In: Accounting
Greetings Inc. has operated for many years as a nationally recognized retailer
of greeting cards and small gift items. It has 1,500 stores throughout the United
States located in high-traffi c malls.
As the stock price of many other companies soared, Greetings’ stock price
remained fl at. As a result of a heated 2013 shareholders’ meeting, the president of
Greetings, Robert Burns, came under pressure from shareholders to grow Greetings’
stock value. As a consequence of this pressure, in 2014 Mr. Burns called for
a formal analysis of the company’s options with regard to business opportunities.
Location was the fi rst issue considered in the analysis. Greetings stores are
located in high-traffi c malls where rental costs are high. The additional rental
cost was justifi ed, however, by the revenue that resulted from these highly visible
locations. In recent years, though, the intense competition from other stores in
the mall selling similar merchandise has become a disadvantage of the mall locations.
Mr. Burns felt that to increase revenue in the mall locations, Greetings would
need to attract new customers and sell more goods to repeat customers. In order
to do this, the company would need to add a new product line. However, to keep
costs down, the product line should be one that would not require much additional
store space. In order to improve earnings, rather than just increase revenues,
Greetings would have to carefully manage the costs of this new product line.
After careful consideration of many possible products, the company’s management
found a product that seemed to be a very good strategic fi t for its existing
products: high-quality unframed and framed prints. The critical element of
this plan was that customers would pick out prints by viewing them on widescreen
computer monitors in each store. Orders would be processed and shipped
from a central location. Thus, store size would not have to increase at all. To offer
these products, Greetings established a new e-business unit called Wall Décor.
Wall Décor is a “profi t center”; that is, the manager of the new business unit is
responsible for decisions affecting both revenues and costs.
Wall Décor was designed to distribute unframed and framed print items
to each Greetings store on a just-in-time (JIT) basis. The system works as follows:
The Wall Décor website allows customers to choose from several hundred
prints. The print can be purchased in various forms: unframed, framed with a
steel frame and no matting, or framed with a wood frame and matting. When a
customer purchases an unframed print, it is packaged and shipped the same day
from Wall Décor. When a customer purchases a framed print, the print is framed
at Wall Décor and shipped within 48 hours.
Each Greetings store has a computer linked to Wall Décor’s Web server so
Greetings’ customers can browse the many options to make a selection. Once a
selection is made, the customer can complete the order immediately. Store employees
are trained to help customers use the website to shop and to complete
their purchases. The advantage to this approach is that each Greetings store,
through the Wall Décor website, can offer a wide variety of prints, yet the individual
Greetings stores do not have to hold any inventory of prints or framing
materials. About the only cost to the individual store is the computer and highspeed
line connection to Wall Décor. The advantage to the customer is the wide
variety of unframed and framed print items that can be conveniently purchased
and delivered to the home or business, or to a third party as a gift.
Wall Décor uses a traditional job order costing system. Operation of Wall
Décor would be substantially less complicated, and overhead costs would be
substantially less, if it sold only unframed prints. Unframed prints require no
additional processing, and they can be easily shipped in simple protective tubes.
Framing and matting requires the company to have multiple matting colors and
frame styles, which requires considerable warehouse space. It also requires
skilled employees to assemble the products and more expensive packaging
procedures.
Manufacturing overhead is allocated to each unframed or framed print, based
on the cost of the print. This overhead allocation approach is based on the assumption
that more expensive prints will usually be framed and therefore more
overhead costs should be assigned to these items. The predetermined overhead
rate is the total expected manufacturing overhead divided by the total expected
cost of prints. This method of allocation appeared reasonable to the accounting
team and distribution fl oor manager. Direct labor costs for unframed prints
consist of picking the prints off the shelf and packaging them for shipment. For
framed prints, direct labor costs consist of picking the prints, framing, matting,
and packaging.
The information in Illustration CA 1-1 for unframed and framed prints was
collected by the accounting and production teams. The manufacturing overhead
budget is presented in Illustration CA 1-2.
Illustration CA 1-1
Information about prints and
framed items for Wall Décor
Unframed Steel-Framed |
Steel-Framed Print-Nomatting |
Wood-Framed Print, with Matting |
|
Volume—expected units Sold |
8000 |
15000 |
7000 |
Cost Elements |
|||
Direct materials Print (expected average) cost for each of the three categories) |
$12 |
$16 |
$20 |
Frame and glass |
4 |
6 |
|
Matting |
4 |
||
Direct labor |
|||
Picking time |
10 minutes |
10 minutes |
10 minutes |
Picking labor rate/hour |
$12 |
$12 |
$12 |
Matting and framing time |
20 minutes |
30 minutes |
|
Matting and framing rate/hour |
$21 |
$21 |
Illustration CA 1-2
Manufacturing overhead
budget for Wall Décor
Manufacturing Overhead Budget |
|
Supervisory salaries |
$100,000 |
Factory rent |
130,200 |
Equipment rent (framing and matting equipment) |
50,000 |
Utilities |
20,000 |
Insurance |
10,000 |
Information technology |
50,000 |
Building maintenance |
11,000 |
Equipment maintenance |
4,000 |
Budgeted total manufacturing overhead costs |
$375,200 |
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Greetings Inc. | |||||
Calculation of direct material cost per unit | |||||
Particulars | Unframed Steel-Framed | Steel-Framed Print-No matting | Wood-Framed Print, with Matting | Note | |
Direct labor | |||||
Picking time (minutes) | 10.00 | 10.00 | 10.00 | A | |
Picking labor rate/hour | 12.00 | 12.00 | 12.00 | B | |
Picking cost per unit | 2.00 | 2.00 | 2.00 | C=B/60*A | |
Matting and framing time | 20.00 | 30.00 | D | ||
Matting and framing rate/hour | 21.00 | 21.00 | E | ||
Matting and framing cost per unit | 7.00 | 10.50 | F=E/60*D | ||
Calculation of total cost | Unframed Steel-Framed | Steel-Framed Print-No matting | Wood-Framed Print, with Matting | Total | |
Picking cost per unit | 2.00 | 2.00 | 2.00 | See C | |
Matting and framing cost per unit | 7.00 | 10.50 | See F | ||
Direct materials Print | 12.00 | 16.00 | 20.00 | G | |
Total cost per unit | 14.00 | 25.00 | 32.50 | H=C+F+G | |
Volume—expected units Sold | 8,000.00 | 15,000.00 | 7,000.00 | I | |
Total expected cost | $ 112,000.00 | $ 375,000.00 | $ 227,500.00 | $ 714,500.00 | J=H*I |
Calculation of predetermined overhead rate | |||||
Particulars | Amount $ | ||||
Budgeted total manufacturing overhead costs | 375,200.00 | K | |||
Total expected cost | 714,500.00 | J | |||
Predetermined overhead rate | $ 0.53 | L=K/J | |||
Allocation of manufacturing overhead costs | Unframed Steel-Framed | Steel-Framed Print-No matting | Wood-Framed Print, with Matting | Total | |
Total expected cost | 112,000.00 | 375,000.00 | 227,500.00 | 714,500.00 | J |
Predetermined overhead rate | 0.53 | 0.53 | 0.53 | L | |
Manufacturing overhead costs Allocated | 58,813.72 | 196,920.92 | 119,465.36 | 375,200.00 | M=J*L |