Costacctg13 Sm Ch14

14-1

CHAPTERCHAPTERCHAPTER

CHAPTER

141414

14

COSTCOSTCOST

COST

ALLOCATION,ALLOCATION,ALLOCATION,

ALLOCATION,

CUSTOMER-PROFITABILITYCUSTOMER-PROFITABILITYCUSTOMER-PROFITABILITY

CUSTOMER-PROFITABILITY

ANALYSIS,ANALYSIS,ANALYSIS,

ANALYSIS,

ANDANDAND

AND

SALES-VARIANCESALES-VARIANCESALES-VARIANCE

SALES-VARIANCE

ANALYSISANALYSISANALYSIS

ANALYSIS

14-114-114-1

14-1

Disagree. Cost accounting data plays a key role in many management planning andcontrol decisions. The division president will be able to make better operating and strategydecisions by being involved in key decisions about cost pools and cost allocation bases. Such anunderstanding, for example, can help the division president evaluate the profitability of differentcustomers.

14-214-214-2

14-2

Exhibit 14-1 outlines four purposes for allocating costs:1. To provide information for economic decisions.2. To motivate managers and other employees.3. To justify costs or compute reimbursement amounts.4. To measure income and assets.

14-314-314-3

14-3

Exhibit 14-2 lists four criteria used to guide cost allocation decisions:1. Cause and effect.2. Benefits received.3. Fairness or equity.4. Ability to bear.The cause-and-effect criterion and the benefits-received criterion are the dominant criteria whenthe purpose of the allocation is related to the economic decision purpose or the motivationpurpose.

14-414-414-4

14-4

Disagree. In general, companies have three choices regarding the allocation of corporatecosts to divisions: allocate all corporate costs, allocate some corporate costs (those “controllable”by the divisions), and allocate none of the corporate costs. Which one of these is appropriatedepends on several factors: the composition of corporate costs, the purpose of the costingexercise, and the time horizon, to name a few. For example, one can easily justify allocating allcorporate costs when they are closely related to the running of the divisions and when thepurpose of costing is, say, pricing products or motivating managers to consume corporateresources judiciously.

14-514-514-5

14-5

Disagree. If corporate costs allocated to a division can be reallocated to the indirect costpools of the division on the basis of a logical cause-and-effect relationship, then it is in factpreferable to do so—this will result in fewer division indirect cost pools and a more cost-effective cost allocation system. This reallocation of allocated corporate costs should only bedone if the allocation base used for each division indirect cost pool has the same cause-and-effectrelationship with every cost in that indirect cost pool, including the reallocated corporate cost.Note that we observe such a situation with corporate human resource management (CHRM)costs in the case of CAI, Inc., described in the chapter—these allocated corporate costs areincluded in each division’s five indirect cost pools. (On the other hand, allocated corporatetreasury cost pools are kept in a separate cost pool and are allocated on a different cost-allocationbase than the other division cost pools.)

14-2

141414

14

666

6

Customer profitability analysis highlights to managers how individual customersdifferentially contribute to total profitability. It helps managers to see whether customers whocontribute sizably to total profitability are receiving a comparable level of attention from theorganization.

141414

14

777

7

Companies that separately record (a) the list price and (b) the discount have sufficientinformation to subsequently examine the level of discounting by each individual customer andby each individual salesperson.

141414

14

888

8

No. A customer profitability profile highlights differences in current period'sprofitability across customers. Dropping customers should be the last resort. An unprofitablecustomer in one period may be highly profitable in subsequent future periods. Moreover, costsassigned to individual customers need not be purely variable with respect to short runelimination of sales to those customers. Thus, when customers are dropped, costs assigned tothose customers may not disappear in the short run.

141414

14

999

9

Five categories in a customer cost hierarchy are identified in the chapter. The examplesgiven relate to the Spring Distribution Company used in the chapter: Customer output unit level costs—costs of activities to sell each unit (case) to a customer.

An example is product handling costs of each case sold. Customer batch level costs—costs of activities that are related to a group of units (cases)

sold to a customer. Examples are costs incurred to process orders or to make deliveries. Customer sustaining costs—costs of activities to support individual customers, regardless

of the number of units or batches of product delivered to the customer. Examples are costs ofvisits to customers or costs of displays at customer sites.

Distribution channel costs—costs of activities related to a particular distribution channelrather than to each unit of product, each batch of product, or specific customers. An exampleis the salary of the manager of Spring’s retail distribution channel.

Corporate sustaining costs—costs of activities that cannot be traced to individualcustomers or distribution channels. Examples are top management and general administrationcosts.

14-1014-1014-10

14-10

Using the levels approach introduced in Chapter 7, the sales volume variance is a Level2 variance. By sequencing through Level 3 (sales mix and sales quantity variances) and thenLevel 4 (market size and market share variances), managers can gain insight into the causesof a specific sales-volume variance caused by changes in the mix and quantity of the productssold as well as changes in market size and market share.

141414

14

111111

11

The total sales mix variance arises from differences in the budgeted contributionmargin of the actual and budgeted sales mix. The composite unit concept enables the effect ofindividual product changes to be summarized in a single intuitive number by using weights basedon the mix of individual units in the actual and budgeted mix of products sold.

141414

14

121212

12

A favorable sales quantity variance arises because the actual units of all products soldexceed the budgeted units of all products sold.

14-3

141414

14

131313

13

The sales quantity variance can be decomposed into (a) a market size variance(because the actual total market size in units is different from the budgeted market size in units),and (b) a market share variance (because the actual market share of a company is different fromthe budgeted market share of a company). Both variances use the budgeted average contributionmargin per unit.

141414

14

141414

14

Some companies believe that reliable information on total market size is notavailable and therefore they choose not to compute market size and market share variances.

141414

14

151515

15

The direct materials efficiency variance is a Level 3 variance. Further insight intothis variance can be gained by moving to a Level 4 analysis where the effect of mix and yieldchanges are quantified. The mix variance captures the effect of a change in the relativepercentage use of each input relative to that budgeted. The yield variance captures the effect of achange in the total number of inputs required to obtain a given output relative to that budgeted.

14-1614-1614-16

14-16

(15-20 min.) CostCostCost

Cost

allocationallocationallocation

allocation

ininin

in

hospitals,hospitals,hospitals,

hospitals,

alternativealternativealternative

alternative


allocation

criteria.criteria.criteria.

criteria.

1. Direct costs = $2.40Indirect costs ($11.52 – $2.40) = $9.12

Overhead rate = $2.40$9.12 = 380%

2. The answers here are less than clear-cut in some cases.

3. Assuming that Meltzer’s insurance company is responsible for paying the $4,800 bill,Meltzer probably can only express outrage at the amount of the bill. The point of this question isto note that even if Meltzer objects strongly to one or more overhead items, it is his insurancecompany that likely has the greater incentive to challenge the bill. Individual patients have verylittle power in the medical arena. In contrast, insurance companies have considerable power andmay decide that certain costs are not reimbursable––for example, the costs of treating uninsuredpatients.

OverheadOverheadOverhead

Overhead

CostCostCost

Cost

ItemItemItem

Item

AllocationAllocationAllocation

Allocation

CriteriaCriteriaCriteria

Criteria

Processing of paperwork for purchase

Supplies room management fee

Operating-room and patient-room handling costs

Administrative hospital costs

University teaching-related costs

Malpractice insurance costs

Cost of treating uninsured patients

Profit component

Cause and effect

Benefits received

Cause and effect

Benefits received

Ability to bear

Ability to bear or benefits received

Ability to bear

None. This is not a cost.

14-4

14-1714-1714-17

14-17

(15 min.) AllocatingAllocatingAllocating

Allocating

costscostscosts

costs

tototo

to

divisions.divisions.divisions.

divisions.

1. Allocations based on square feet.

Allocations based on segment margin.

2. I prefer the allocation based on segment margins because a cause-and-effect relationshipmay exist between headquarter costs and division segment margin – headquarter staff are likelyto spend more time on divisions that have more revenues and segment margins. Segmentmargins can also be justified on the ability-to-bear principle – divisions with higher margins canbear more of the headquarter costs. The physical size of the divisions probably has no cause-and-effect relationship with headquarter costs.

RefrigeratorRefrigeratorRefrigerator

Refrigerator

StoveStoveStove

Stove

DishwasherDishwasherDishwasher

Dishwasher

MicrowaveMicrowaveMicrowave

Microwave

OvenOvenOven

Oven

TotalTotalTotal

Total

1. Square feet 130,000 90,000 80,000 10,000 400,0002. % square feet

(130,000; 90,000; 80,000;10,000 ÷ 400,000) 32.5% 22.5% 20% 25% 100%

3. Allocated headquarter cost(Row 2 × $14,255,000) $4,632,875 $3,207,375 $2,851,000 $3,563,750 $14,255,000


Refrigerator

StoveStoveStove

Stove


Dishwasher


Microwave

ovenovenoven

oven

TotalTotalTotal

Total

Segment margin $5,200,000 $8,400,000 $5,300,000 $3,560,000 $22,460,000Less: Headquarter costs 4,632,875 3,207,375 2,851,000 3,563,750 14,255,000Division margin $ 567,125 $5,192,625 $2,449,000 $ (3,750) $ 8,205,000Division margin ÷ Revenues 5.2% 27.6% 21.3% (0.06)% 17.1%


Refrigerator

StoveStoveStove

Stove


Dishwasher


Microwave

OvenOvenOven

Oven

TotalTotalTotal

Total

1. Segment margin $5,200,000 $8,400,000 $5,300,000 $3,560,000 $22,460,0002. % segment margin$5,200000; $8,400,000;$5,300,000; $3,560,000÷ $22,460,000 23.15% 37.40% 23.60% 15.85% 100%3. Allocated headquarter cost

(Row 2 × $14,255,000) $3,300,033 $5,331,370 $3,364,180 $2,259,417 $14,255,000


Refrigerator

StoveStoveStove

Stove


Dishwasher


Microwave

ovenovenoven

oven

TotalTotalTotal

Total

Segment margin $5,200,000 $8,400,000 $5,300,000 $3,560,000 $22,460,000Less: Headquarter costs 3,300,033 5,331,370 3,364,180 2,259,417 14,225,000Division margin $1,899,967 $3,068,630 $1,935,820 $1,300,583 $ 8,205,000Division margin ÷ Revenues 17.4% 16.3% 16.8% (19.2)% 17.1%

14-5

3. None of the divisions should be dropped, since all four have positive segment marginsbefore considering the headquarter’s cost allocation. As seen by these two options, the allocationof headquarter costs is arbitrary and should not serve as the basis for closing a division.Dropping the microwave division would be worthwhile only if the $3,563,750 of allocatedheadquarter costs could be saved if the microwave division is closed – a very unlikely scenario.

14-1814-1814-18

14-18

(30 min.) CostCostCost

Cost


allocation

tototo

to


divisions.

1.HotelHotelHotel

Hotel

RestaurantRestaurantRestaurant

Restaurant

CasinoCasinoCasino

Casino

RembrandtRembrandtRembrandt

Rembrandt

Revenue $16,425,000 $5,256,000 $12,340,000 $34,021,000Direct costs 9,819,260 3,749,172 4,248,768 17,817,200Segment margin $ 6,605,740 $1,506,828 $ 8,091,232 16,203,800Fixed overhead costs 14,550,000Income before taxes $ 1,653,800Segment margin % 40.22% 28.67% 65.57%

2.HotelHotelHotel

Hotel


Restaurant

CasinoCasinoCasino

Casino


Rembrandt

Direct costs $9819260 $3749172 $4248768 $17817200Direct cost % 55.11% 21.04% 23.85% 100.00%Square footage 80,000 16,000 64,000 160,000Square footage % 50.00% 10.00% 40.00% 100.00%Number of employees 200 50 250 500Number of employees % 40.00% 10.00% 50.00% 100.00%

A: Cost allocation based on direct costs:HotelHotelHotel

Hotel


Restaurant

CasinoCasinoCasino

Casino


Rembrandt

Revenue $16,425,000 $ 5,256,000 $12,340,000 $34,021,000Direct costs 9,819,260 3,749,172 4,248,768 17,817,200Segment margin 6,605,740 1,506,828 8,091,232 16,203,800Allocated fixed overhead costs 8,018,505 3,061,320 3,470,175 14,550,000Segment pre-tax income $ (1,412,765) $ (1,554,492) $ 4,621,057 $ 1,653,800Segment pre-tax income % of rev. -8.60% -29.58% 37.45%

B: Cost allocation based on floor space:HotelHotelHotel

Hotel


Restaurant

CasinoCasinoCasino

Casino


Rembrandt

Allocated fixed overhead costs $7,275,000 $1,455,000 $5,820,000 $14,550,000Segment pre-tax income $ (669,260) $ 51,828 $2,271,232 $ 1,653,800Segment pre-tax income % of rev. -4.07% 0.99% 18.41%

C: Cost allocation based on number of employeesHotelHotelHotel

Hotel


Restaurant

CasinoCasinoCasino

Casino


Rembrandt

Allocated fixed overhead costs $5,820,000 $1,455,000 $7,275,000 $14,550,000Segment pre-tax income $ 785,740 $ 51,828 $ 816,232 $ 1,653,800Segment pre-tax income % of rev. 4.78% 0.99% 6.61%

14-6

3. Requirement 2 shows the dramatic effect of choice of cost allocation base on segmentpre-tax income as a percentage of revenues:

The decision context should guide (a) whether costs should be allocated, and (b) thepreferred cost allocation base. Decisions about, say, performance measurement, may be made ona combination of financial and nonfinancial measures. It may well be that Rembrandt may preferto exclude allocated costs from the financial measures to reduce areas of dispute.

Where cost allocation is required, the cause-and-effect and benefits-received criteria arerecommended in Chapter 14. The $14,550,000 is a fixed overhead cost. This means that on ashort-run basis, the cause-and-effect criterion is not appropriate but Rembrandt could attempt toidentify the cost drivers for these costs in the long run when these costs are likely to be morevariable. Rembrandt should look at how the $14,550,000 cost benefits the three divisions. Thiswill help guide the choice of an allocation base in the short run.

4. The analysis in requirement 2 should not guide the decision on whether to shut down anyof the divisions. The overhead costs are fixed costs in the short run. It is not clear how thesecosts would be affected in the long run if Rembrandt shut down one of the divisions. Also, eachdivision is not independent of the other two. A decision to shut down, say, the restaurant, likelywould negatively affect the attendance at the casino and possibly the hotel. Rembrandt shouldexamine the future revenue and future cost implications of different resource investments in thethree divisions. This is a future-oriented exercise, whereas the analysis in requirement 2 is ananalysis of past costs.

Pre-taxPre-taxPre-tax

Pre-tax

IncomeIncomeIncome

Income

PercentagePercentagePercentage

Percentage

AllocationAllocationAllocation

Allocation

BaseBaseBase

Base

HotelHotelHotel

Hotel


Restaurant

CasinoCasinoCasino

Casino

Direct costs -8.60% -29.58% 37.45%Floor space -4.07 0.99 18.41Number of employees 4.78 0.99 6.61

14-7

14-1914-1914-19

14-19


Cost


allocation

tototo

to


divisions.

Percentages for various allocation bases (old and new):

2.

PulpPulpPulp

Pulp

PaperPaperPaper

Paper

FibersFibersFibers

Fibers

TotalTotalTotal

Total

(1) Division margin percentages$2,400,000; $7,100,000; $9,500,000 $19,000,000 12.63157% 37.36843% 50.0% 100.0%

(2) Share of employees$350; 250; 400 1,000 35.0 25.0 40.0 100.0

(3) Share of floor space35,000; 24,000; 66,000 125,000 28.0 19.2 52.8 100.0

(4) Share of total division administrative costs$2,000,000; $1,800,000; $3,200,000 $7,000,000 28.57142 25.71428 45.71428 100.0

1.PulpPulpPulp

Pulp

PaperPaperPaper

Paper

FibersFibersFibers

Fibers

TotalTotalTotal

Total

(5) Division margin $2,400,000 $ 7,100,000 $ 9,500,000 $19,000,000(6) Corporate overhead allocated on segment

margins = (1) $9,000,000 1,136,842 3,363,158 4,500,000 9,000,000(7) Operating margin with division-margin-based

allocation = (5) – (6) $1,263,158 $ 3,736,842 $ 5,000,000 $10,000,000(8) Revenues $8,500,000 $17,500,000 $24,000,000 $50,000,000Operating margin as a percentage of revenues 14.9% 21.3% 20.8% 20.0%

PulpPulpPulp

Pulp

PaperPaperPaper

Paper

FibersFibersFibers

Fibers

TotalTotalTotal

Total

(5) Division margin $2,400,000 $ 7,100,000 $ 9,500,000 $19,000,000HRM costs (alloc. base: no. of employees)= (2) $1,800,000 630 ,000 450,000 720,000 1,800,000Facility costs (alloc. base: floor space)= (3) $2,700,000 756,000 518,400 1,425,600 2,700,000Corp. admin (alloc. base: div. admin costs)= (4) $4,500,000 1,285,714 1,157,143 2,057,143 4,500,000Corp. overhead allocated to each division 2,671,714 2,125,543 4,202,743 9,000,000Operating margin with cause-and-effectallocation $ (271,714) $ 4,974,457 $ 5,297,257 $10,000,000(8) Revenues $8,500,000 $17,500,000 $24,000,000 $50,000,000Operating margin as a percentage of revenues -3.2% 28.4% 22.1% 20.0 %

14-8

3. When corporate overhead is allocated to the divisions on the basis of division margins(requirement 1), each division is profitable (has positive operating margin) and the Paperdivision is the most profitable (has the highest operating margin percentage) by a slim margin,while the Pulp division is the least profitable. When Bardem’s suggested bases are used toallocate the different types of corporate overhead costs (requirement 2), we see that, in fact, thePulp division is not profitable (it has a negative operating margin). Paper continues to be themost profitable and, in fact, it is significantly more profitable than the Fibers division.

If division performance is linked to operating margin percentages, Pulp will resist thisnew way of allocating corporate costs, which causes its operating margin of nearly 15% (in theold scheme) to be transformed into a -3.2% operating margin. The new cost allocationmethodology reveals that, if the allocation bases are reasonable, the Pulp division consumes agreater share of corporate resources than its share of segment margins would indicate. Pulpgenerates 12.6% of the segment margins, but consumes almost 29.7% ($2,671,714 $9,000,000)of corporate overhead resources. Paper will welcome the change—its operating marginpercentage rises the most, and Fiber’s operating margin percentage remains practically the same.

Note that in the old scheme, Paper was being penalized for its efficiency (smallest share ofadministrative costs), by being allocated a larger share of corporate overhead. In the new scheme,its efficiency in terms of administrative costs, employees, and square footage is beingrecognized.

4. The new approach is preferable because it is based on cause-and-effect relationshipsbetween costs and their respective cost drivers in the long run.

Human resource management costs are allocated using the number of employees in eachdivision because the costs for recruitment, training, etc., are mostly related to the number ofemployees in each division. Facility costs are mostly incurred on the basis of space occupied byeach division. Corporate administration costs are allocated on the basis of divisionaladministrative costs because these costs are incurred to provide support to divisionaladministrations.

To overcome objections from the divisions, Bardem may initially choose not to allocatecorporate overhead to divisions when evaluating performance. He could start by sharing theresults with the divisions, and giving them—particularly the Pulp division—adequate time tofigure out how to reduce their share of cost drivers. He should also develop benchmarks bycomparing the consumption of corporate resources to competitors and other industry standards.

14-9

14-2014-2014-20

14-20

(30 min.) CustomerCustomerCustomer

Customer

profitability,profitability,profitability,

profitability,

customercustomercustomer

customer

costcostcost

cost

hierarchy.hierarchy.hierarchy.

hierarchy.

1. AllAllAll

All

amountsamountsamounts

amounts

ininin

in

thousandsthousandsthousands

thousands

ofofof

of

U.S.U.S.U.S.

U.S.

dollarsdollarsdollars

dollars

WholesaleWholesaleWholesale

Wholesale

RetailRetailRetail

Retail

NorthNorthNorth

North

AmericaAmericaAmerica

America

SouthSouthSouth

South


America

BigBigBig

Big

SamSamSam

Sam

WorldWorldWorld

World

WholesalerWholesalerWholesaler

Wholesaler


Wholesaler

StereoStereoStereo

Stereo

MarketMarketMarket

Market

Revenues at list prices $420,000 $580,000 $130,000 $100,000Price discounts 30,000 40,000 7,000 500Revenues (at actual prices) 390,000 540,000 123,000 99,500Cost of goods sold 325,000 455,000 118,000 90,000Gross margin 65,000 85,000 5,000 9,500Customer-level operating costs

Delivery 450 650 200 125Order processing 800 1,000 200 130Sales visit 5,600 5,500 2,300 1,350

Total cust.-level optg.costs 6,850 7,150 2,700 1,605Customer-level operating

income $ 58,150 $ 77,850 $ 2,300 $ 7,895

14-10

2.CustomerCustomerCustomer

Customer

DistributionDistributionDistribution

Distribution

ChannelsChannelsChannels

Channels

(all(all(all

(all


amounts

ininin

in

$000s)$000s)$000s)

$000s)

aCost of goods sold + Total customer-level operating costs from Requirement 1

3. If corporate costs are allocated to the channels, the retail channel will show an operating loss of$10,805,000 ($3,195,000 – $14,000,000), and the wholesale channel will show an operating profit of$47,000,000 ($98,000,000 – $51,000,000). The overall operating profit, of course, is still $36,195,000,as in requirement 2. There is, however, no cause-and-effect or benefits-received relationship betweencorporate costs and any allocation base, i.e., the allocation of $51,000,000 to the wholesale channel andof $14,000,000 to the retail channel is arbitrary and not useful for decision-making. Therefore, themanagement of Ramish Electronics should not base any performance evaluations orinvestment/disinvestment decisions based on these channel-level operating income numbers. They maywant to take corporate costs into account, however, when making pricing decisions.


Wholesale

CustomersCustomersCustomers

Customers

RetailRetailRetail

Retail


Customers

TotalTotalTotal

Total

TotalTotalTotal

Total

NorthNorthNorth

North


America

SouthSouthSouth

South


America

TotalTotalTotal

Total

BigBigBig

Big

SamSamSam

Sam

WorldWorldWorld

World

(all(all(all

(all

customers)customers)customers)

customers)


Wholesale


Wholesaler


Wholesaler

RetailRetailRetail

Retail

StereoStereoStereo

Stereo

MarketMarketMarket

Market

(1)(1)(1)

(1)

===

=

(2)(2)(2)

(2)

+++

+

(5)(5)(5)

(5)

(2)(2)(2)

(2)

===

=

(3)(3)(3)

(3)

+++

+

(4)(4)(4)

(4)

(3)(3)(3)

(3)

(4)(4)(4)

(4)

(5)(5)(5)

(5)

===

=

(6)(6)(6)

(6)

+++

+

(7)(7)(7)

(7)

(6)(6)(6)

(6)

(7)(7)(7)

(7)

Revenues (at actual prices) $1,152,500 $930,000 $390,000 $540,000 $222,500 $123,000 $99,500Customer-level costs 1,006,305 794,000 331,850 a 462,150 a 212,305 120,700 a 91,605 a

Customer-level operating income 146,195 136,000 $ 58,150 $ 77,850 10,195 $ 2,300 $ 7,895Distribution-channel costs 45,000 38,000 7,000Distribution-channel-level oper. income 101,195 $ 98,000 $ 3,195Corporate-sustaining costs 65,000Operating income $ 36,195

14-11

14-2114-2114-21

14-21


Customer


profitability,

serviceserviceservice

service

company.company.company.

company.

1.

2. Customers Ranked on Customer-Level Operating Income

AveryAveryAvery

Avery

OkieOkieOkie

Okie

WizardWizardWizard

Wizard

GraingerGraingerGrainger

Grainger

DuranDuranDuran

Duran

Revenues $260,000 $200,000 $322,000 $122,000 $212,000Technician and equipment cost 182,000 175,000 225,000 107,000 178,000Gross margin 78,000 25,000 97,000 15,000 34,000Service call handling($75 150; 240; 40; 120; 180) 11,250 18,000 3,000 9,000 13,500Web-based parts ordering($80 120; 210; 60; 150; 150) 9,600 16,800 4,800 12,000 12,000Billing/Collection($50 30; 90; 90; 60; 120) 1,500 4,500 4,500 3,000 6,000Database maintenance($10 150; 240; 40; 120; 180) 1,500 2,400 400 1,200 1,800Customer-level operating income $ 54,150 $ (16,700) $ 84,300 $(10,200) $ 700

CumulativeCumulativeCumulative

Cumulative

Customer-LevelCustomer-LevelCustomer-Level

Customer-Level

OperatingOperatingOperating

Operating

IncomeIncomeIncome

Income


Customer-Level


Customer-Level


Cumulative

asasas

as

aaa

a

%%%

%

ofofof

of

TotalTotalTotal

Total


Operating

CustomerCustomerCustomer

Customer


Operating

IncomeIncomeIncome

Income


Customer-Level


Customer-Level


Customer

IncomeIncomeIncome

Income

RevenueRevenueRevenue

Revenue

asasas

as

aaa

a

%%%

%

ofofof

of


Revenue


Operating

IncomeIncomeIncome

Income


Operating

IncomeIncomeIncome

Income

CodeCodeCode

Code

(1)(1)(1)

(1)

(2)(2)(2)

(2)

(3)(3)(3)

(3)

===

=

(1)(1)(1)

(1)

(2)(2)(2)

(2)

(4)(4)(4)

(4)

(5)(5)(5)

(5)

===

=

(4)(4)(4)

(4)

$112,250$112,250$112,250

$112,250

Wizard $ 84,300 $ 322,000 26.18% $ 84,300 75%Avery 54,150 260,000 20.83% 138,450 123%Duran 700 212,000 0.33% 139,150 124%Grainger (10,200) 122,000 -8.36% 128,950 115%Okie (16,700) 200,000 -8.35% 112,250 100%

$112,250 $1,116,000

14-12

The above table and graph present the summary results. Wizard, the most profitable customer,provides 75% of total operating income. The three best customers provide 124% of IS’soperating income, and the other two, by incurring losses for IS, erode the extra 24% of operatingincome down to IS’s operating income.

3. The options that Instant Service should consider include:a. Increase the attention paid to Wizard and Avery. These are “key customers,” and

every effort has to be made to ensure they retain IS. IS may well want to suggest aminor price reduction to signal how important it is in their view to provide a cost-effective service to these customers.

b. Seek ways of reducing the costs or increasing the revenues of the problemaccounts––Okie and Grainger. For example, are the copying machines at thosecustomer locations outdated and in need of repair? If yes, an increased charge may beappropriate. Can IS provide better on-site guidelines to users about ways to reducebreakdowns?

c. As a last resort, IS may want to consider dropping particular accounts. For example,if Grainger (or Okie) will not agree to a fee increase but has machines continuallybreaking down, IS may well decide that it is time not to bid on any more work for thatcustomer. But care must then be taken to otherwise use or get rid of the excess fixedcapacity created by “firing” unprofitable customers.


Customer-Level


Operating

IncomeIncomeIncome

Income

$84,300

$54,150

$700

$(10,200)$(16,700)

-$40,000

-$20,000

$0

$20,000

$40,000

$60,000

$80,000

$100,000


Customers

Cus

tom

er-L

evel

Cus

tom

er-L

evel

Cus

tom

er-L

evel

Cus

tom

er-L

evel

Ope

ratin

gO

pera

ting

Ope

ratin

g

Ope

ratin

g

Inco

me

Inco

me

Inco

me

Inco

me

GraingerGraingerGrainger

Grainger

AveryAveryAvery

Avery

OkieOkieOkie

Okie

DuranDuranDuran

Duran

WizardWizardWizard

Wizard

14-13

14-2214-2214-22

14-22


Customer


profitability,

distribution.distribution.distribution.

distribution.

1. The activity-based costing for each customer is:

1. Order processing,$40 × 13; $40 × 10 $ 520 $ 400

2. Line-item ordering,$3 × (13 × 9; 10 × 18) 351 540

3. Store deliveries,$50 × 7; $50 ×10 350 500

4. Carton deliveries,$1 × (7 × 22; 10 × 20) 154 200

5. Shelf-stocking,$16 × (7 × 0; 10 × 0.5) 0 80

Operating costs $1,375 $1,720

The operating income of each customer is:

Revenues,$2,400 × 7; $1,800 × 10 $16,800 $18,000

Cost of goods sold,$2,100 × 7; $1,650 × 10 14,700 16,500

Gross margin 2,100 1,500Operating costs 1,375 1,720Operating income $ 725 $ (220)

Chapel Hill Pharmacy has a lower gross margin percentage than Charleston (8.33% vs. 12.50%)and consumes more resources to obtain this lower margin.

2. Ways Figure Four could use this information include:a. Pay increased attention to the top 20% of the customers. This could entail asking them for

ways to improve service. Alternatively, you may want to highlight to your own personnelthe importance of these customers; e.g., it could entail stressing to delivery people theimportance of never missing delivery dates for these customers.

b. Work out ways internally at Figure Four to reduce the rate per cost driver; e.g., reduce thecost per order by having better order placement linkages with customers. This costreduction by Figure Four will improve the profitability of all customers.

c. Work with customers so that their behavior reduces the total “system-wide” costs. At aminimum, this approach could entail having customers make fewer orders and fewer lineitems. This latter point is controversial with students; the rationale is that a reduction inthe number of line items (diversity of products) carried by Ma and Pa stores may reducethe diversity of products Figure Four carries.

CharlestonCharlestonCharleston

Charleston

PharmacyPharmacyPharmacy

Pharmacy

ChapelChapelChapel

Chapel

HillHillHill

Hill


Pharmacy

CharlestonCharlestonCharleston

Charleston


Pharmacy

ChapelChapelChapel

Chapel

HillHillHill

Hill


Pharmacy

14-14

There are several options here: Simple verbal persuasion by showing customers cost drivers at Figure Four. Explicitly pricing out activities like cartons delivered and shelf-stocking so that

customers pay for the costs they cause. Restricting options available to certain customers, e.g., customers with low revenues

could be restricted to one free delivery per week.

An even more extreme example is working with customers so that deliveries are easier to makeand shelf-stocking can be done faster.

d. Offer salespeople bonuses based on the operating income of each customer rather thanthe gross margin of each customer.

Some students will argue that the bottom 40% of the customers should be dropped. Thisaction should be only a last resort after all other avenues have been explored. Moreover, anunprofitable customer today may well be a profitable customer tomorrow, and it is myopic tofocus on only a 1-month customer-profitability analysis to classify a customer as unprofitable.

14-2314-2314-23

14-23

(30–40 min.) VarianceVarianceVariance

Variance

analysis,analysis,analysis,

analysis,

multiplemultiplemultiple

multiple

products.products.products.

products.

1.variance

Sales-volume =

unitsin quantity sales Actual

unitsin quantity sales Budgeted

per ticketmargin oncontributi Budgeted

Lower-tier tickets = (3,300 – 4,000) $20 =$14,000 UUpper-tier tickets = (7,700 – 6,000) $ 5 = 8,500 FAll tickets $ 5,500 U

2. =unitper margin on contributiaverage Budgeted

000,10$5) (6,000 $20) 000,4(

= =10,000

$30,000 000,80$ 000,10

000,110$

= $11 per unit (seat sold)

Sales-mix percentages:BudgetedBudgetedBudgeted

Budgeted

ActualActualActual

Actual

Lower-tier = 0.40000,10000,4 = 0.30

000,11300,3

Upper-tier = 0.60000,10000,6 = 0.70

000,11700,7

14-15

Solution Exhibit 14-23 presents the sales-volume, sales-quantity, and sales-mix variances forlower-tier tickets, upper-tier tickets, and in total for Detroit Penguins in 2010.

The sales-quantity variances can also be computed as:

varianceSales-quantity =

sold ticketsall of

units Budgeted

sold ticketsall of

units Actual

percentagemix-sales

Budgeted

per ticketmargin cont.

Budgeted

The sales-quantity variances are:Lower-tier tickets = (11,000 – 10,000) × 0.40 × $20 = $ 8,000 FUpper-tier tickets = (11,000 – 10,000) × 0.60 × $ 5 = 3,000 FAll tickets $11,000 F

The sales-mix variance can also be computed as:

varianceSales-mix = ×

sold ticketsall of

units Actual Actual Budgeted Budgetedcontribution marginsales-mix sales-mix

per ticketpercentage percentage

The sales-mix variances are

Lower-tier tickets = 11,000 × (0.30 – 0.40) × $20 = $22,000 UUpper-tier tickets = 11,000 × (0.70 – 0.60) × $ 5 = 5,500 FAll tickets $16,500 U

3. The Detroit Penguins increased average attendance by 10% per game. However, therewas a sizable shift from lower-tier seats (budgeted contribution margin of $20 per seat) to theupper-tier seats (budgeted contribution margin of $5 per seat). The net result: the actualcontribution margin was $5,500 below the budgeted contribution margin.

14-16

SOLUTIONSOLUTIONSOLUTION

SOLUTION

EXHIBITEXHIBITEXHIBIT

EXHIBIT

14-2314-2314-23

14-23

Columnar Presentation of Sales-Volume, Sales-Quantity and Sales-Mix Variances for DetroitPenguins

F = favorable effect on operating income; U = unfavorable effect on operating income.

FlexibleFlexibleFlexible

Flexible

Budget:Budget:Budget:

Budget:

ActualActualActual

Actual

UnitsUnitsUnits

Units

ofofof

of

AllAllAll

All

ProductsProductsProducts

Products

SoldSoldSold

Sold

× ActualActualActual

Actual

SalesSalesSales

Sales

MixMixMix

Mix

× BudgetedBudgetedBudgeted

Budgeted

ContributionContributionContribution

Contribution

MarginMarginMargin

Margin

perperper

per

UnitUnitUnit

Unit

(1)(1)(1)

(1)

ActualActualActual

Actual

UnitsUnitsUnits

Units

ofofof

of

AllAllAll

All


Products

SoldSoldSold

Sold


Budgeted

SalesSalesSales

Sales

MixMixMix

Mix


Budgeted


Contribution

MarginMarginMargin

Margin

perperper

per

UnitUnitUnit

Unit

(2)(2)(2)

(2)

StaticStaticStatic

Static


Budget:

BudgetedBudgetedBudgeted

Budgeted

UnitsUnitsUnits

Units

ofofof

of

AllAllAll

All


Products

SoldSoldSold

Sold


Budgeted

SalesSalesSales

Sales

MixMixMix

Mix


Budgeted


Contribution

MarginMarginMargin

Margin

perperper

per

UnitUnitUnit

Unit

(3)(3)(3)

(3)

Panel A:Lower-tier (11,000 × 0.30a) × $20

3,300 × $20(11,000 × 0.40b) × $20

4,400 × $20(10,000 × 0.40b) × $20

4,000 × $20$66,000 $88,000 $80,000

$22,000U $8,000 FSales-mix variance Sales-quantity variance

$14,000 USales-volume variance

Panel B:Upper-tier (11,000 × 0.70c) × $5

7,700 × $5(11,000 × 0.60d) × $5

6,600 × $5(10,000 × 0.60d) × $5

6,000 × $5$38,500 $33,000 $30,000

$5,500 F $3,000 FSales-mix variance Sales-quantity variance

$8,500 FSales-volume variance

Panel C:All Tickets(Sum of Lower-tier and Upper-tier tickets)

$104,500e $121,000f $110,000g

$16,500 U $11,000 FTotal sales-mix variance Total sales-quantity variance

$5,500 UTotal sales-volume variance

Actual Sales Mix:aLower-tier = 3,300 ÷ 11,000 = 30%cUpper-tier = 7,700 ÷ 11,000 = 70%e$66,000 + $38,500 = $104,500

Budgeted Sales Mix:bLower-tier = 4,000 ÷ 10,000 = 40%dUpper-tier = 6,000 ÷ 10,000 = 60%f $88,000 + $33,000 = $121,000g $80,000 + $30,000 = $110,000

14-17

14-2414-2414-24

14-24

(30 min.) VarianceVarianceVariance

Variance


analysis,

workingworkingworking

working

backwardbackwardbackward

backward

.

1. and 2. Solution Exhibit 14-24 presents the sales-volume, sales-quantity, and sales-mixvariances for the Plain and Chic wine glasses and in total for Jinwa Corporation in June 2009.The steps to fill in the numbers in Solution Exhibit 14-24 follow:

StepStepStep

Step

111

1

Consider the static budget column (Column 3):

Static budget total contribution margin $5,600Budgeted units of all glasses to be sold 2,000Budgeted contribution margin per unit of Plain $2Budgeted contribution margin per unit of Chic $6

Suppose that the budgeted sales-mix percentage of Plain is y. Then the budgeted sales-mix percentage of Chic is (1 – y). Therefore,

(2,000y $2) + (2,000 (1 – y) $6) = $5,600$4000y + $12,000 – $12,000y = $5,600

$8,000y = $6,400y = 0.8 or 80%

1 – y = 20%

Jinwa’s budgeted sales mix is 80% of Plain and 20% of Chic. We can then fill in all the numbersin Column 3.

StepStepStep

Step

222

2

Next, consider Column 2 of Solution Exhibit 14-24.

The total of Column 2 in Panel C is $4,200 (the static budget total contribution margin of$5,600 – the total sales-quantity variance of $1,400 U which was given in the problem).

We need to find the actual units sold of all glasses, which we denote by q. From Column2, we know that

(q 0.8 $2) + (q 0.2 $6) = $4,200$1.6q + $1.2q = $4,200

$2.8q = $4,200q = 1,500 units

So, the total quantity of all glasses sold is 1,500 units. This computation allows us to fill in all thenumbers in Column 2.

14-18

StepStepStep

Step

333

3

Next, consider Column 1 of Solution Exhibit 14-24. We know actual units sold of all glasses(1,500 units), the actual sales-mix percentage (given in the problem information as Plain, 60%;Chic, 40%), and the budgeted unit contribution margin of each product (Plain, $2; Chic, $6). Wecan therefore determine all the numbers in Column 1.

Solution Exhibit 14-24 displays the following sales-quantity, sales-mix, and sales-volumevariances:

Sales-VolumeSales-VolumeSales-Volume

Sales-Volume

VarianceVarianceVariance

Variance

Plain $1,400 UChic 1,200 FAll Glasses $ 200 U

Sales-MixSales-MixSales-Mix

Sales-Mix

VariancesVariancesVariances

Variances

Sales-QuantitySales-QuantitySales-Quantity

Sales-Quantity

VariancesVariancesVariances

Variances

Plain $ 600 U Plain $ 800 UChic 1,800 F Chic 600 UAll Glasses $1,200 F All Glasses $1,400 U

3. Jinwa Corporation shows an unfavorable sales-quantity variance because it sold fewerwine glasses in total than was budgeted. This unfavorable sales-quantity variance is partiallyoffset by a favorable sales-mix variance because the actual mix of wine glasses sold has shiftedin favor of the higher contribution margin Chic wine glasses. The problem illustrates how failureto achieve the budgeted market penetration can have negative effects on operating income.

14-19


SOLUTION


EXHIBIT

14-2414-2414-24

14-24

Columnar Presentation of Sales-Volume, Sales-Quantity and Sales-Mix Variancesfor Jinwa Corporation



Flexible


Budget:

ActualActualActual

Actual

UnitsUnitsUnits

Units

ofofof

of

AllAllAll

All

GlassesGlassesGlasses

Glasses

SoldSoldSold

Sold

ActualActualActual

Actual

SalesSalesSales

Sales

MixMixMix

Mix


Budgeted


Contribution

MarginMarginMargin

Margin

perperper

per

UnitUnitUnit

Unit

ActualActualActual

Actual

UnitsUnitsUnits

Units

ofofof

of

AllAllAll

All


Glasses

SoldSoldSold

Sold


Budgeted

SalesSalesSales

Sales

MixMixMix

Mix


Budgeted


Contribution

MarginMarginMargin

Margin

perperper

per

UnitUnitUnit

Unit

StaticStaticStatic

Static


Budget:


Budgeted

UnitsUnitsUnits

Units

ofofof

of

AllAllAll

All


Glasses

SoldSoldSold

Sold


Budgeted

SalesSalesSales

Sales

MixMixMix

Mix


Budgeted


Contribution

MarginMarginMargin

Margin

perperper

per

UnitUnitUnit

Unit

Panel A:Plain

(1,500 0.6) $2900 $2

(1,500 0.8) $21,200 $2

(2,000 0.8) $21,600 $2

$1,800 $2,400 $3,200$600 U $800 U

Sales-mix variance Sales-quantity variance$1,400 U

Sales-volume variance

Panel B:Chic

(1,500 0.4) $6600 $6

(1,500 0.2) $6300 $6

(2,000 0.2) $6400 $6

$3,600 $1,800 $2,400$1,800 F $600 U

Sales-mix variance Sales-quantity variance$1,200 F


Panel C:All Glasses

$5,400 $4,200 $5,600$1,200 F $1,400 U

Total sales-mix variance Total sales-quantity variance$200 U

Total sales-volume variance

14-20

14-2514-2514-25

14-25


Variance


analysis,


multiple


products.

1. BudgetBudgetBudget

Budget

forforfor

for

200920092009

2009

VariableVariableVariable

Variable

Contrib.Contrib.Contrib.

Contrib.

SellingSellingSelling

Selling

CostCostCost

Cost

MarginMarginMargin

Margin

UnitsUnitsUnits

Units

SalesSalesSales

Sales


Contribution

PricePricePrice

Price

perperper

per

UnitUnitUnit

Unit

perperper

per

UnitUnitUnit

Unit

SoldSoldSold

Sold

MixMixMix

Mix

MarginMarginMargin

Margin

(1)(1)(1)

(1)

(2)(2)(2)

(2)

(3)(3)(3)

(3)

===

=

(1)(1)(1)

(1)

–––

–

(2)(2)(2)

(2)

(4)(4)(4)

(4)

(5)(5)(5)

(5)

(6)(6)(6)

(6)

===

=

(3)(3)(3)

(3)

×××

×

(4)(4)(4)

(4)

Kola $6.00 $4.00 $2.00 400,000 16% $ 800,000Limor 4.00 2.80 1.20 600,000 24 720,000Orlem 7.00 4.50 2.50 1,500,000 60 3,750,000Total 2,500,000 100% $5,270,000

ActualActualActual

Actual

forforfor

for

200920092009

2009


Variable

Contrib.Contrib.Contrib.

Contrib.


Selling

CostCostCost

Cost

MarginMarginMargin

Margin

UnitsUnitsUnits

Units

SalesSalesSales

Sales


Contribution

PricePricePrice

Price

perperper

per

UnitUnitUnit

Unit

perperper

per

UnitUnitUnit

Unit

SoldSoldSold

Sold

MixMixMix

Mix

MarginMarginMargin

Margin

(1)(1)(1)

(1)

(2)(2)(2)

(2)

(3)(3)(3)

(3)

===

=

(1)(1)(1)

(1)

–––

–

(2)(2)(2)

(2)

(4)(4)(4)

(4)

(5)(5)(5)

(5)

(6)(6)(6)

(6)

===

=

(3)(3)(3)

(3)

×××

×

(4)(4)(4)

(4)

Kola $6.20 $4.50 $1.70 480,000 16% $ 816,000Limor 4.25 2.75 1.50 900,000 30 1,350,000Orlem 6.80 4.60 2.20 1,620,000 54 3,564,000Total 3,000,000 100% $5,730,000

Solution Exhibit 14-25 presents the sales-volume, sales-quantity, and sales-mix variances foreach product and in total for 2009.

Sales-volumevariance

Actual Budgetedquantity of quantity ofunits sold units sold

Budgetedcontribution margin

per unit

Kola = ( 480,000 – 400,000) × $2.00 = $160,000 FLimor = ( 900,000 – 600,000) × $1.20 = 360,000 FOrlem = (1,620,000 – 1,500,000) × $2.50 = 300,000 FTotal $820,000 F

Sales-quantityvariance

Actual units Budgeted unitsof all products of all products

sold sold

Budgetedsales-mixpercentage

Budgeted

contribution marginper unit

Kola = (3,000,000 – 2,500,000) × 0.16 × $2.00 = $ 160,000 FLimor = (3,000,000 – 2,500,000) × 0.24 × $1.20 = 144,000 FOrlem = (3,000,000 – 2,500,000) × 0.60 × $2.50 = 750,000 FTotal $1,054,000 F

14-21

Actual units Actual Budgeted Budgeted= of all products × sales-mix – sales-mix × contrib. margin

sold percentage percentage per unit

Kola = 3,000,000 × (0.16 – 0.16) × $2.00 = $ 0Limor = 3,000,000 × (0.30– 0.24) × $1.20 = 216,000 FOrlem = 3,000,000 × (0.54 – 0.60) × $2.50 = 450,000 UTotal $234,000 U

2. The breakdown of the favorable sales-volume variance of $820,000 shows that the biggestcontributor is the 500,000 unit increase in sales resulting in a favorable sales-quantity variance of$1,054,000. There is a partially offsetting unfavorable sales-mix variance of $234,000 in contributionmargin.


SOLUTION


EXHIBIT

14-2514-2514-25

14-25


Sales-Mix

andandand

and


Sales-Quantity


Variance

AnalysisAnalysisAnalysis

Analysis

ofofof

of

SodaSodaSoda

Soda

KingKingKing

King

forforfor

for

200920092009

2009


Flexible


Budget:

StaticStaticStatic

Static


Budget:

ActualActualActual

Actual

UnitsUnitsUnits

Units

ofofof

of

ActualActualActual

Actual

UnitsUnitsUnits

Units

ofofof

of


Budgeted

UnitsUnitsUnits

Units

ofofof

of

AllAllAll

All


Products

SoldSoldSold

Sold

AllAllAll

All


Products

SoldSoldSold

Sold

AllAllAll

All


Products

SoldSoldSold

Sold

ActualActualActual

Actual

SalesSalesSales

Sales

MixMixMix

Mix


Budgeted

SalesSalesSales

Sales

MixMixMix

Mix


Budgeted

SalesSalesSales

Sales

MixMixMix

Mix


Budgeted


Contribution


Budgeted


Contribution


Budgeted


Contribution

MarginMarginMargin

Margin

PerPerPer

Per

UnitUnitUnit

Unit

MarginMarginMargin

Margin

PerPerPer

Per

UnitUnitUnit

Unit

MarginMarginMargin

Margin

PerPerPer

Per

UnitUnitUnit

Unit

Kola 3,000,000 0.16 $2 = $ 960,000 3,000,000 0.16 $2 =$ 960,000 2,500,000 0.16 $2 = $800,000Limor 3,000,000 0.30 $1.20 = 1,080,000 3,000,000 0.24 $1.20 = 864,000 2,500,000 0.24 $1.20 =720,000Orlem 3,000,000 0.54 $2.50 = 4,050,000 3,000,000 0.60 $2.50 = 4,500,000 2,500,000 0.60 $2.50 =3,750,000

$6,090,000 $6,324,000 $5,270,000

$234,000 U $1,054,000 FSales-mix variance Sales-quantity variance


F = favorable effect on operating income; U= unfavorable effect on operating income

Sales-mixvariance

14-22

14-2614-2614-26

14-26

(20 min.) Market-shareMarket-shareMarket-share

Market-share

andandand

and

market-sizemarket-sizemarket-size

market-size

variancesvariancesvariances

variances

(continuation(continuation(continuation

(continuation

ofofof

of

14-25).14-25).14-25).

14-25).

ActualActualActual

Actual


Budgeted

Western region 24 million 25 millionSoda King 3 million 2.5 millionMarket share 12.5% 10%

Average budgeted contribution margin per unit = $2.108 ($5,270,000 ÷ 2,500,000)Solution Exhibit 14-26 presents the sales-quantity variance, market-size variance, and market-share variance for 2006.

Actual Actual Budgeted Budgeted contributionMarket-share = market size × market – market × margin per composite

variance in units share share unit for budgeted mix

= 24,000,000 × (0.125 – 0.10) × $2.108= 24,000,000 × .025 × $2.108= $1,264,800 F

Actual Budgeted Budgeted Budgeted contributionMarket-size = market size – market size × market × margin per composite

variance in units in units share unit for budgeted mix

= (24,000,000 – 25,000,000) × 0.10 × $2.108= – 1,000,000 × 0.10 × $2.108= 210,800 U

The market share variance is favorable because the actual 12.5% market share was higher thanthe budgeted 10% market share. The market size variance is unfavorable because the market sizedecreased 4% [(25,000,000 – 24,000,000) ÷ 25,000,000].

While the overall total market size declined (from 25 million to 24 million), the increasein market share meant a favorable sales-quantity variance.

Sales-Quantity Variance$1,054,000 F

Market-share variance Market-size variance$1,264,800 F $210,800 U

14-23


SOLUTION


EXHIBIT

14-2614-2614-26

14-26

Market-ShareMarket-ShareMarket-Share

Market-Share

andandand

and

Market-SizeMarket-SizeMarket-Size

Market-Size


Variance


Analysis

ofofof

of

SodaSodaSoda

Soda

KingKingKing

King

forforfor

for

200920092009

2009

StaticStaticStatic

Static


Budget:

ActualActualActual

Actual

MarketMarketMarket

Market

SizeSizeSize

Size

ActualActualActual

Actual

MarketMarketMarket

Market

SizeSizeSize

Size


Budgeted

MarketMarketMarket

Market

SizeSizeSize

Size

ActualActualActual

Actual

MarketMarketMarket

Market

ShareShareShare

Share


Budgeted

MarketMarketMarket

Market

ShareShareShare

Share


Budgeted

MarketMarketMarket

Market

ShareShareShare

Share


Budgeted

AverageAverageAverage

Average


Budgeted


Average


Budgeted


Average


Contribution

MarginMarginMargin

Margin


Contribution

MarginMarginMargin

Margin


Contribution

MarginMarginMargin

Margin

PerPerPer

Per

UnitUnitUnit

Unit

PerPerPer

Per

UnitUnitUnit

Unit

PerPerPer

Per

UnitUnitUnit

Unit

24,000,000 0.125a $2.108b 24,000,000 0.10c $2.108 b 25,000,000 0.10c $2.108b

$6,324,000 $5,059,200 $5,270,000$1,264,800 F $210,800 U

Market-share variance Market-size variance

$1,054,000 F

Sales-quantity variance

F = favorable effect on operating income; U = unfavorable effect on operating incomeaActual market share: 3,000,000 units ÷ 24,000,000 units = 0.125, or 12.5%bBudgeted average contribution margin per unit $5,270,000 ÷ 2,500,000 units = $2.108 per unitcBudgeted market share: 2,500,000 units ÷ 25,000,000 units = 0.10, or 10%

14-24

14-2714-2714-27

14-27

(40 min.) AllocationAllocationAllocation

Allocation

ofofof

of

corporatecorporatecorporate

corporate

costscostscosts

costs

tototo

to


divisions.

1. The purposes for allocating central corporate costs to each division include the following(students may pick and discuss any two):

a. ToToTo

To

provideprovideprovide

provide

informationinformationinformation

information

forforfor

for

economiceconomiceconomic

economic

decisions.decisions.decisions.

decisions.

Allocations can signal to divisionmanagers that decisions to expand (contract) activities will likely require increases(decreases) in corporate costs that should be considered in the initial decision aboutexpansion (contraction). When top management is allocating resources to divi sions,analysis of relative divi sion profitability should consider differential use of corporateservices by divisions. Some alloca tion schemes can encourage the use of centralser vices that would otherwise be underutilized. A common rationale related to thispur pose is “to remind profit center managers that central corporate costs exist and thatdivision earnings must be adequate to cover some share of those costs.”

b. Motivation.Motivation.Motivation.

Motivation.

Allocations create incentives for division managers to control costs; forexample, by reducing the number of employees at a divi sion, a manager will savedirect labor costs as well as central personnel and payroll costs allocated on the basis ofnumber of employees. Allocation also creates incentives for division managers to monitorthe effectiveness and efficiency with which central corporate costs are spent.

c. CostCostCost

Cost

justificationjustificationjustification

justification

ororor

or

reimbursement.reimbursement.reimbursement.

reimbursement.

Some lines of business of Richfield Oil may beregulated with cost data used in determining “fair prices”; allocations of central corporatecosts will result in higher prices being set by a regulator.

d. IncomeIncomeIncome

Income

measurementmeasurementmeasurement

measurement

forforfor

for

externalexternalexternal

external

parties.parties.parties.

parties.

Richfield Oil may in clude allocations ofcentral corporate costs in its external line-of-busi ness reporting.

2.OilOilOil

Oil

&&&

&

GasGasGas

Gas

UpstreamUpstreamUpstream

Upstream

OilOilOil

Oil

&&&

&

GasGasGas

Gas

DownstreamDownstreamDownstream

Downstream

ChemicalChemicalChemical

Chemical


Products

CopperCopperCopper

Copper

MiningMiningMining

Mining

TotalTotalTotal

Total

Revenues $8,000 $16,000 $4,800 $3,200 $32,000Percentage of revenues

$8,000; $16,000; $4,800; $3,200 $32,000 25% 50% 15% 10% 100%

(Dollar(Dollar(Dollar

(Dollar


amounts

ininin

in

millions)millions)millions)

millions)

OilOilOil

Oil

&&&

&

GasGasGas

Gas


Upstream

OilOilOil

Oil

&&&

&

GasGasGas

Gas


Downstream


Chemical


Products

CopperCopperCopper

Copper

MiningMiningMining

Mining

TotalTotalTotal

Total

Revenues $8,000 $16,000 $4,800 $3,200 $32,000Operating costs 3,000 15,000 3,800 3,500 25,300Operating income 5,000 1,000 1,000 (300) 6,700Corp. costs allocated on revenues

(% of revs $3,228) 807 1,614 484 323 3,228Division operating income $4,193 $ (614) $ 516 $ (623) $ 3,472

14-25

3. First, calculate the share of each allocation base for each of the four corporate cost pools:

Using these allocation percentages and the allocation bases suggested by Rhodes, we can allocate the $3,228 M ofcorporate costs as shown below. Note that the costs in Cost Pool 2 total $800 M ($150 + $110 + $200 + $140 +$200).

4. The table below compares the reported income of each division under the originalrevenue-based allocation scheme and the new 4-pool-based allocation scheme. Oil & GasUpstream seems 17% less profitable than before ($3,467.5 $4,193 = 83%), and may resist thenew allocation, but each of the other divisions seem more profitable (or less loss-making) thanbefore and they will probably welcome it. In this setting, corporate costs are relatively large(about 13% of total operating costs), and division incomes are sensitive to the corporate costallocation method.

Strengths of Rhodes’ proposal relative to existing single-cost pool method:

OilOilOil

Oil

&&&

&

GasGasGas

Gas


Upstream

OilOilOil

Oil

&&&

&

GasGasGas

Gas


Downstream


Chemical


Products

CopperCopperCopper

Copper

MiningMiningMining

Mining

TotalTotalTotal

Total

Identifiable assets $14,000 $6,000 $3,000 $2,000 $25,000(1)Percentage of total identifiable assets$14,000; $6,000; $3,000; $2,000 $25,000 56% 24% 12% 8% 100%

Division revenues $8,000 $16,000 $4,800 $3,200 $32,000(2) Percentage of total division revenues$8,000; $16,000; $4,800; $3,200 $32,000 25% 50% 15% 10% 100%

Positive operating income $5,000 $1,000 $1,000 NONE $7,000(3) Percentage of total positive operatingincome$5,000; $1,000; $1,000; 0 $7,000 71.4% 14.3% 14.3% 0% 100%

Number of employees 9,000 12,000 6,000 3,000 30,000(4) Percentage of total employees9,000; 12,000; 6,000; 3,000 30,000 30% 40% 20% 10% 100%


(Dollar


amounts

ininin

in


millions)

OilOilOil

Oil

&&&

&

GasGasGas

Gas


Upstream

OilOilOil

Oil

&&&

&

GasGasGas

Gas


Downstream


Chemical


Products

CopperCopperCopper

Copper

MiningMiningMining

Mining

TotalTotalTotal

Total

Revenues $8,000.00 $16,000.00 $4,800.00 $3,200.00 $32,000Operating Costs 3,000.00 15,000.00 3,800.00 3,500.00 25,300Operating Income 5,000.00 1,000.00 1,000.00 (300.00) 6,700Cost Pool 1 Allocation ((1) $2,000) 1,120.00 480.00 240.00 160.00 2,000Cost Pool 2 Allocation ((2) $800) 200.00 400.00 120.00 80.00 800Cost Pool 3 Allocation ((3) $203) 145.00 29.00 29.00 0.00 203Cost Pool 4 Allocation ((4) $225) 67.50 90.00 45.00 22.50 225Division Income $3,467.50 $ 1.00 $ 566.00 $ (562.50) $ 3,472


(Dollar


amounts

ininin

in


millions)

OilOilOil

Oil

&&&

&

GasGasGas

Gas


Upstream

OilOilOil

Oil

&&&

&

GasGasGas

Gas


Downstream


Chemical


Products

CopperCopperCopper

Copper

MiningMiningMining

Mining

TotalTotalTotal

Total

Operating Income(before corp. cost allocation) $5,000.00 $1,000.00 $1,000.00 $(300.00) $6,700

Division income under revenue-basedallocation of corporate costs $4,193.00 $ (614.00) $ 516.00 $(623.00) $3,472

Division income under 4-cost-poolallocation of corporate costs $3,467.50 $ 1.00 $ 566.00 $(562.50) $3,472

14-26

a. Better able to capture cause-and-effect relationships. Interest on debt is more likelycaused by the financing of assets than by revenues. Personnel and payroll costs are morelikely caused by the number of employ ees than by revenues.

b. Relatively simple. No extra information need be collected beyond that already available.(Some students will list the extra costs of Rhodes' proposal as a weakness. However, for acompany with $30 billion in revenues, those extra costs are minimal.)

Weaknesses of Rhodes’ proposal relative to existing single-cost pool method:

a. May promote dysfunctional decision making. May encour age division managers tolease or rent assets rather than to purchase assets, even where it is economical forRichfield Oil to purchase them. This off-balance sheet financing will re duce the“identifiable assets” of the division and thus will reduce the interest on debt costsallocated to the division. (Richfield Oil could counteract this problem by incorporatingleased and rented assets in the "identifiable assets" base.)

Note: Some students criticized Rhodes’ proposal, even though agreeing that it is preferable to theexisting single-cost pool method. These criticisms include:

a. The proposal does not adequately capture cause-and-effect relationships for the legal andresearch and development cost pools. For these cost pools, specific identification ofindividual projects with an individual division can better capture cause-and-effectrelation ships.

b. The proposal may give rise to disputes over the definition and valuation of “identifiableassets.”

c. The use of actual rather than budgeted amounts in the allocation bases cre atesinterdependencies between divisions. Moreover, use of ac tual amounts means thatdivision managers do not know cost alloca tion consequences of their decisions untilthe end of each reporting period.

d. A separate allocation of fixed and variable costs would result in more refined costallocations.

e. It is questionable that 100% of central corporate costs should be allo cated. Manystudents argue that public affairs should not be allocated to any division, based on thenotion that division managers may not control many of the individual expenditures in thiscost pool.

14-27

14-2814-2814-28

14-28

CostCostCost

Cost


allocation

tototo

to


divisions.

1.

2.

1HR costs: 400 ÷ 800 = 50%; 100 ÷ 800 = 12.5%; 300 ÷ 800 = 37.5%2Accounting: $20,900,000 ÷ $38,800,000 = 53.9%; $4,500,000 ÷ $38,800,000 = 11.6%;

$13,400,000 ÷ $38,800,000 = 34.5%3 Rent and depreciation: 10,000 ÷ 20,000 = 50%; 4,000 ÷ 20,000 = 20%; 6,000 ÷ 20,000 = 30%

A cause-and-effect relationship may exist between Human Resources costs and the number ofemployees at each division. Rent and depreciation costs may be related to square feet, exceptthat very expensive machines may require little square footage, which is inconsistent with thischoice of allocation base. The Accounting Department costs are probably related to the revenuesearned by each division – higher revenues mean more transactions and more accounting. Otheroverhead costs are allocated arbitrarily.

3. The manager suggesting the new allocation bases probably works in the Cake Division.Under the old scheme, the Cake Division shows an operating loss after allocating headquartercosts because it is smaller, yet was charged an equal amount (a third) of headquarter costs. Thenew allocation scheme shows an operating profit in the Cake Division, even after allocatingheadquarter costs. The ABC method is a better way to allocate headquarter costs because it usescost allocation bases that, by and large, represent cause-and-effect relationships between variouscategories of headquarter costs and the demands that different divisions place on these costs.

BreadBreadBread

Bread

CakeCakeCake

Cake

DoughnutsDoughnutsDoughnuts

Doughnuts

TotalTotalTotal

Total

Segment margin $6,400,000 $1,300,000 $6,150,000 $13,850,000Allocated headquarter costs($5,100,000 ÷ 3) 1,700,000 1,700,000 1,700,000 5,100,000Operating income $4,700,000 $ (400,000) $4,450,000 $ 8,750,000

BreadBreadBread

Bread

CakeCakeCake

Cake

DoughnutsDoughnutsDoughnuts

Doughnuts

TotalTotalTotal

Total

Segment margin $6,400,000 $1,300,000 $6,150,000 $13,850,000Allocated headquarter costs,Human resources1

(50%; 12.5%; 37.5% × $1,900,000) 950,000 237,500 712,500 1,900,000Accounting department2

(53.9%; 11.6%; 34.5% × $1,400,000) 754,600 162,400 483,000 1,400,000Rent and depreciation3

(50%; 20%; 30% × $1,200,000) 600,000 240,000 360,000 1,200,000

Other ( )1 $600,0003 200,000 200,000 200,000 600,000

Total 2,504,600 839,900 1,755,500 5,100,000Operating income $3,895,400 $ 460,100 $4,394,500 $ 8,750,000

14-28

14-2914-2914-29

14-29

Customer-profitability.Customer-profitability.Customer-profitability.

Customer-profitability.

1.

The table indicates there are profitable and unprofitable customers. The ranking of customersfrom most to least profitable is:

2. Customer 03 is unprofitable and of the rest, customer 06 has the lowest operating income.Customer 05 has a very low operating income to revenue percentage. Customer 3 isunprofitable because it has very low revenues and requires a rush order. Customer 5 has alow operating income percentage because it places many orders, several rush orders, andrequires a large number of customer return visits for repairs in the 30-day period after thesale.

Ring Delights could make these customers more profitable by charging extra for rush orders,charging a small fee for repairs, increasing the selling price, or requiring a minimum totalrevenue for free post-sales service. Whatever decision it takes, Ring Delights must alsoconsider the effect the decision might have on sales.


Customer

010101

01

020202

02

030303

03

040404

04

050505

05

060606

06

Customer-level costsCustomer orders ($40 × 2; 7; 1; 5; 20; 3) $ 80 $ 280 $ 40 $ 200 $ 800 $120Customer fittings ($25 × 1; 2; 0; 0; 4; 1) 25 50 0 0 100 25Rush order costs ($100 × 0; 0; 1; 1; 3; 0) 0 0 100 100 300 0Returns for repair ($30 × 0; 1; 0; 1; 5; 1) 0 30 0 30 150 30

Total customer-level costs $105 $ 360 $140 $ 330 $1,350 $175

Revenue $600 $4,200 $300 $2,500 $4,900 $700Cost of product 420 2,940 210 1,750 3,430 490Gross profit 180 1,260 90 750 1,470 210Customer-level costs 105 360 140 330 1,350 175Customer-level operating income $ 75 $ 900 $(50) $ 420 $ 120 $ 35


Customer

NumberNumberNumber

Number

Customer-Customer-Customer-

Customer-

LevelLevelLevel

Level


Operating

IncomeIncomeIncome

Income

(1)(1)(1)

(1)


Customer


Revenue

(2)(2)(2)

(2)


Customer-Level


Operating

IncomeIncomeIncome

Income

DividedDividedDivided

Divided

bybyby

by


Revenue

(3)(3)(3)

(3)

===

=

(1)(1)(1)

(1)

÷÷÷

÷

(2)(2)(2)

(2)


Cumulative


Customer-

LevelLevelLevel

Level


Operating

IncomeIncomeIncome

Income

(4)(4)(4)

(4)


Cumulative


Customer-

LevelLevelLevel

Level


Operating

IncomeIncomeIncome

Income

asasas

as

aaa

a

%%%

%

ofofof

of

TotalTotalTotal

Total


Customer

IncomeIncomeIncome

Income

(5)(5)(5)

(5)

===

=

(4)(4)(4)

(4)

÷÷÷

÷

$1,500$1,500$1,500

$1,500

02 $ 900 $ 4,200 21.4% $ 900 60.0%04 420 2,500 16.8% $1,320 88.0%05 120 4,900 2.4% $1,440 96.0%01 75 600 12.5% $1,515 101.0%06 35 700 5% $1,550 103.3%03 (50) 300 -16.7% $1,500 100.0%

$1,500 $13,200

14-29

14-3014-3014-30

14-30


Customer


profitability,

distribution.distribution.distribution.

distribution.

a $14.40 2,080; 8,750; 60,800; 31,800; 3,900b ($14.40 – $14.40) 50,000; ($14.40 – $14.16) 8,750; ($14.40 – $13.20) 60,800; ($14.40 – $13.92) 31,800;

($14.40 – $12.96) 3,900c $12 2,080; 8,750; 60,800, 31,800; 3,900d $100 15; 25; 30; 25; 30e $80 2; 3; 6; 2; 3f $2 (10 14); (30 4); (60 3); (40 8); (20 40)g $0.50 2,080; 8,750; 60,800; 31,800; 3,900h $300 0; 0; 0; 0; 1

Customer S is the most profitable customer, despite having only 52% (31,800 60,800) of theunit volume of Customer R. A major explanation is that Customer R receives a $1.20 discountper case while Customer S receives only a $0.48 discount per case.

Customer T is unprofitable, while the smaller customer P is profitable. Customer Treceives a $1.44 discount per case, makes more frequent orders, requires more customer visits,and requires more delivery miles than Customer P.

2. Separate reporting of both the list selling price and the actual selling price enables SpringDistribution to examine which customers receive different discounts and how salespeople maydiffer in the discounts they grant. There is a size pattern in the discounts across the fivecustomers, except for Customer T, larger volume customers get larger discounts:

SalesSalesSales

Sales

VolumeVolumeVolume

Volume

DiscountDiscountDiscount

Discount

perperper

per

casecasecase

case

R (60,800 cases) $1.20S (31,800 cases) $0.48Q (8,750 cases) $0.24T (3,900 cases) $1.44P (2,080 cases) $0.00

The reasons for the $1.44 discount for T should be explored.

1. CustomerCustomerCustomer

Customer

PPP

P

QQQ

Q

RRR

R

SSS

S

TTT

T

Revenues at list pricesa $29,952 $126,000 $875,520 $457,920 $56,160

Discountb 0 2,100 72,960 15,264 5,616Revenues (at actual prices)Cost of goods soldc

Gross marginCustomer-level operating costs

29,95224,960

4,992

123,900105,000

18,900

802,560729,600

72,960

442,656381,600

61,056

50,54446,800

3,744

Order takingd 1,500 2,500 3,000 2,500 3,000

Customer visitse 160 240 480 160 240

Delivery vehiclesf 280 240 360 640 1,600

Product handlingg 1,040 4,375 30,400 15,900 1,950

Expedited runsh 0 0 0 0 300Total 2,980 7,355 34,240 19,200 7,090

Customer-level operating income $ 2,012 $ 11,545 $ 38,720 $ 41,856 $ (3,346)

14-30

3. Dropping customers should be the last resort taken by Spring Distribution. Factors toconsider include the following:

a. What is the expected future profitability of each customer? Are the currentlyunprofitable (T) or low-profit (P) customers likely to be highly profitable in the future?

b. Are there externalities from having some customers, even if they are unprofitable inthe short run? For example, some customers have a marquee-value that is “in effect”advertising that benefits the business.

c. What costs are avoidable if one or more customers are dropped?d. Can the relationship with the “problem” customers be restructured so that there is a

“win-win” situation? For example, could Customer T get by with fewer deliveries permonth?

14-31

14-3114-3114-31

14-31


Customer

profitabilityprofitabilityprofitability

profitability

ininin

in

aaa

a

manufacturingmanufacturingmanufacturing

manufacturing

firm.firm.firm.

firm.

1. Calculation of customer profitability by customer:

Customer ranking

2. Customer C is Bizzan’s only unprofitable customer. All other customers are profitable inline with revenue, except customer A which has more revenue than D but less operatingincome.


Customer

AAA

A

BBB

B

CCC

C

DDD

D

EEE

E

Revenues at list price $ (7,880)

$100 × 5,000; 2,400; 1,200; 4,000; 8,000 $500,000 $240,000 $120,000 $400,000 $800,000Price discount10% × $500,000; 0; 10% × $120,000; 0; 10% × $400,000 50,000 0 12,000 0 40,000Revenues (actual price) 450,000 240,000 108,000 400,000 760,000Cost of goods sold$80 × 5,000; 2,400, 1,200; 4,000; 8,000 400,000 192,000 96,000 320,000 640,000Gross margin 50,000 48,000 12,000 80,000 120,000Customer-level costs:

Order taking$380 × 10; 12; 48; 16; 12 3,800 4,560 18,240 6,080 4,560Product handling$10 × 500; 240; 144; 400; 812 5,000 2,400 1,440 4,000 8,120Warehousing$55 × 13; 16; 0; 12; 120 715 880 0 660 6,600Rush order processing$520 × 0; 2; 0; 0; 5 0 1,040 0 0 2,600Exchange and repair$40 × 0; 30; 5; 20; 95 0 1,200 200 800 3,800

Total customer-level costs 9,515 10,080 19,880 11,540 25,680

Customer-level operating income $ 40,485 $ 37,920 $ (7,880) $ 68,460 $ 94,320


Customer

CodeCodeCode

Code


Customer-Level


Operating

IncomeIncomeIncome

Income

(1)(1)(1)

(1)


Customer


Revenue

(2)(2)(2)

(2)


Customer-Level


Operating

IncomeIncomeIncome

Income

DividedDividedDivided

Divided

bybyby

by


Revenue

(3)(3)(3)

(3)

===

=

(1)(1)(1)

(1)

÷÷÷

÷

(2)(2)(2)

(2)


Cumulative


Customer-Level


Operating

IncomeIncomeIncome

Income

(4)(4)(4)

(4)


Cumulative


Customer-Level


Operating

IncomeIncomeIncome

Income

asasas

as

aaa

a

%%%

%

ofofof

of

TotalTotalTotal

Total


Customer-Level


Operating

IncomeIncomeIncome

Income

(5)(5)(5)

(5)

===

=

(4)(4)(4)

(4)

÷÷÷

÷

$233,305$233,305$233,305

$233,305

E $ 94,320 $ 760,000 12.4% $ 94,320 40.4%

D 68,460 400,000 17.1% $162,780 69.8%

A 40,485 450,000 9.0% $203,265 87.1%

B 37,920 240,000 15.8% $241,185 103.4%

C (7,880) 108,000 -7.3% $233,305 100.0%

Total $233,305 $1,958,000

14-32

If Customer C were not being given price discounts, C would be profitable. Thesalesperson is giving discounts on orders, even though the size of the order is small. It iscosting Bizzan money to process many small orders as opposed to a few large orders. Toturn Customer C into a profitable customer, Bizzan needs to encourage Customer C toplace fewer, larger orders and offer a price discount only if Customer C changes behavior,rather than as a reward for repeat business.

Customer A has many rush orders in proportion to total number of orders. Bizzan shouldwork with Customer A to find a production schedule that would meet its needs withouthaving to rush the order.

Customer E has high warehousing needs that are costly to Bizzan. Bizzan should workwith Customer E to align its production schedule to Customer E’s needs.

The exchange and repair rate for customers with rush orders is higher than for othercustomers. Bizzan should explore whether rushing an order reduces attention to quality.Either reducing the number of rush orders (which would also save Bizzan money) orworking toward increasing the quality of rush orders would help to reduce these costs.

The three most profitable customers (E, D, and A) generate 87% of the customer-leveloperating income. These customers are valued customers and should receive the highestlevel of customer service.

14-33

14-3214-3214-32

14-32


Variance


analysis,

sales-mixsales-mixsales-mix

sales-mix

andandand

and

sales-quantitysales-quantitysales-quantity

sales-quantity

variances.variances.variances.

variances.

1. Actual Contribution Margins

The actual average contribution margin per unit is $108.80 ($11,968,000 110,000 units).

Budgeted Contribution Margins

The budgeted average contribution margin per unit is $130.75 ($13,075,000 100,000 units).

2. Actual Sales Mix

Budgeted Sales Mix

ProductProductProduct

Product

ActualActualActual

Actual


Selling

PricePricePrice

Price

ActualActualActual

Actual


Variable

CostCostCost

Cost

perperper

per

UnitUnitUnit

Unit

ActualActualActual

Actual


Contribution

MarginMarginMargin

Margin

perperper

per

UnitUnitUnit

Unit

ActualActualActual

Actual

SalesSalesSales

Sales

VolumeVolumeVolume

Volume

ininin

in

UnitsUnitsUnits

Units

ActualActualActual

Actual


Contribution

DollarsDollarsDollars

Dollars

ActualActualActual

Actual


Contribution

PercentPercentPercent

Percent

Palm Pro $349 $178 $171 11,000 $ 1,881,000 16%Palm CE 285 92 193 44,000 8,492,000 71%PalmKid 102 73 29 55,000 1,595,000 13%

110,000 $11,968,000 100%


Product


Budgeted


Selling

PricePricePrice

Price


Budgeted


Variable

CostCostCost

Cost

perperper

per

UnitUnitUnit

Unit


Budgeted


Contribution

MarginMarginMargin

Margin

perperper

per

UnitUnitUnit

Unit


Budgeted

SalesSalesSales

Sales

VolumeVolumeVolume

Volume

ininin

in

UnitsUnitsUnits

Units


Budgeted


Contribution

DollarsDollarsDollars

Dollars


Budgeted


Contribution

PercentPercentPercent

Percent

Palm Pro $379 $182 $197 12,500 $ 2,462,500 19%Palm CE 269 98 171 37,500 6,412,500 49%Palm Kid 149 65 84 50,000 4,200,000 32%

100,000 $13,075,000 100%


Product

ActualActualActual

Actual

SalesSalesSales

Sales

VolumeVolumeVolume

Volume

ininin

in

UnitsUnitsUnits

Units

ActualActualActual

Actual

SalesSalesSales

Sales

MixMixMix

Mix

PalmPro 11,000

10.0% (11,000 ÷110,000)

Palm CE 44,00040.0% (44,000 ÷

110,000)PalmKid 55,000

50.0% (55,000 ÷110,000)

110,000 100.0%


Product


Budgeted

SalesSalesSales

Sales

VolumeVolumeVolume

Volume

ininin

in

UnitsUnitsUnits

Units


Budgeted

SalesSalesSales

Sales

MixMixMix

Mix

PalmPro 12,500

12.5% (12,500 ÷100,000)

Palm CE 37,50037.5% (37,500 ÷

100,000)PalmKid 50,000

50.0% (50,000 ÷100,000)

14-34

100,000 100.0%

14-35

3. Sales-volume variance:

=Actual Budgeted

quantity of quantity ofunits sold units sold

Budgetedcontribution margin

per unit

PalmPro (11,000 12,500) × $197 $ 295,500 UPalmCE (44,000 37,500) × $171 1,111,500 FPalmKid (55,000 50,000) × $ 84 420,000 FTotal sales-volume variance $1,236,000 F

Sales-mix variance:

= × ×sold products

all of units Actual

percentagemix sales

Actual

percentagemix sales

Budgeted

unitper margin contrib.

Budgeted

PalmPro = 110,000 × (0.10 0.125) × $197 $541,750 UPalmCE = 110,000 × (0.40 0.375) × $171 470,250 FPalmKid = 110,000 × (0.50 0.50) × $ 84 0 FTotal sales-mix variance $ 71,500 U

Sales-quantity variance:

= × ×

sold productsall of units Actual

sold products all of units Budgeted

percentagemix sales

Budgeted

unitper margin contrib.

Budgeted

PalmPro (110,000 100,000) × 0.125 × $197 $ 246,250 FPalmCE (110,000 100,000) × 0.375 × $171 641,250 FPalmKid (110,000 100,000) × 0.50 × $ 84 420,000 FTotal sales-quantity variance $1,307,500 F

14-36

Solution Exhibit 14-32 presents the sales-volume variance, the sales-mix variance, and the sales-quantity variance for Palm Pro, Palm CE, and PalmKid and in total for the third quarter 2010.


SOLUTION


EXHIBIT

14-3214-3214-32

14-32


Sales-Mix

andandand

and


Sales-Quantity


Variance


Analysis

ofofof

of

AussieAussieAussie

Aussie

InfonauticsInfonauticsInfonautics

Infonautics

forforfor

for

thethethe

the

ThirdThirdThird

Third

QuarterQuarterQuarter

Quarter

2010.2010.2010.

2010.


Flexible


Budget:

StaticStaticStatic

Static


Budget:

ActualActualActual

Actual

UnitsUnitsUnits

Units

ofofof

of

ActualActualActual

Actual

UnitsUnitsUnits

Units

ofofof

of


Budgeted

UnitsUnitsUnits

Units

ofofof

of

AllAllAll

All


Products

SoldSoldSold

Sold

AllAllAll

All


Products

SoldSoldSold

Sold

AllAllAll

All


Products

SoldSoldSold

Sold

ActualActualActual

Actual

SalesSalesSales

Sales

MixMixMix

Mix


Budgeted

SalesSalesSales

Sales

MixMixMix

Mix


Budgeted

SalesSalesSales

Sales

MixMixMix

Mix


Budgeted


Contribution


Budgeted


Contribution


Budgeted


Contribution

MarginMarginMargin

Margin

PerPerPer

Per

UnitUnitUnit

Unit

MarginMarginMargin

Margin

PerPerPer

Per

UnitUnitUnit

Unit

MarginMarginMargin

Margin

PerPerPer

Per

UnitUnitUnit

Unit

Palm Pro 110,000 0.10 $197 =$ 2,167,000 110,000 0.125 $197 =$ 2,708,750 100,000 0.125 $197 =$ 2,462,500PalmCE 110,000 0.40 $171 = 7,524,000 110,000 0.375 $171 = 7,053,750 100,000 0.375 $171 = 6,412,500PalmKid 110,000 0.50 $ 84 = 4,620,000 110,000 0.50 $ 84 = 4,620,000 100,000 0.50 $ 84 = 4,200,000

$14,311,000 $14,382,500 $13,075,000

$71,500 U $1,307,500 F

Sales-mix variance Sales-quantity variance

$1,236,000 F


F = favorable effect on operating income; U= unfavorable effect on operating income

4. The following factors help us understand the differences between actual and budgetedamounts:

The difference in actual versus budgeted contribution margins was $1,107,000unfavorable ($11,968,000 $13,075,000). However, the contribution margin fromthe PalmCE exceeded budget by $2,079,500 ($8,492,000 $6,412,500) while thecontributions from the PalmPro and the PalmKid were lower than expected and offsetthis gain. This is attributable to lower unit sales in the case of PalmPro and lowercontribution margins in the case of PalmKid.

In percentage terms, the PalmCE accounted for 71% of actual contribution marginversus a planned 49% contribution margin. However, the PalmPro accounted for 16%versus planned 19% and the PalmKid accounted for only 13% versus a planned 32%.

In unit terms (rather than in contribution terms), the PalmKid accounted for 50% ofthe sales mix as planned. However, the PalmPro accounted for only 10% versus abudgeted 12.5% and the PalmCE accounted for 40% versus a planned 37.5%.

Variance analysis for the PalmPro shows an unfavorable sales-mix varianceoutweighing a favorable sales-quantity variance and producing an unfavorable sales-volume variance. The drop in sales-mix share was far larger than the gain from anoverall greater quantity sold.

The PalmCE gained both from an increase in share of the sales mix as well as fromthe increase in the overall number of units sold.

The PalmKid maintained sales-mix share at 50%––as a result, the sales-mix varianceis zero. However, PalmKid sales gained from the overall increase in units sold.

14-37

Overall, there was a favorable total sales-volume variance. However, the large drop inPalmKid’s contribution margin per unit combined with a decrease in the actualnumber of PalmPro units sold as well as a drop in the actual contribution margin perunit below budget, led to the total contribution margin being much lower thanbudgeted.

Other factors could be discussed here––for example, it seems that the PalmKid did not achievemuch success with a three digit price point––selling price was budgeted at $149 but dropped to$102. At the same time, variable costs increased. This could have been due to a marketing pushthat did not succeed.

14-3314-3314-33

14-33


Market-share

andandand

and


market-size


variances

(continuation(continuation(continuation

(continuation

ofofof

of

14-32).14-32).14-32).

14-32).

1.

Average contribution margin per unit:Actual = $108.80 ($11,968,000 110,000)Budgeted = $130.75 ($13,075,000 100,000)

ActualActualActual

Actual


Budgeted

Worldwide 500,000 400,000Aussie Info. 110,000 100,000Market share 22% 25%

Market-sharevariance =

Actualmarket size

in units

BudgetedActual Budgeted contribution marginmarket market per composite unitshare share for budgeted mix

= 500,000 (0.22 – 0.25) $130.75= 500,000 (–0.03) $130.75= $1,961,250 U

Market-sizevariance

=

Actual Budgetedmarket size market size

in units in units

BudgetedBudgeted contribution marginmarket per composite unitshare for budgeted mix

= (500,000 – 400,000) 0.25 $130.75= 100,000 0.25 $130.75= $3,268,750 F

14-38

Solution Exhibit 14-33 presents the market-share variance, the market-size variance, and thesales-quantity variance for the third quarter 2010.


SOLUTION


EXHIBIT

14-3314-3314-33

14-33


Market-Share

andandand

and


Market-Size


Variance


Analysis

ofofof

of

AussieAussieAussie

Aussie

InfonauticsInfonauticsInfonautics

Infonautics

forforfor

for

thethethe

the

ThirdThirdThird

Third

QuarterQuarterQuarter

Quarter

2010.2010.2010.

2010.

StaticStaticStatic

Static


Budget:

ActualActualActual

Actual

MarketMarketMarket

Market

SizeSizeSize

Size

ActualActualActual

Actual

MarketMarketMarket

Market

SizeSizeSize

Size


Budgeted

MarketMarketMarket

Market

SizeSizeSize

Size

ActualActualActual

Actual

MarketMarketMarket

Market

ShareShareShare

Share


Budgeted

MarketMarketMarket

Market

ShareShareShare

Share


Budgeted

MarketMarketMarket

Market

ShareShareShare

Share


Budgeted


Average


Budgeted


Average


Budgeted


Average


Contribution

MarginMarginMargin

Margin


Contribution

MarginMarginMargin

Margin


Contribution

MarginMarginMargin

Margin

PerPerPer

Per

UnitUnitUnit

Unit

PerPerPer

Per

UnitUnitUnit

Unit

PerPerPer

Per

UnitUnitUnit

Unit

500,000 0.22a $130.75b 500,000 0.25c $130.75 b 400,000 0.25c $130.75b

$14,382,500 $16,343,750 $13,075,000$1,961,250 U $3,268,750 F


$1,307,500 F


F = favorable effect on operating income; U = unfavorable effect on operating incomeaActual market share: 110,000 units ÷ 500,000 units = 0.22, or 22%bBudgeted average contribution margin per unit $13,075,000 ÷ 100,000 units = $130.75 per unitcBudgeted market share: 100,000 units ÷ 400,000 units = 0.25, or 25%

2. While the market share declined (from 25% to 22%), the overall increase in the totalmarket size meant a favorable sales-quantity variance:


Sales-Quantity


Variance

$1,307,500 F


Market-Share


Variance

MarketMarketMarket

Market

SizeSizeSize

Size


Variance

$1,961,250 U $3,268,750 F

14-39

3. The required actual market size is the budgeted market size, i.e., 400,000 units. This caneasily be seen by setting up the following equation:

When M = 400,000, the market-size variance is $0.

Actual Market-Share Calculation

Again, the answer is the budgeted market share, 25%. By definition, this will holdirrespective of the actual market size. This can be seen by setting up the appropriateequation:

mix budgetedfor unit compositeper

marginon contributiBudgeted

sharemarket

Budgeted

unitsin sizemarket

Budgeted

unitsin sizemarket

Actualvariance

size-Market

= (M – 400,000) × 0.25 × $130.75

Market-sharevariance =

Actualmarket size

in units

BudgetedActual Budgeted contribution marginmarket market per composite unitshare share for budgeted mix

= Actual market size × (M – 25%) × $130.75When M = 25%, the market-share variance is $0.

14-40

14-3414-3414-34

14-34


Variance


analysis,


multiple


products.

1, 2, and 3. Solution Exhibit 14-34 presents the sales-volume, sales-quantity, and sales-mixvariances for each type of cookie and in total for Debbie’s Delight, Inc., in August 2009.

The sales-volume variances can also be computed as

= ×Sales-volumevariance Actual quantity Budgeted quantity

of pounds sold of pounds sold Budgeted contributionmargin per pound

The sales-volume variances areChocolate chip = (57,600 – 45,000) $2.00 = $25,200 FOatmeal raisin = (18,000 – 25,000) $2.30 = 16,100 UCoconut = (9,600 – 10,000) $2.60 = 1,040 UWhite chocolate = (13,200 – 5,000) $3.00 = 24,600 FMacadamia nut = (21,600 – 15,000) $3.10 = 20,460 FAll cookies $53,120 F

The sales-quantity variance can also be computed as

= Sales-volumevariance

Actual pounds Budgeted poundsof all cookies of all cookies

sold sold

Budgetedsales-mixpercentage

Budgetedcontribution

margin per pound

The sales-quantity variances areChocolate chip = (120,000 – 100,000) 0.45 $2.00 = $18,000 FOatmeal raisin = (120,000 – 100,000) 0.25 $2.30 = 11,500 FCoconut = (120,000 – 100,000) 0.10 $2.60 = 5,200 FWhite chocolate = (120,000 – 100,000) 0.05 $3.00 = 3,000 FMacadamia nut = (120,000 – 100,000) 0.15 $3.10 = 9,300 FAll cookies $47,000 F

The sales-mix variance can also be computed as:

= Sales-quantityvariance Actual sales- Budgeted sales-

mix percentage mix percentageActual poundsof all cookies

sold

Budgetedcontribution

margin per pound

The sales-mix variances are:Chocolate chip = (0.48 – 0.45) 120,000 $2.00 = $ 7,200 FOatmeal raisin = (0.15 – 0.25) 120,000 $2.30 = 27,600 UCoconut = (0.08 – 0.10) 120,000 $2.60 = 6,240 UWhite chocolate = (0.11 – 0.05) 120,000 $3.00 = 21,600 FMacadamia nut = (0.18 – 0.15) 120,000 $3.10 = 11,160 FAll cookies $ 6,120 F

14-41

A summary of the variances is:Sales-VolumeSales-VolumeSales-Volume

Sales-Volume


Variance

Chocolate chip $25,200 FOatmeal raisin 16,100 UCoconut 1,040 UWhite chocolate 24,600 FMacadamia nut 20,460 FAll cookies $53,120 F

4. Debbie’s Delight shows a favorable sales-quantity variance because it sold more cookiesin total than was budgeted. Together with the higher quantities, Debbie’s also sold more of thehigh-contribution margin white chocolate and macadamia nut cookies relative to the budgetedmix––as a result, Debbie’s also showed a favorable total sales-mix variance.


Sales-Mix


Variance

Chocolate chip $ 7,200 FOatmeal raisin 27,600 UCoconut 6,240 UWhite chocolate 21,600 FMacadamia nut 11,160 FAll cookies $ 6,120 F


Sales-Quantity


Variance

Chocolate chip $18,000 FOatmeal raisin 11,500 FCoconut 5,200 FWhite chocolate 3,000 FMacadamia nut 9,300 FAll cookies $47,000 F

14-42


SOLUTION


EXHIBIT

14-3414-3414-34

14-34

Columnar Presentation of Sales-Volume, Sales-Quantity, and Sales-Mix Variancesfor Debbie’s Delight, Inc.



Flexible


Budget:

ActualActualActual

Actual

PoundsPoundsPounds

Pounds

ofofof

of

AllAllAll

All

CookiesCookiesCookies

Cookies

SoldSoldSold

Sold

×××

×

ActualActualActual

Actual

SalesSalesSales

Sales

MixMixMix

Mix

×××

×


Budgeted


Contribution

MarginMarginMargin

Margin

perperper

per

PoundPoundPound

Pound

(1)(1)(1)

(1)

ActualActualActual

Actual

PoundsPoundsPounds

Pounds

ofofof

of

AllAllAll

All


Cookies

SoldSoldSold

Sold

×××

×


Budgeted

SalesSalesSales

Sales

MixMixMix

Mix

×××

×


Budgeted


Contribution

MarginMarginMargin

Margin

perperper

per

PoundPoundPound

Pound

(2)(2)(2)

(2)

StaticStaticStatic

Static


Budget:


Budgeted

PoundsPoundsPounds

Pounds

ofofof

of

AllAllAll

All


Cookies

SoldSoldSold

Sold

×××

×


Budgeted

SalesSalesSales

Sales

MixMixMix

Mix

×××

×


Budgeted


Contribution

MarginMarginMargin

Margin

perperper

per

PoundPoundPound

Pound

(3)(3)(3)

(3)

Panel A:Chocolate Chip

(120,000 × 0.48a) × $257,600 × $2

(120,000 × 0.45b) × $254,000 × $2

(100,000 × 0.45b) × $245,000 × $2

$115,200 $108,000 $90,000

Panel B:Oatmeal Raisin (120,000 × 0.15c) × $2.30

18,000 × $2.30(120,000 × 0.25d) × $2.30

30,000 × $2.30(100,000 × 0.25d) × $2.30

25,000 × $2.30$41,400 $69,000 $57,500

Panel C:Coconut (120,000 × 0.08e) × $2.60

9,600 × $2.60(120,000 × 0.10f) × $2.60

12,000 × $2.60(100,000 × 0.10f) × $2.60

10,000 × $2.60$24,960 $31,200 $26,000

Actual Sales Mix:aChocolate Chip = 57,600 ÷ 120,000 =

48%cOatmeal Raisin = 18,000 ÷ 120,000 =

15%eCoconut = 9,600 ÷ 120,000 = 8%

Budgeted Sales Mix:bChocolate Chip = 45,000 ÷ 100,000 = 45%dOatmeal Raisin = 25,000 ÷ 100,000 = 25%f Coconut = 10,000 ÷ 100,000 = 10%

$7,200 FSales-mix variance

$18,000 FSales-quantity variance


$27,600 USales-mix variance



$6,240 USales-mix variance



14-43


SOLUTION


EXHIBIT

14-3414-3414-34

14-34

(Cont’d.)Columnar Presentation of Sales-Volume, Sales-Quantity, and Sales-Mix Variancesfor Debbie’s Delight, Inc.



Flexible


Budget:

ActualActualActual

Actual

PoundsPoundsPounds

Pounds

ofofof

of

AllAllAll

All


Cookies

SoldSoldSold

Sold

×××

×

ActualActualActual

Actual

SalesSalesSales

Sales

MixMixMix

Mix

×××

×


Budgeted


Contribution

MarginMarginMargin

Margin

perperper

per

PoundPoundPound

Pound

(1)(1)(1)

(1)

ActualActualActual

Actual

PoundsPoundsPounds

Pounds

ofofof

of

AllAllAll

All


Cookies

SoldSoldSold

Sold

×××

×


Budgeted

SalesSalesSales

Sales

MixMixMix

Mix

×××

×


Budgeted


Contribution

MarginMarginMargin

Margin

perperper

per

PoundPoundPound

Pound

(2)(2)(2)

(2)

StaticStaticStatic

Static


Budget:


Budgeted

PoundsPoundsPounds

Pounds

ofofof

of

AllAllAll

All


Cookies

SoldSoldSold

Sold

×××

×


Budgeted

SalesSalesSales

Sales

MixMixMix

Mix

×××

×


Budgeted


Contribution

MarginMarginMargin

Margin

perperper

per

PoundPoundPound

Pound

(3)(3)(3)

(3)

Panel D:White Chocolate (120,000 × 0.11g) × $3.00

13,200 × $3.00(120,000 × 0.05h) × $3.00

6,000 × $3.00(100,000 × 0.05h) × $3.00

5,000 × $3.00$39,600 $18,000 $15,000

Panel E:Macadamia Nut (120,000 × 0.18j) × $3.10

21,600 × $3.10(120,000 × 0.15k) × $3.10

18,000 × $3.10(100,000 × 0.15k) × $3.10

15,000 × $3.10$66,960 $55,800 $46,500

Panel F: $288,120l $282,000m $235,000nAll Cookies

Actual Sales Mix:gWhite Chocolate = 13,200 ÷ 120,000 = 11%jMacadamia Nut = 21,600 ÷ 120,000 = 18%

l$115,200 + $41,400 + $24,960+ $39,600 + $66,960 = $288,120

Budgeted Sales Mix:hWhite Chocolate = 5,000 ÷ 100,000 = 5%kMacadamia Nut = 15,000 ÷ 100,000 =15%

m$108,000 + $69,000 + $31,200+ $18,000 + $55,800 = $282,000

n$90,000 + $57,500 + $26,000+ $15,000 + $46,500 = $235,000







$6,120 FTotal sales-mix variance

$47,000 FTotal sales-quantity variance

$53,120 FTotal sales-volume variance

14-44

14-3514-3514-35

14-35


Market-share

andandand

and


market-size


variances

(continuation of 14-34).

The budgeted average contribution margin per unit (also called budgeted contribution margin percomposite unit for budgeted mix) is $2.35:

contribution margin per unitBudgeted average = = $2.35

100,000$235,000

contribution marginvariance inMarket-size

= 错误！未指定开关参数。×share

marketBudgeted

×

per unitcontrib. margin

averageBudgeted

= (960,000 – 1,000,000) × 0.100 × $2.35= $9,400 U

contribution marginvariance inMarket-share

=in units

market sizeActual

× 错误！未指定开关参数。×

per unitcontrib. margin

averageBudgeted

= 960,000 × (0.125 – 0.100) × $2.35= $56,400 F

By increasing its actual market share from the 10% budgeted to the actual 12.50%,Debbie’s Delight has a favorable market-share variance of $56,400. There is a smaller offsettingunfavorable market-size variance of $9,400 due to the 40,000 unit decline in the Chicago market(from 1,000,000 budgeted to an actual of 960,000).

ActualActualActual

Actual


Budgeted

Chicago MarketDebbie's DelightMarket share

960,000120,0000.125

1,000,000100,0000.100


Budgeted


Contribution

MarginMarginMargin

Margin

perperper

per

PoundPoundPound

Pound


Budgeted

SalesSalesSales

Sales

VolumeVolumeVolume

Volume

ininin

in

PoundsPoundsPounds

Pounds


Budgeted


Contribution

MarginMarginMargin

Margin

Chocolate chipOatmeal raisinCoconutWhite chocolateMacadamia nutAll cookies

$2.002.302.603.003.10

45,00025,00010,0005,00015,000

100,000

$ 90,00057,50026,00015,000

46,500$235,000

14-45

Solution Exhibit 14-35 presents the sales-quantity, market-share, and market-size variances forDebbie’s Delight, Inc., in August 2009.


SOLUTION


EXHIBIT

14-3514-3514-35

14-35


Market-Share

andandand

and


Market-Size


Variance


Analysis

ofofof

of

DebbieDebbieDebbie

Debbie

’’’

’

sss

s

DelightDelightDelight

Delight

forforfor

for

AugustAugustAugust

August

200920092009

2009

StaticStaticStatic

Static


Budget:

ActualActualActual

Actual

MarketMarketMarket

Market

SizeSizeSize

Size

ActualActualActual

Actual

MarketMarketMarket

Market

SizeSizeSize

Size


Budgeted

MarketMarketMarket

Market

SizeSizeSize

Size

ActualActualActual

Actual

MarketMarketMarket

Market

ShareShareShare

Share


Budgeted

MarketMarketMarket

Market

ShareShareShare

Share


Budgeted

MarketMarketMarket

Market

ShareShareShare

Share


Budgeted


Average


Budgeted


Average


Budgeted


Average


Contribution

MarginMarginMargin

Margin


Contribution

MarginMarginMargin

Margin


Contribution

MarginMarginMargin

Margin

PerPerPer

Per

UnitUnitUnit

Unit

PerPerPer

Per

UnitUnitUnit

Unit

PerPerPer

Per

UnitUnitUnit

Unit

960,000 0.125a $2.35b 960,000 0.10c $2.35b 1,000,000 0.10c $2.35b

$282,000 $225,600 $235,000$56,400 F $9,400 U


$47,000 F


F = favorable effect on operating income; U = unfavorable effect on operating incomeaActual market share: 120,000 units ÷ 960,000 units = 0.125, or 12.5%bBudgeted average contribution margin per unit: $235,000 ÷ 1,000,000 units = $2.35 per unitcBudgeted market share: 100,000 units ÷ 1,000,000 units = 0.10, or 10%

An overview of Problems 14-34 and 14-35 is:

Sales-Volume Variance$53,120 F

Market-Size Variance$9,400 U

Market-Share Variance$56,400 F

Sales-Mix Variance$6,120 F

Sales-Quantity Variance$47,000 F

14-46

14-3614-3614-36

14-36

(35 min.) DirectDirectDirect

Direct

materialsmaterialsmaterials

materials

efficiency,efficiency,efficiency,

efficiency,

mix,mix,mix,

mix,

andandand

and

yieldyieldyield

yield


variances

(Chapter(Chapter(Chapter

(Chapter

Appendix).Appendix).Appendix).

Appendix).

1. Sugar ($1 × 7 cups) $ 7Flavoring ($3 × 2 cups) 6Coloring ($2 × 1 cup) 2Cost per batch $ 15Number of batches ×23Budgeted Cost $345

2. Solution Exhibit 14-36A presents the total price variance ($0), the total efficiencyvariance ($5 U), and the total flexible-budget variance ($5 U).

Total direct materials efficiency variance can also be computed as:

= ×Direct materials

efficiency variancefor each input

Actual quantity Budgeted quantity of inputof input allowed for actual output Budgeted

price of input

Sugar = (165 – 161) × $1 = $4 UFlavoring = (45 – 46) × $3 = 3 FColoring = (25 – 23) × $2 = 4 UTotal direct materials efficiency variance $5 U


SOLUTION


EXHIBIT

14-36A14-36A14-36A

14-36A

Columnar Presentation of Direct Materials Price and Efficiency Variances for Flavr-Wave Company.

$0 $5 UTotal price variance Total efficiency variance

$5 UTotal flexible-budget variance

F = favorable effect on operating income; U = unfavorable effect on operating income

ActualActualActual

Actual

CostsCostsCosts

Costs

IncurredIncurredIncurred

Incurred

(Actual(Actual(Actual

(Actual

InputInputInput

Input

QuantityQuantityQuantity

Quantity

×××

×

ActualActualActual

Actual

Price)Price)Price)

Price)

(1)(1)(1)

(1)

ActualActualActual

Actual

InputInputInput

Input


Quantity

×××

×


Budgeted

PricePricePrice

Price

(2)(2)(2)

(2)


Flexible

BudgetBudgetBudget

Budget

(Budgeted(Budgeted(Budgeted

(Budgeted

InputInputInput

Input


Quantity

AllowedAllowedAllowed

Allowed

forforfor

for

ActualActualActual

Actual

OutputOutputOutput

Output

×××

×


Budgeted

Price)Price)Price)

Price)

(3)(3)(3)

(3)

SugarFlavoringColoring

165× $1= $16545 × $3 = 13525 × $2 = 50

$350

165 × $1 = $16545 × $3 = 13525 × $2 = 50

$350

23 × 7 × $1 = $16123 × 2 × $3 = 13823 × 1 × $2 = 46

$345

14-47

3. Actual price per cup:Sugar $165 ÷ 165 cups = $1 per cupFlavoring $135 ÷ 45 cups = $3 per cupColoring $50 ÷ 25 cups = $2 per cup

Total direct materials price variance can also be computed as:

= ×Direct materialsprice variancefor each input

Actual Budgetedprice of input price of input Actual quantity

of input

Sugar = ($1 – $1) × 165 = $0Flavoring = ($3 – $3) × 45 = 0Coloring = ($2 – $2) × 25 = 0Total direct materials price variance $0

The total direct materials price variance equals zero because for all three inputs, actual price percup equals the budgeted price per cup.

4. Solution Exhibit 14-36B presents the total direct materials yield and mix variances.The total direct materials yield variance can also be computed as the sum of the direct

materials yield variances for each input:

Sugar = (235 – 230) × 0.70a × $1 = 5 × 0.70 × $1 = $3.50Flavoring = (235 – 230) × 0.20b × $3 = 5 × 0.20 × $3 = 3.00 UColoring = (235 – 230) × 0.10c × $2 = 5 × 0.10 × $2 = 1.00 UTotal direct materials yield variance $7.50 U

a 7 10; b 2 10; c 1 10

The total direct materials mix variance can also be computed as the sum of the direct materialsmix variances for each input:

= × ×

Directmaterials

mix variancefor each input

Actual Budgeteddirect materials direct materials

input mix input mixpercentage percentage

Actual totalquantity of all

direct materialsinputs used

Budgetedprice of

direct materialsinputs

Sugar = (0.7021d – 0.7) × 235 × $1 = 0.0021 × 235 × $1= $0.50 U

Flavoring= (0.1915e – 0.2) × 235 × $3 = – 0.0085 × 235 × $3 =6.00 F

Coloring = (0.1064f – 0.1) × 235 × $2 = 0.0064 × 235 × $2 =3.00 U

Total direct materials mix variance $2.50 F

=

Directmaterials

yield variancefor each input

Actual total Budgeted total quantityquantity of all of all direct materials inputsdirect materials allowed for actual outputinputs used

×

Budgeteddirect materials

input mixpercentage

×

Budgetedprice of


14-48

d 165 235; e 45 235; f 25 235

14-49


SOLUTION


EXHIBIT

14-36B14-36B14-36B

14-36B

Columnar Presentation of Direct Materials Yield and Mix Variances for Flavr-Wave Company.

$2.50 F $7.50 UTotal mix variance Total yield variance

$5 UTotal efficiency variance


The direct materials mix variance of $2.50 F indicates that actual product mix uses relatively more ofless expensive ingredients than planned. In this case, the actual mix contains slightly more coloringand slightly less flavoring.

The direct materials yield variance of $7.50 U occurs because the amount of total inputs needed (235cups) exceeded the budgeted amount (230 cups) expected to produce 2,300 pops.

The variances are very small relative to the budgeted cost to produce 2,300 pops. The company shouldnot spend resources investigating them, especially since changing the standard mix slightly does notsignificantly affect product quality.

ActualActualActual

Actual

TotalTotalTotal

Total


Quantity

ofofof

of

AllAllAll

All

InputsInputsInputs

Inputs

UsedUsedUsed

Used


Actual

InputInputInput

Input

MixMixMix

Mix


Budgeted

PricePricePrice

Price

(1)(1)(1)

(1)

ActualActualActual

Actual

TotalTotalTotal

Total


Quantity

ofofof

of

AllAllAll

All

InputsInputsInputs

Inputs

UsedUsedUsed

Used


Budgeted

InputInputInput

Input

MixMixMix

Mix


Budgeted

PricePricePrice

Price

(2)(2)(2)

(2)


Flexible


Budget:


Budgeted

TotalTotalTotal

Total


Quantity

ofofof

of

AllAllAll

All

InputsInputsInputs

Inputs


Allowed

forforfor

for

ActualActualActual

Actual

OutputOutputOutput

Output

×BudgetedBudgetedBudgeted

Budgeted

InputInputInput

Input

MixMixMix

Mix


Budgeted

PricePricePrice

Price

(3)(3)(3)

(3)

Sugar 235 × 0.7021 × $1 = $165Flavoring 235 × 0.1915 × $3 = 135Coloring 235 × 0.1064 × $2 = 50

$350

235 × 0.70 × $1 = $164.50235 × 0.20 × $3 = 141.00235 × 0.10 × $2 = 47.00

$352.50

230 × 0.70 × $1 = $161230 × 0.20 × $3 = 138230 × 0.10 × $2 = 46

$345

14-50

14-3714-3714-37

14-37

(35 min.) MaterialsMaterialsMaterials

Materials

variances:variances:variances:

variances:

price,price,price,

price,

efficiency,efficiency,efficiency,

efficiency,

mixmixmix

mix

andandand

and

yield.yield.yield.

yield.

1.

2. Solution Exhibit 14-37A presents the total price variance ($5,246 F), the total efficiencyvariance ($1,280 F), and the total flexible-budget variance ($6,526 F).

Total direct materials price variance can also be computed as:

= ×Direct materialsprice variancefor each input

Actual Budgetedprice of input price of input Actual quantity

of input

Oak = ($6.10 – $6.00) × 23,180 = $2,318 UPine = ($1.80 – $2.00) × 37,820 = 7,564 FTotal direct materials price variance $5,246 F

Total direct materials efficiency variance can also be computed as:

= ×Direct materials

efficiency variancefor each input

Actual quantity Budgeted quantity of inputof input allowed for actual output Budgeted

price of input

Oak = (23,180 – 24,000) × $6.00 = $4,920 FPine = (37,820 – 36,000) × $2.00 = 3,640 UTotal direct materials efficiency variance $1,280 F

Oak ($6 × 8 b.f.) $ 48Pine ($2 × 12 b.f.) 24Cost per dresser $ 72Number of dressers ×3,000 unitsTotal budgeted cost $216,000

14-51


SOLUTION


EXHIBIT

14-37A14-37A14-37A

14-37A

Columnar Presentation of Direct Materials Price and Efficiency Variances for PDSManufacturing

$5,246 F $1,280 FTotal price variance Total efficiency variance

$6,526 FTotal flexible-budget variance

F = favorable effect on operating income; U = unfavorable effect on operating income

3.

4. Solution Exhibit 14-37B presents the total direct materials yield and mix variances for PDSManufacturing.

The total direct materials yield variance can also be computed as the sum of the directmaterials yield variances for each input:

Oak = (61,000 – 60,000) × 0.40 × $6.00 = 1,000 × 0.40 × $6.00 = $2,400 UPine = (61,000 – 60,000) × 0.60 × $2.00 = 1,000 × 0.60 × $2.00 = 1,200 UTotal direct materials yield variance $3,600 U

ActualActualActual

Actual

CostsCostsCosts

Costs

IncurredIncurredIncurred

Incurred

(Actual(Actual(Actual

(Actual

InputInputInput

Input


Quantity

×××

×

ActualActualActual

Actual

Price)Price)Price)

Price)

(1)(1)(1)

(1)

ActualActualActual

Actual

InputInputInput

Input


Quantity

×××

×


Budgeted

PricePricePrice

Price

(2)(2)(2)

(2)


Flexible

BudgetBudgetBudget

Budget

(Budgeted(Budgeted(Budgeted

(Budgeted

InputInputInput

Input


Quantity


Allowed

forforfor

for

ActualActualActual

Actual

OutputOutputOutput

Output

×××

×


Budgeted

Price)Price)Price)

Price)

(3)(3)(3)

(3)

OakPine

23,180 × $6.10 = $141,39837,820 × $1.80 = 68,076

$209,474

23,180 × $6.00 = $139,08037,820 × $2.00 = 75,640

$214,720

24,000 × $6.00 = $144,00036,000 × $2.00 = 72,000

$216,000

ActualActualActual

Actual


Quantity

ofofof

of

InputInputInput

Input

ActualActualActual

Actual

MixMixMix

Mix


Budgeted


Quantity

ofofof

of

InputInputInput

Input

forforfor

for

ActualActualActual

Actual

OutputOutputOutput

Output

BudgetBudgetBudget

Budget

ededed

ed

MixMixMix

Mix

Oak 23,180 b.f. 38% 8 b.f. × 3,000 units = 24,000 b.f. 40%Pine 37,820 b.f. 62% 12 b.f. × 3,000 units = 36,000 b.f. 60%Total 61,000 b.f. 100% 60,000 b.f. 100%

=

Directmaterials

yield variancefor each input

Actual total Budgeted total quantityquantity of all of all direct materials inputsdirect materials allowed for actual outputinputs used

×

Budgeteddirect materials

input mixpercentage

×

Budgetedprice of


14-52

The total direct materials mix variance can also be computed as the sum of the direct materialsmix variances for each input:

= × ×

Directmaterials

mix variancefor each input

Actual Budgeteddirect materials direct materials

input mix input mixpercentage percentage

Actual totalquantity of all

direct materialsinputs used

Budgetedprice of


Oak = (0.38 – 0.40) × 61,000 × $6.00 = 0.02 × 61,000 × $6.00 = $7,320 FPine = (0.62 – 0.60) × 61,000 × $2.00 = – 0.02 × 61,000 × $2.00 = 2,440 UTotal direct materials mix variance $4,880 F

The sum of the direct materials mix variance and the direct materials yield variance equals thedirect materials efficiency variance. The favorable mix variance arises from using more of thecheaper pine (and less oak) than the budgeted mix. The yield variance indicates that the dressersrequired more total inputs (61,000 b.f.) than expected (60,000 b.f.) for the production of 3,000dressers. Both variances are relatively small and probably within tolerable limits. PDS shouldinvestigate whether substituting the cheaper pine for the more expensive oak caused theunfavorable yield variance. It should also be careful that using more of the cheaper pine does notreduce the quality of the dresser or how customers perceive it.


SOLUTION


EXHIBIT

14-37B14-37B14-37B

14-37B

Columnar Presentation of Direct Materials Yield and Mix Variances for PDS Manufacturing

4,880 F $3,600 UTotal mix variance Total yield variance

$1,280 FTotal efficiency variance


ActualActualActual

Actual

TotalTotalTotal

Total


Quantity

ofofof

of

AllAllAll

All

InputsInputsInputs

Inputs

UsedUsedUsed

Used


Actual

InputInputInput

Input

MixMixMix

Mix


Budgeted

PricePricePrice

Price

(1)(1)(1)

(1)

ActualActualActual

Actual

TotalTotalTotal

Total


Quantity

ofofof

of

AllAllAll

All

InputsInputsInputs

Inputs

UsedUsedUsed

Used


Budgeted

InputInputInput

Input

MixMixMix

Mix


Budgeted

PricePricePrice

Price

(2)(2)(2)

(2)


Flexible


Budget:


Budgeted

TotalTotalTotal

Total


Quantity

ofofof

of

AllAllAll

All

InputsInputsInputs

Inputs


Allowed

forforfor

for

ActualActualActual

Actual

OutputOutputOutput

Output

×BudgetedBudgetedBudgeted

Budgeted

InputInputInput

Input

MixMixMix

Mix


Budgeted

PricePricePrice

Price

(3)(3)(3)

(3)

Oak 61,000 × 0.38 × $6.00 = $139,080Pine 61,000 × 0.62 × $2.00 = 75,640$214,720

61,000 × 0.40 × $6.00 = $146,40061,000 × 0.60 × $2.00 = 73,200

$219,600

60,000 × 0.40 × $6.00 = $144,00060,000 × 0.60 × $2.00 = 72,000

$216,000

14-53

14-3814-3814-38

14-38


Customer

profitabilityprofitabilityprofitability

profitability

andandand

and

ethics.ethics.ethics.

ethics.

1. Customer-level operating income based on expected cost of orders:

2. Customer level operating income based on actual order costs:


Customers

IHoGIHoGIHoG

IHoG

GRUGRUGRU

GRU

GMGMGM

GM

GCGCGC

GC

GGGGGG

GG

GmartGmartGmart

Gmart

Revenues at list price$40 × 200; 540; 300; 100; 400; 1,000 $8,000 $21,600 $12,000 $4,000 $16,000 $40,000Price discountsGRU: 5% × $21,600; Gmart: 5% × $40,000 0 1,080 0 0 0 2,000Revenues (actual price) 8,000 20,520 12,000 4,000 16,000 38,000Cost of good sold$30 × 200; 540; 300; 100; 400; 1,000 6,000 16,200 9,000 3,000 12,000 30,000Gross margin 2,000 4,320 3,000 1,000 4,000 8,000Customer-level operating costs:

Order taking$28 × 4; 12; 6; 4; 16; 20 112 336 168 112 448 560Product handling$1 × 200; 540; 300; 100; 400; 1,000 200 540 300 100 400 1,000Delivery$1 × 80; 120; 72; 28; 304; 100 80 120 72 28 304 100Expedited delivery$300 × 0; 4; 0; 0; 1; 3 0 1,200 0 0 300 900Sales commissions$20 × 4; 12; 6; 4; 16; 20) 80 240 120 80 320 400

Total customer-level operating costs 472 2,436 660 320 1,772 2,960Customer-level operating income $1,528 $ 1,884 $ 2,340 $ 680 $ 2,228 $ 5,040


Customer

IHoGIHoGIHoG

IHoG

GRUGRUGRU

GRU

GMGMGM

GM

GCGCGC

GC

GGGGGG

GG

GmartGmartGmart

Gmart


Order taking$12 × 4; $28 × 12; $12 × 6; $12 × 4;$12 × 16; $12 × 20 48 336 72 48 192 240Product handling$1 × 200; 540; 300; 100; 400; 1,000 200 540 300 100 400 1,000Delivery$1 × 80; 120; 72; 28; 304; 100 80 120 72 28 304 100Expedited delivery$300 × 0; 4; 0; 0; 1; 3 0 1,200 0 0 300 900Sales commissions$20 × 4; 12; 6; 4; 16; 20 80 240 120 80 320 400


14-54

Comparing the answers in requirements 1 and 2, it appears that operating income is higher thanexpected, so the management of Glat Corporation would be very pleased with the performanceof the salespeople for reducing order costs. Except for GRU, all of the customers are moreprofitable than originally reported.

3. Customer-level operating

4. The behavior of the salespeople is costing Glat Corporation $640 in profit (the differencebetween the incomes in requirements 2 and 3.) Although management thinks the salespeopleare saving money based on the budgeted order costs, in reality they are costing the firmmoney by increasing the costs of orders ($936 in requirement 2 versus $896 in requirement 3)and at the same time increasing their sales commissions ($1,240 in requirement 2 versus

$640 in requirement 3). This is not ethical.

Glat Corporation needs to change the structure of the sales commission, possibly linkingcommissions to the overall units sold rather than on number of orders. They could also basecommissions on total revenues, which will discourage salespeople from offering discountsunless they are needed to close the sale. A negative consequence of greater reluctance tooffer discounts is that salespeople will not seek larger orders but instead focus on smallerorders that do not require discounts to be offered. This behavior will, in turn, increase order-taking costs.


Customer

IHoGIHoGIHoG

IHoG

GRUGRUGRU

GRU

GMGMGM

GM

GCGCGC

GC

GGGGGG

GG

GmartGmartGmart

Gmart


Order taking$28 × 2; 12; 2; 2; 4; 10 56 336 56 56 112 280Product handling$1 × 200; 540; 300; 100; 400; 1,000 200 540 300 100 400 1,000Delivery$1 × 80; 120; 72; 28; 304; 100 80 120 72 28 304 100Expedited delivery$300 × 0; 4; 0; 0; 1; 3 0 1,200 0 0 300 900Sales commissions$20 × 2; 12; 2; 2; 4; 10 40 240 40 40 80 200


14-55

14-3914-3914-39

14-39


Cost


allocation

andandand

and

decision-making.decision-making.decision-making.

decision-making.

1.

2. The Florida Division manager will prefer the number of employees allocation base becauseit results in the highest operating margin for the division.

3. The Arizona Division and the Delaware Division receive roughly the same percentageallocation of headquarter costs regardless of the allocation base used (Arizona range =25%-29%; Delaware range = 18.75%-23.5%). However, the Colorado Division and theFlorida Division vary widely (Colorado range = 22.4%-50%; Florida range = 6.25%-25.1%). All four methods are reasonable options, but none clearly meets the cause-and-effect criterion for selecting the allocation base. If larger divisions tend to consume moreof headquarter’s resources, then using division revenues or number of employees seem to

ArizonaArizonaArizona

Arizona

ColoradoColoradoColorado

Colorado

DelawareDelawareDelaware

Delaware

FloridaFloridaFlorida

Florida

TotalTotalTotal

Total

1. Division revenues $7,800,000 $8,500,000 $6,200,000 $5,500,000 $28,000,0002. % revenues

$7,800,000; $8,500,000; $6,200,000;$5,500,000 ÷ $28,000,000 27.8571% 30.3571% 22.14285% 19.64285% 100%

3. Segment margin $2,500,000 $4,400,000 $1,900,000 $ 900,000 $ 9,700,0004. Allocated headquarter costs

(Row 2 × $5,600,000) 1,560,000 1,700,000 1,240,000 1,100,000 5,600,0005. Operating margin after

allocating headquarter costs $ 940,000 $2,700,000 $ 660,000 $(200,000) $ 4,100,000

6. Direct costs $5,300,000 $4,100,000 $4,300,000 $4,600,000 $18,300,0007. % of direct costs

$5,300,000; $4,100,000; $4,300,000;$4,600,000 ÷ $18,300,000 28.96174% 22.40437% 23.49726% 25.13661% 100%

8. Segment margin $2,500,000 $4,400,000 $1,900,000 $ 900,000 $9,700,0009. Allocated headquarter costs

(Row 7 × $5,600,000) 1,621,858 1,254,645 1,315,847 1,407,650 5,600,00010. Operating margin after

allocating headquarter costs $ 878,142 $3,145,355 $ 584,153 $ (507,650) $4,100,000

11. Segment margin $2,500,000 $4,400,000 $1,900,000 $ 900,000 $9,700,00012. %Segment margin

$2,500,000; $4,400,000; $1,900,000;$900,000 ÷ $9,700,000 25.77319% 45.36082% 19.58762% 9.27835% 100%

13. Segment margin $2,500,000 $4,400,000 $1,900,000 $ 900,000 $9,700,00014. Allocated headquarter costs

(Row 12 × $5,600,000) 1,443,299 2,540,206 1,096,907 519,588 5,600,00015. Operating income after

allocating headquarter costs $1,056,701 $1,859,794 $ 803,093 $ 380,412 $4,100,000

16. Number of employees 2,000 4,000 1,500 500 8,00017. % Employees

2,000; 4,000; 1,500; 500 ÷ 8,000 25% 50% 18.75% 6.25% 100%18. Segment margin $2,500,000 $4,400,000 $1,900,000 $ 900,000 $9,700,00019. Allocated headquarter costs

(Row 17 × $5,600,000) 1,400,000 2,800,000 1,050,000 350,000 5,600,00020. Operating income $1,100,000 $1,600,000 $ 850,000 $ 550,000 $4,100,000

14-56

be the best choices. Without compelling reason to change, Greenbold should stay with thedivision revenues as the allocation base.

Another alternative is to use segment margin as the allocation base on the grounds thatsegment margin represents the ability of different divisions to bear corporate overheadcosts.

4. If Greenbold elects to use direct costs as the allocation base, the Florida Division willappear to have a $507,650 operating loss. Even so, the Florida Division generates a$900,000 segment margin before allocating the cost of the corporate headquarters. As seenin the analysis in requirement 1, different allocation bases yield different operating incomesfor the Florida Division, with the direct cost allocation base being the lowest. The FloridaDivision should not be closed because 1) the choice of allocation base is not based on acause-and-effect relation (i.e., it is arbitrary), and 2) the division earns positive segmentmargin which contributes to covering the cost of the corporate headquarters. The FloridaDivision should only be closed if closing it will save more than $507,650 in corporateheadquarter costs – a highly unlikely scenario.

Costacctg13 Sm Ch14

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Transcript of Costacctg13 Sm Ch14