Question

Wilkerson Case

What concern, if any, do you have with ABC-based cost estimates you prepared? What other information or analysis would you want for better cost and profitability estimates?

Answer 1

Concerns with ABC-based cost estimates are as under :

1. Deciding an allocation base to use for set-up labour, an assumption was made that the base to allocate this manufacturing overhead cost were the production runs. Nevertheless, we think that in order to obtain a more accurate cost estimate for this, we should also take into account the components of every product because as mentioned in the case “each component in a product required a separate production run to machine the raw materials or purchased part to the specifications for the product.”

2. The second concern we have is regarding the allocation of the selling and administrative expenses. We assumed these as fixed. This decision was made to simplify the costing model and also because we did not have any information that would help allocate the expense within the 3 products that the company manufactures. If we would have had information on where to allocate SG&A within valves, pumps and flow controllers, again, the costing system would have been even more accurate (e.g. flow controllers might be harder to sell as they are more customized so the majority of the SG&A expenses could be allocated to this product, for example, 75% of the total expense)

3. The last concern we have is regarding the packaging and shipping. The base for this variable cost is solely the number of shipments made and the cost for each shipment is $500. We think this is not so accurate given that the size of the shipment is not being taken into account and the cost of $500 dollars is fixed whether the shipment involves 50 units or 500 units.

Other Information or analysis for better cost and profitability estimates are as below :

• Customer information: it would be very useful to have information about key accounts. The company could manage key accounts in more detail and gain loyalty and, therefore profitability in the medium term. Also, customer requirements in advance could be very helpful as the production department could plan and schedule productions in advance and gain efficiency.
• Order breakdown: each order should detail the number of units of each product. With this information, the company should be able to determine a minimum quantity order to be more efficient and reduce packaging and shipping costs.
• Shipping information: it would be very useful to have information about how the company is managing its shipments i.e. whether the company outsources the shipping service to third parties, or whether the company carries out its own logistics. With this information, certain decisions could be made in order to become even more efficient in cost reduction.
• Industry analysis information: it would be very useful to have information regarding prices and approximate costs (if possible) of main competitors. With this very relevant information, the company could evaluate if their target margins are in line with the industry average. This could allow the company to allocate funds more efficiently to become more profitable.