2. Based on your analysis, what actions should Wilkerson’s management take to improve profitability — Robert Parker president the Company was discussing operating results latest

Robert Parker, president of the Wilkerson Company, was discussing operating results in the latest month with Peggy Knight, his controller, and John Scott, his manufacturing manager. The meeting among the three was taking place in an atmosphere tinged with apprehension because competitors had been reducing prices on pumps, Wilkerson’s major product line. Since pumps were a commodity product, Parker had seen no alternative but to match the reduced prices to maintain volume. But the price cuts had led to declining company profits, especially in the pump line (summary operating results for the previous month, March 2000, are shown in Wilkerson Exhibits 1 and 2).

Required

1. Develop and diagram an activity- based costing system using information in the case. Calculate the profitability of Wilkerson’s three product lines. Are these profit abilities different from the profit abilities Wilkerson reports based on its current costing system.

2. Based on your analysis, what actions should Wilkerson’s management take to improve profitability.

SOLUTION

Wilkerson Company provides students with an introduction to activity-based costing (ABC) with a realistic but still fabricated case situation. The case updates and revises Destin Brass, (9-190-089), written by Bill Bruns. Wilkerson allows students to understand the important role of capacity in an ABC model even in their first experience with an ABC system. Also, Wilkerson improves Destin by allowing the cost drivers to be actual physical quantities rather than somewhat arbitrary percentage allocations of time.

The case gives students an opportunity to build an ABC cost model for assigning indirect costs to five support activities and three quite different products. The activities illustrate the ABC cost hierarchy, including unit, batch, and product-sustaining activities. The activity cost drivers encompass both transaction and duration drivers. Thus even with a simple situation, students get exposed to much structure for a comprehensive ABC model.

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Exhibit TN-1 Wilkerson’s Existing Cost System

Exhibit TN-2 Wilkerson’s Activity-Based Cost System

Exhibit TN-3a Calculations of Product Costs

	Wilkerson ABC Costs at Actual					Flow Controllers		Total	Cost Driver Rate
	Production Volumes			Valves	Pumps	Flow Controllers		Total	Cost Driver Rate
Production	Production	7,500	7,500	7,500	12,500	4,000	24,000	24,000
DL Expenses	DL Expenses	$75,000	$75,000	$75,000	$156,250	$40,000	$271,250	$271,250
Material Expenses	Material Expenses	120,000	120,000	120,000	250,000	88,000	458,000	458,000
Manufacturing Overhead	Manufacturing Overhead
Machine Expenses	Machine Expenses	112,500	112,500	112,500	187,500	36,000	336,000	336,000	30
Setup Labor	Setup Labor	2,500	2,500	2,500	12,500	25,000	40,000	40,000	250
Receiving and Production Control	Receiving and Production Control	11,250	11,250	11,250	56,250	112,500	180,000	180,000	1,125
Engineering	Engineering	20,000	20,000	20,000	30,000	50,000	100,000	100,000	80
Package & Ship	Package & Ship			5,000	35,000	110,000	150,000	150,000	500
ABC Manufacturing Overhead	ABC Manufacturing Overhead			$151,250	$321,250	$333,500	$806,000	$806,000
Total Costs	Total Costs	$346,250	$346,250	$346,250	$727,500	$461,500	$1,535,250	$1,535,250
Unit Costs	Unit Costs
Direct Labor	Direct Labor	$10.00	$10.00	$10.00	$12.50	$10.00
Direct Materials	Direct Materials	16.00	16.00	16.00	20.00	22.00
Manufacturing Overhead (ABC)	Manufacturing Overhead (ABC)
Machine Expenses	Machine Expenses	15.00	15.00	15.00	15.00	9.00
Setup Labor	Setup Labor	0.33	0.33	0.33	1.00	6.25
Receiving & Material Handling	Receiving & Material Handling	1.50	1.50	1.50	4.50	28.13
Engineering	Engineering	2.67	2.67	2.67	2.40	12.50
	Package & Ship		0.67	0.67	2.80	27.50
	ABC Overhead		$20.17	$20.17	$25.70	$83.38
Total Costs	Total Costs	$46.17	$46.17	$46.17	$58.20	$115.38
Actual Price	Actual Price	$86.00	$86.00	$86.00	$87.00	$105.00
Actual Profit	Actual Profit	$39.83	$39.83	$39.83	$28.80	$(10.38)
Actual Margin	Actual Margin	46.3%	46.3%	46.3%	33.1%	-9.9%

Exhibit TN-3b Calculations of Product Costs

							Unused	Resource
	Wilkerson ABC Product Costs at Capacity			Valves	Pumps	Flow Controllers	Capacity	Expenses	Cost Driver Rate
Production	Production	7,500	7,500	7,500	12,500	4,000
DL Expenses	DL Expenses	75,000	75,000	75,000	156,250	40,000		271,250
Material Expenses	Material Expenses	120,000	120,000	120,000	250,000	88,000		458,000
Manufacturing Overhead	Manufacturing Overhead
Machine Expenses	Machine Expenses	105,000	105,000	105,000	175,000	33,600	22,400	336,000	28
Setup Labor	Setup Labor	2,222	2,222	2,222	11,111	22,222	4,444	40,000	222
Receiving and Production Control	Receiving and Production Control	10,000	10,000	10,000	50,000	100,000	20,000	180,000	1,000
Engineering	Engineering	20,000	20,000	20,000	30,000	50,000	-	100,000	80
Package & Ship	Package & Ship			3,750	26,250	82,500	37,500	150,000	375
ABC Manufacturing Overhead	ABC Manufacturing Overhead			$140,972	$292,361	$288,322	$84,344	$806,000
Total Costs	Total Costs	$335,972	$335,972	$335,972	$698,611	$416,322	$84,344	$1,535,250
Unit Costs	Unit Costs	$10.00	$10.00	$10.00	$12.50	$10.00
Direct Labor	Direct Labor	$10.00	$10.00	$10.00	$12.50	$10.00
Direct Materials	Direct Materials	16.00	16.00	16.00	20.00	22.00
Manufacturing Overhead (ABC)	Manufacturing Overhead (ABC)
Machine Expenses	Machine Expenses	14.00	14.00	14.00	14.00	8.40
Setup Labor	Setup Labor	0.30	0.30	0.30	0.89	5.56
Receiving & Material Handling	Receiving & Material Handling	1.33	1.33	1.33	4.00	25.00
Engineering	Engineering	2.67	2.67	2.67	2.40	12.50
	Package & Ship		0.50	0.50	2.10	20.63
	ABC Overhead		$18.80	$18.80	$23.39	$72.08
Total Costs	Total Costs	$44.80	$44.80	$44.80	$55.89	$104.08
Actual Price	Actual Price	$86.00	$86.00	$86.00	$87.00	$105.00
Actual Margin	Actual Margin	41.20	41.20	41.20	31.11	0.92
Actual Margin Percentage	Actual Margin Percentage	47.9%	47.9%	47.9%	35.8%	0.9%

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