Topic 6 PDF

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TOPIC 6 ABC 6-33 ABC, retail product-line profitability. Henderson Supermarkets (HS) operates at capacity and decides to apply ABC analysis to three product lines: baked goods, milk and fruit juice, and frozen foods. It identifies four activities and their activity cost rates as follows: Ordering $104 per purchase order Delivery and receipt of merchandise $80 per delivery Shelf-stocking $22 per hour Customer support and assistance $0.25 per item sold The revenues, cost of goods sold, store support costs, activities that account for the store support costs, and activity-area usage of the three product lines are as follows: Baked Goods Financial data Revenues $63,000 Cost of goods sold $39,000 Store support $11,700 Activity-area usage (cost-allocation base)

Milk and Fruit Juice Frozen Products $68,500 $52,000 $15,600

$54,000 $36,000 $10,800

Ordering (purchase orders)

21

18

13

Delivery (deliveries)

88 18

32

26

176

38

Shelf-stocking (hours) Customer support (items sold)

5 12,20 0

16,400

7,600

Under its simple costing system, HS allocated support costs to products at the rate of 30% of cost of goods sold. Required: 1. Use the simple costing system to prepare a product-line profitability report for HS. 2. Use the ABC system to prepare a product-line profitability report for HS. 3. What new insights does the ABC system in requirement 2 provide to HS managers? SOLUTION (30 min.) ABC, retail product-line profitability. 1.

The simple costing system (Panel A of Solution Exhibit 5-25) reports the following: Baked Milk and Fruit Frozen Total Goods Juice Products

Revenues Costs Cost of goods sold Store support (30% of COGS) Total costs Operating income Operating income ÷ Revenues

$63,000

$68,500

$54,000

$185,500

39,000

52,000

36,000

127,000

11,700

15,600

10,800

38,100

50,700 $12,300

67,600 $900

46,800 $7,200

165,100 $20,400

19.52%

1.31%

13.33%

11.00%

2.

The ABC system (Panel B of Solution Exhibit 5-25) reports the following: Baked Milk and Frozen Total Goods Fruit Juice Products Revenues $63,000 $68,500 $54,000 $185,500 Costs Cost of goods sold 39,000 52,000 36,000 127,000 Ordering ($104 × 21; 18; 13)

2,184

1,872

1,352

5,408

Delivery ($80 × 88; 32; 26)

7,040

2,560

2,080

11,680

Shelf-stocking ($22 × 185; 176; 38)

4,070

3,872

836

8,778

3,050

4,100

1,900

9,050

Total costs Operating income

55,344 $7,656

64,404 $4,096

42,168 $11,832

161,916 $23,584

Operating income ÷ Revenues

12.15%

5.98%

21.91%

12.71%

Milk and Fruit Juice

Frozen Products

Customer support ($0.25 × 12,200; 16,400; 7,600)

These activity costs are based on the following: Activity Cost Allocation Rate Ordering

$104

Delivery Shelf-stocking Customer support

Baked Goods

per purchase order

21

18

$80

per delivery

88

32

$22

per hour

185

176

12,200

16,400

$0.25

per item sold

1 3 2 6 3 8 7,60

0

3.

The rankings of products in terms of relative profitability are: Simple Costing System ABC System 1. Baked goods 2. Frozen products 3. Milk and fruit juice

19.52 Frozen products % 13.33 Baked goods % 1.31% Milk & fruit juice

21.91% 12.15% 5.98%

The percentage revenue, COGS, and activity costs for each product line are: Baked Goods Milk and Fruit Juice Frozen Products Revenues COGS Activity areas: Ordering Delivery Shelf-stocking Customer support

33.96% 30.71%

36.93% 40.94%

Total 29.11% 100 28.35% 100

40.38% 60.27% 46.37% 33.70%

34.62% 21.92% 44.11% 45.30%

25.00% 17.81% 9.52% 20.99%

100 100 100 100

The baked goods line drops sizably in profitability when ABC is used. Although it constitutes 30.71% of COGS, it uses a higher percentage of total resources in each activity area, especially the high-cost delivery activity area. In contrast, frozen products draw a much lower percentage of total resources used in each activity area than its percentage of total COGS. Hence, under ABC, frozen products are much more profitable. Henderson Supermarkets may want to explore ways to increase sales of frozen products. It may also want to explore price increases on baked goods....