Wilkerson Company is in the business of manufacturing valves, pumps, flow controllers etc. Severe industry wise price cuts in the pumps business, which is Wilkerson s major product line, has badly affected the company s margins (Gross Margin of 19.5% as against a planned gross margin of 35%). On the other hand the flow controllers division was performing above the expected profits (yielding a Gross Margin of 41%, a value higher than 35% estimated). Wilkerson needs to identify the proper mix of its product line to regain its profitability. This is to be done based on information provided in the case, regarding pricing decisions, decision to discontinue or ...view middle of the document...
54% against expected 35%) and Flow controllers are performing above par (40.95% against 35%).
Group 7 B
Group 7 B
Such a costing methodology is adequate in the short run since the decision to accept or reject an order is based on the variable costs associated. However, in the long run, the decision to have a proper product mix is based on the performance and breakeven point of each product. Moreover since overheads are very high, they are significant contributors to decision making in this costing method. But they might end up giving unreliable information during decision making since in this method we directly relate the overheads to the products on the basis of percentage of product run direct labor cost. This method is not reliable since each product varies significantly in its overheads costs association and the basic assumption that a direct relation exists is wrong. Proposed Method - Activity Based Costing Going forward, based on these groups, the company should choose the most appropriate cost drivers that reflect the relationship between the volume of production of individual products and the level of overheads. It can be said that machine hours is the appropriate cost driver for the machine-related expenses cost pool and setup and receiving as well as production control activities are changed in proportion to number of production runs. Engineering cost is driven by hours of engineering work and lastly packaging and shipment activity changes in proportion to the number of shipments. These are mostly based on the information given in the study which was carried out by the group
Table 2 ± Cost Pools, Drivers and Rates
Cost Drivers and Rates Manufacturing Overheads (Exhibit 1) Cost drivers Value(Exhibit 4) Rate
Machine Related Expenses 3,36,000 Machine hrs (Point 1) 11,200 30
Setup Labour Costs 40,000 Production Run (Point 2) 160 250
Receiving and production control costs 1,80,000 Production Run (Point 3) 160 1,125
Engineering costs 1,00,000 Eng Hrs 1,250 80
Packaging and Shipping Costs 1,50,000 Number of shipments (Point 4) 300 500
Table 2 presents us with the information about the various activities on which we have based the costing basically the cost pools, drivers of the relevant cost pools and the rate of the costing which should be taken into account. As an example we can see in the Table 2 we have one of the cost pools as Machine Related Expenses. Based on the information in exhibit 1 regarding the distribution of operating overheads costs we see that the overhead expenses in this category is $336000, also from the study carried out and the first point mentioned it was found that the driver for this pool was the number of machine hours which is 11200 hours. Based on this information the costing rate for this pool was calculated as $30 per hour which will enable us to do the activity based costing in the next stage.
Group 7 B
Group 7 B
Table 3 ± Product wise Activity Based Costing