduced each year (HCF introduced 2
notable new designs in 2024).

Management believes that improvements in these areas (customer experience, quality,

efficiency, innovation) will ultimately translate to better financial performance over time. By
tracking these key performance indicators, HCF aims to ensure it is making progress on
strategic objectives beyond just short-term profits.

Finally, the CEO outlined a need for deeper analysis and recommendations. HCF’s leadership
has engaged a consulting team and approached you (UIC consulting team) to examine the
situation and provide detailed recommendations. Specifically, they requested analysis in the
following areas:

• Financial Performance & CVP: What are HCF’s break-even points for its retail and
wholesale segments? Consider the fixed costs of showrooms versus the factory. How would
changes in sales volume, pricing, or cost structure (e.g. lower material costs or higher labor
costs) affect HCF’s profitability?
• Relevant Costs (Showroom Decision): If HCF were to close one or more showrooms,
which costs would be avoided (i.e. “off the books”) and which costs would remain? Using
the cost structure data, evaluate the financial impact of closing a showroom. What other
factors (besides the quantitative cost savings) should be considered in such a decision?
• Pricing Strategy (Cost-Plus vs. Target): Evaluate HCF’s pricing approach for the
proposed Budget Line. If HCF uses a traditional cost-plus method, what price would the
budget product end up at, and would that likely be competitive in the market? Alternatively,
if the market dictates a target price of $800 retail, what cost reductions would HCF need to
achieve to maintain a reasonable margin? Should HCF shift its pricing strategy for new
products?
• Customer Profitability: Using the customer data provided, analyze which wholesale
customers (or customer segments) are most profitable for HCF. How do discounts and
additional service costs affect the true profitability of each account? Based on this analysis,
should HCF change how it serves certain customers or renegotiate any terms?
• Balanced Scorecard Metrics: Propose a set of non-financial KPIs for HCF’s Balanced
Scorecard. What metrics should HCF track in areas like customer satisfaction, product
quality, operational efficiency, and innovation? How might improvements in these areas
translate to better financial performance over time?
• Capital Budgeting Decision: Assess the proposed investment in the multi-phase
automation upgrade. Given the project’s total cost of $750,000 (invested in stages) and the
anticipated annual savings over five years (starting around $100k in the first year and
reaching $300k by the fifth year, with some salvage value at the end), what are the key
financial metrics? Calculate the payback period, and determine the NPV and IRR assuming
an appropriate cost of capital (e.g. 10%). How sensitive are the results to changes in the
discount rate (for example, if the cost of capital were 8% or 12%)? Should HCF proceed
with this investment? Are there qualitative benefits or risks to consider beyond the financial
calculations?
• Strategic Recommendations: Considering all the analyses (CVP, customer profitability,
pricing, capital budgeting, etc.), what strategic actions would you recommend to HCF’s

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 leadership? For example, should they launch the budget line or focus on upscale products?
Grow the wholesale business or double down on retail? Invest in cost-saving technology or
other initiatives? Summarize the path forward that you believe will improve HCF’s
competitive position and financial performance.

To support these analyses, HCF’s management has compiled extensive data on costs, sales,
and operations, which are provided in the following appendices. The data include financial
statements, segment breakdowns, product-line cost estimates, and customer account details.
Using this information, the team will be able to perform detailed calculations (such as break-
even points, the cost-benefit of closing a store, pricing scenarios, customer margins, and
investment payback/return analyses) to inform HCF’s strategic decisions. If any further
information is needed but not given, your team may make your own assumptions by clearly
stating the assumptions you have made in your report.

Appendices
A – 2024 Projected Full-Year Income Statement (Consolidated)
B – 2023 Income Statement (Actual)
C – 2024 Segment Performance (Retail vs. Wholesale)
D – Simplified Balance Sheet (Dec 31, 2023)
E – Key Cost Structure Ratios and Data
F – Product Line Data for CVP Analysis
G – Wholesale Customer Profitability Data
H – Proposed Automation Upgrade Investment Data

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Appendices

Appendix A – 2024 Projected Full-Year Income Statement (Consolidated)

Income Statement (Projected) – Year End 2024

(Figures in USD)

Income Statement (Projected) $’000 % of Sales

Net Sales (Total Revenue) 45,000 100.0%
– Retail Showroom Sales 30,000 (66.7%)
– Wholesale/Contract Sales 15,000 (33.3%)
Cost of Goods Sold (COGS) (22,050) 49%
Gross Profit 22,950 51%
Operating Expenses:
– Showroom Staff & Admin 3,600 8%
– Showroom Rent & Utilities 4,740 10%
– Showroom Depreciation 800 1.8%
– Manufacturing Labor (base + variable) 3,210 7.1%
– Factory Overhead & Utilities 2,200 4.9%
– Distribution & Delivery 1,350 3.%
– Corporate/Admin Overheads 1,000 2.2%
Total Operating Expenses (16,910) 37.6%
Operating Income (EBIT) 6,040 13.4%
Other Income (Royalties) 0 0%
Net Income before Tax 6,040 13.4%

Appendix B – 2023 Income Statement (Actual)

Income Statement – Year End 2023 (Actual Results)

Income Statement (Projected) $’000 % of Sales

Net Sales (Total Revenue) 50,000,000 100%
– Retail & Wholesale Sales 40,000,000 (80%)
– Franchise Royalties & Supply Sales 10,000,000 (20%)
Cost of Goods Sold (COGS) 24,000,000 48%
Gross Profit 26,000,000 52%
Operating Expenses 18,000,000 36%
Operating Income (EBIT) $8,000,000 16%

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Appendix C – 2024 Segment Performance (Retail vs. Wholesale)

Profit & Loss by Segment (2024 Projected):

P&L Item Retail Segment Wholesale Segment Total Company

Sales Revenue $30,000,000 $15,000,000 $45,000,000
$14,550,000 (48.5% $7,500,000 (50% of $22,050,000 (49%
Cost of Goods Sold
of retail sales) wholesale sales) overall)
Gross Profit $15,450,000 $7,500,000 $22,950,000
Operating Expenses:
– Showroom Operations
$9,140,000 – $9,140,000
(fixed + variable)
– Factory Operations
– $5,410,000 $5,410,000
(fixed + variable)
– Distribution &
$1,310,000 $1,040,000 $2,350,000
Corporate (alloc.)
Operating Income
$5,000,000 $1,050,000 $6,050,000
(EBIT)
Operating Margin % 16.7% 7.0% 13.4%

(Note: “Showroom Operations” includes all direct fixed and variable costs of running retail
stores; “Factory Operations” includes manufacturing labor and overhead costs associated
with production; Distribution & Corporate costs are allocated between segments.)

Appendix D – Simplified Balance Sheet (Dec 31, 2023)

Assets $’000 Liabilities & Equity $’000

Current Assets Current Liabilities
– Cash & Equivalents $2,000 – Accounts Payable $1,500
– Accounts Receivable $3,500 – Short-term Loans $2,000
– Inventory (Finished + WIP) $4,000 – Customer Deposits (prepaid orders) $1,000
– Prepaid Expenses $500 Total Current Liabilities 4,500
Total Current Assets 10,000 Long-Term Liabilities
Non-Current Assets – Bank Loan (long-term debt) $5,000
– Property, Plant & Equipment $8,000 – Lease Obligations (PV of leases) $1,500
Total Long-Term Liabilities 6,500
– Intangible Assets (brand value,
$1,000 Shareholders’ Equity
etc.)
– Common Stock & Retained
Total Non-Current Assets 9,000 $8,000
Earnings
Total Assets $19,000 Total Liabilities & Equity $19,000

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Appendix E – Key Cost Structure Ratios and Data

• Retail COGS: Approximately 45–50% of the retail sales price (meaning gross margin
~50–55% on items sold in HCF’s own stores). This aligns with the internal transfer pricing
from factory to store (which targets around 45% of the retail price as the cost to the store).
• Wholesale COGS: Approximately 50% of wholesale revenue. (Wholesale deals often
have slightly lower gross margins than retail, since prices to wholesale clients are lower
than retail pricing.)
• Showroom Fixed Costs: About $1.4 million per year, per showroom in fixed expenses
(rent, base staff, depreciation, etc. – derived from the ~$25k + $40k per month in lease and
staff costs, plus other fixed costs). With 8 stores, that’s roughly $11.2 million in total fixed
costs tied to running the retail locations annually (before considering any corporate
overhead allocation).
• Factory Fixed Costs: Approximately $2.0 million per year in fixed production overhead
(including base production labor, fixed plant overhead, depreciation, etc.), plus about
$720,000 per year in supervisory salaries. In total, around $2.72 million per year fixed,
tied to running the production facility at current capacity. (If production volume increases,
these fixed costs would remain roughly the same until additional capacity or shifts are
needed.)
• Variable Cost Components:
– Retail operations: ~2–3% of sales in utilities and other store-level variable expenses
(utilities are ~2% of sales and S&A variable costs ~3% of sales).
– Factory operations: ~5% of sales in variable labor (overtime/temp workers), ~5% in
variable factory S&A costs, and ~3% in distribution costs (for delivering products). These
variable percentages apply to the portion of sales fulfilled by the factory (i.e. wholesale
sales, and the cost portion of retail sales).
– Materials: 45–50% of the final selling price of a piece of furniture typically goes to
material costs, depending on whether it’s sold via retail or wholesale. (For a retail-priced
item at full price, material cost might be ~45% of the price, while for a heavily discounted
wholesale deal, material cost can be closer to 50% of the revenue due to the lower selling
price.)

These ratios provide insight for CVP and margin analysis. For instance, knowing that combined
variable costs (materials + variable labor + other variable overhead) are roughly 50–60% of
sales, one can estimate that the overall contribution margin is around 40–50%. This helps in
calculating break-even points and understanding how profit would change with sales volume
or cost structure shifts.

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Appendix F – Product Line Data for CVP Analysis

To assist with cost-volume-profit analysis, HCF has provided unit-level pricing and cost data
for two established product lines (Premium and Standard) and a proposed new Budget line
(currently under evaluation). While HCF’s catalog is broad, these representative products
illustrate the economics of each category:

Premium Standard Proposed Budget

Metric
Line Line Line
Unit Selling Price (Retail) $1,500 $1,000 $800
Unit Variable Cost (materials + labor) $700 $500 $430
Average Markup on Cost (Retail) ~50% ~40% ~35%
Annual Units Sold (2024 projection, retail) 10,000 15,000 0
Unit Selling Price (Wholesale) (average) $1,200 $800 $620
Unit Variable Cost (Wholesale) $600 $430 $380
Current Wholesale Volume (units/year) ~3,000 ~6,000 0

Appendix G – Wholesale Customer Profitability Data

Below is a breakdown of ten major wholesale/contract customers (collectively, these accounts

represent the majority of HCF’s wholesale revenue). Each account has different discount
agreements and service requirements, which affect their profitability. This data will help
analyze customer-level profitability:

Gross Sales Avg. Direct COGS Additional

Customer
2024 Discount (materials + labor) Handling Costs
GrandStay Hotels $2,500,000 5% $1,050,000 $50,000
OfficeStyle Co. $1,500,000 8% $650,000 $50,000
DecoFurn Outlets $1,800,000 12% $900,000 $1,000,000
Regal Furniture $800,000 0% $380,000 $20,000
Elite Hotels International $3,000,000 15% $1,750,000 $1,350,000
WorkSpaces Inc. $1,200,000 5% $540,000 $30,000
DecorHub Co. $600,000 10% $300,000 $350,000
HomeDesign Partners $1,000,000 3% $450,000 $30,000
Global Decor Ltd. $2,100,000 18% $1,250,000 $900,000
Design Partners Ltd. $500,000 5% $230,000 $20,000

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Appendix H – Proposed Automation Upgrade Investment Data

To evaluate the capital investment proposal (the factory automation upgrade), HCF’s
management has provided the following projected cash flows:

• Initial Investment – Phase 1 (Year 0): -$500,000 (cash outflow at the project start for
first phase equipment and installation).
• Additional Investment – Phase 2 (end of Year 1): -$250,000 (second phase outlay after
one year to complete the automation project).
• Year 1 (2025) Savings: +$100,000 (partial-year operational cost savings after Phase 1 is
in place).
• Year 2 (2026) Savings: +$150,000 (cost savings with full project in effect starting year 2).
• Year 3 (2027) Savings: +$200,000
• Year 4 (2028) Savings: +$250,000
• Year 5 (2029) Savings: +$300,000
• Salvage Value (end of Year 5): +$100,000 (estimated residual value of the new equipment
at the end of 5 years).

HCF’s cost of capital is estimated to be around 10%. The net present value (NPV) of the
project should be calculated using this rate as a baseline. Management also suggests evaluating
the NPV’s sensitivity at a lower rate (e.g. 8%) and a higher rate (e.g. 12%) to understand how
the investment’s attractiveness might change under different capital cost assumptions. Using
the above cash flow estimates, the internal rate of return (IRR) and payback period can also
be computed to fully assess the project’s viability.

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