Reference no: EM132216381

Question - Tom Brady is the relatively new controller of the Body and Bath Division of New Scotland Drugs (NSD). He completed his CPA designation three years earlier (at a major auditing firm in Moncton) and has worked at the Body and Bath Division for the past six months). The move to Halifax was a major decision for Tom, but he is getting used to the climate and the new firm.

The Body and Bath Division (BPD) is located in Halifax, which is also the headquarters of NSD. This location gives NSD excellent access to distribution networks across North America while enjoying very low operating costs. (Wages and occupancy costs in Halifax are 40â€"60% lower than metropolitan centres like Vancouver or Toronto.)

At the request of the division's long-time president, Belinda Belichick, Brady developed a proposal for a new product to be called Vital Hair. This product is a cream to be rubbed on the scalp to restore hair growth. The fixed costs associated with the development, production, and marketing of Vital Hair are $25,000,000. The majority of these costs are associated with the human trials needed to get federal health approval for this type of product. Due to the nature of the product, it has to be monitored by a doctor. Each customer will pay a doctor $98 per monthly treatment, of which $68 is paid to NSD. Brady estimates NSDs variable costs per treatment to be $28.50. Included in this is $9.25 for potential product litigation costs. Brady did some research on this type of product, and while most of the data came from the United States, he noticed that there is an increasing trend in Canada for consumers to take companies to court for the slightest issue with a product.

Belinda Belichick and Brady are scheduled to make a presentation to the NSD executive committee on the expected profitability of Vital Hair. After reading Brady's report, Belichick called him to her office. Belichick was livid at Brady for including the $9.25 estimate. She argued that it is imperative to get the R&D funds approved (and quickly) and that any number that increases the breakeven point reduces the likelihood of the Vital Hair project being approved. She notes that NSD has had few successful lawsuits against it, in contrast to some recent horrendous experiences of competitors with breast implant products. Moreover, she was furious that Brady put the $9.25 amount in writing. How do we know there will be any litigation problem? She suggested that Brady redo the report excluding the $9.25 litigation risk cost estimate. Put it on the whiteboard in the executive committee room, if you insist, but don't put it in the report sent to the committee before the meeting. You can personally raise the issue at the executive committee meeting and have a full and frank discussion.

Brady took Belichick's advice. He changed the report's variable cost to $19.25 per treatment. Although he felt uneasy about the changes, he was comforted by the fact that he would flag the $9.25 amount to the executive committee in his forthcoming oral presentation.

One month later, Belichick walks into Brady's office. She is in a buoyant mood and announces she has just come back from an executive committee meeting that approved the Vital Hair proposal. Brady asks why he was not invited to the meeting. Belichick says the meeting was held in Toronto, and she decided to save the division money by going alone. She then says to Brady, It is now time to get behind the new venture and help make it the success the committee and the team members believe it will be.

Required -

1. What is the breakeven point (in units of monthly treatments) when NSDs variable costs (a) include the $9.25 estimate and (b) exclude the $9.25 estimate for potential product litigation costs?

2. Should Brady have excluded the $9.25 estimate in his report to the executive committee of NSD? Explain your answer.

3. What should Brady do in response to Belichick's decision to make the presentation on her own? What options does he have? As a CPA what are his responsibilities?