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분야
docxA. The cost of processing cartons through the facility
B. The cost of entering electronic and manual customer orders
C. The cost of shipping cartons on commercial carriers
D. The cost per hour for desktop deliveries
2. Using this cost driver information, calculate the cost and profitability of the five orders in Exhibit 2. Compare these costs and profitability to those calculated by Midwest’s existing costing system.
3. Explain the difference in profitability of the five orders calculated by the ABC system and the company’s existing cost system.
4. Based on your analysis above, what actions should John Malone take to improve Midwest’s profitability?
1) Desktop delivery system
2) Interest of 1% due to late payment
3) Electronic ordering system
Midwest Office Products was using ‘cost system’ which leads to inaccurate business analysis. For this reason, they could not evaluate their current business precisely. They regarded some unprofitable processes as profitable ones (Like truck delivery) and operated those services. Inaccurate analysis caused by inappropriate costing system finally brought a company ‘losses despite of constant increase in sales.Below part is the detailed explanation of the difference in profitability calculated by the current company’s cost system and the ABC system.
Firstly, the Midwest made a mistake when they calculate delivery expenses. They omitted ‘Truck personnel expenses’ category. They under-estimated their truck delivery costs. The actual cost of this service was $75, which is more than 2 times larger than $33. Under-estimated costs of truck delivery encouraged them to continue the unprofitable service. And this also leads to the difference in profitability of the orders. Thecalculation tables below are for references .
1) Desktop Delivery Cost (Current Cost System)
Delivery truck expenses 200,000
Total Desktop delivery cost 200,000
Total number of driver hours = Total number of Truck drivers x drivers hours
= 4 drivers x 1500 hours = 6000 hours
Cost of deliveryservice= 200,000 / 6000 = $ 33.33
2) Desktop Delivery Cost (ABC System)
Truck Driver costs per year 250,000
Delivery truck expenses 200,000
Total Desktop delivery cost 450,000
Total number of driver hours = Total number of Truck drivers x drivers hours
= 4 drivers x 1500 hours = 6000 hours
Cost of freight cost = 450,000 / 6000 = $ 75
Secondly, the Midwest did not consider the late payment of customers. According to the information from company data bases, someof their customers paid their invoices late. To recover balances (or lack of cash) the company took out a loan and consequently they had to pay extra interest expense.
This interest expense caused by late payment reduces the profitability of each order those of which payment was late referring the calculation in question number 2-E. Interest of payment of each order differs variously. When comparing the orders which have similar prices, the payment period acts a significant role in deciding the interest expense for each order. For example, when you compare interest expense of order 1 and order 2, the price is similar to each other, whereas the payment period differs. 1 month for order 1 and 4 months to order 2. This leads to a significant difference in interest expense; $25.36 of order 2 is about 4 times higher than $6.10 of order 1. Similarly, when comparing order 3 and 5 which have same price, the interest expense increases as the payment period increases.
Interest expense
= price of order*1%*payment period(months)
Order 1 = $610*1%*1=$6.10
Order 2 = $634*1% * 4=$25.36
Order 3 = $6100*1% *1=$61.00
Order 4 = $6340*1% * 4=$253.60
Order 5 = $6100*1% * 4=$244.00
However, Midwest did not consider theseinterest factors. As a result, they regarded unprofitable orders as profitable ones. We used the new cost system(ABC costing) to calculate the profitability of each order, and discovered that the number 2 order was unprofitable. But Midwest’s previous cost system ignored it and assumed number 2 order as a profitable order like the other ordinary ones.
These kinds of careless accounting method will lead company into the bigger loss in the near future,because company will not be able to recognize the serious problem in cost analysis. For company’s sake, it should revise its costing system to more accurate one.
