Question

Case Study 2:

“Mike the Bike” Company produces mountain bikes and sells them to its commercial customers, which are 20 retail outlets. Of the 20 retail outlets, 19 commercial customers are small bike shops, which are owned separately and one (1) large retail chain with numerous retail outlet stores.

The retail chain central purchasing buys 60% of the bicycles produced by Mike the Bike Company, which are warehoused centrally and distributed to its outlets at the large retail chain’s expense. The 19 smaller commercial customers purchase bicycles in approximately equal quantities and their orders are about the same size.

Currently, customer-driven costs are assigned to customers based on units sold. You have been appointed the management accountant at Mike the Bike. Data concerning Mike the Bike’s customer activities are as follows:

	Large Retailer Chain	Smaller Retailers
Units purchased	27,000	18,000
Orders placed	12	1,200
Number of sales calls	6	294
Manufacturing costs	$10,800,000	$7,200,000
Order filling costs allocated*	$ 484,800	$323,200
Sales force costs allocated*	$ 240,000	$160,000

*Currently allocated on sales volume (number of units sold).

REQUIRED:

1. Assign manufacturing, ordering and selling costs to the two customers group (large retailer and small retailers) using the traditional “units sold” allocation basis and then calculate the total cost per bicycle for each customers group, using this unit-level driver.                                                                       

2. Assign manufacturing, ordering and selling costs to the two customer groups by using an ABM allocation basis. Round activity rates and activity costs to the nearest cent (2 decimal places). Calculate the total cost per bike for each customer group.

3. Compare your answer from requirement 1 and 2. Comment on the accuracy and usefulness of the different costs per bike for each customer group for strategic decision-making.

4. Mike the Bike’s manufacturing competitor offered an 8% discount off the current selling price of its product, which is similar to the Mike the Bike bicycles. Assume Mike the Bike has calculated its selling price using a “total cost plus 10% mark-up” on the total cost per bike calculated in requirement 1. What strategic pricing decision may be made (from the information in requirements 1, 2, and 3) to offer a new selling price to retain the business of the large retail chain?   

Answer 1

	1	ALLOCATION BASED ON UNITS SOLD
			Total costs	Large retailer	Smallretailer
	A	Units purchased	45000	27000	18000
	B=A/45000	Allocation on unit sold basis	100%	60%	40%
	C	Manufacturing costs	$18,000,000	$10,800,000	$7,200,000
	D	Order filling costs	$808,000	$484,800	$323,200
	E	Sales force costs	$400,000	$240,000	$160,000
	F=C+D+E	Total Costs	$19,208,000	$11,524,800	$7,683,200
	G=F/A	Total Costs per bicycle	$426.84	$426.84	$426.84
	2	ABM   ALLOCATION BASIS
			Total costs	Large retailer	Smallretailer
	A	Units purchased	45000	27000	18000
	B	Order Placed	1,212	(12/1212)	(1200/1212)
	C	Number of Sales calls	300	(6/300)	(294/300)
	D	Manufacturing costs	$18,000,000	$10,800,000	$7,200,000
	E	Order filling costs	$808,000	$                   8,000	$800,000	808000*(!2/1212)=$8000, 808000*(1200/1212)=800000
	F	Sales force costs	$400,000	$8,000	$392,000	400000*(6/300)=8000,400000*(294/300)=392000
		Total Costs	$19,208,000	$10,816,000	$8,392,000
		Total Costs per bicycle	$426.84	$400.59	$466.22
	3	ABM allocation basis gives a more accurate costs and helps in effective decision of pricing
		As per ABM allocation,the smallretailers should be charged more per bicycle
	4		Large Retail Chain	Small retailer	Total
		Units Sold	27000	18000	45000
		Cost per bicycle on unit sold basis	$426.84	$426.84
		10% mark up	$42.68	$42.68
		Selling Price	$469.53	$469.53
		TotalSales	$12,677,280	$8,451,520	$21,128,800
		Selling Price with 8% discount for large retail	$431.97			(469.53*0.92)
		TotalSales from large reail	$11,663,098
		TotalSales from smallRetailers		$9,465,702		(21128800-11663098)
		Selling price for small retailer		$525.87		(9465702/18000)
		Mark upon ABM basis costs	(431.97/400.59)-1	(525.87/466.22)-1
		Mark upon ABM basis costs	7.83%	12.79%