Question

Worley Company buys surgical supplies from a variety of manufacturers and then resells and delivers these supplies to hundreds of hospitals. Worley sets its prices for all hospitals by marking up its cost of goods sold to those hospitals by 5%. For example, if a hospital buys supplies from Worley that cost Worley $100 to buy from manufacturers, Worley would charge the hospital $105 to purchase these supplies.

For years, Worley believed that the 5% markup covered its selling and administrative expenses and provided a reasonable profit. However, in the face of declining profits, Worley decided to implement an activity-based costing system to help improve its understanding of customer profitability. The company broke its selling and administrative expenses into five activities as shown:

Activity Cost Pool (Activity Measure)	Total Cost		Total Activity
Customer deliveries (Number of deliveries)	$	344,000	4,000	deliveries
Manual order processing (Number of manual orders)		468,000	6,000	orders
Electronic order processing (Number of electronic orders)		240,000	10,000	orders
Line item picking (Number of line items picked)		546,000	420,000	line items
Other organization-sustaining costs (None)		640,000
Total selling and administrative expenses	$	2,238,000

Worley gathered the data below for two of the many hospitals that it serves—University and Memorial (each hospital purchased medical supplies that had cost Worley $39,000 to buy from manufacturers):

	Activity
Activity Measure	University	Memorial
Number of deliveries	11	21
Number of manual orders	0	43
Number of electronic orders	11	0
Number of line items picked	150	260

Required:

1. Compute the total revenue that Worley would receive from University and Memorial.

2. Compute the activity rate for each activity cost pool.

3. Compute the total activity costs that would be assigned to University and Memorial.

4. Compute Worley’s customer margin for University and Memorial. (Hint: Do not overlook the $39,000 cost of goods sold that Worley incurred serving each hospital.)

Answer 1

• [1]

	University	Memorial	Total
Cost of purchase	$                             39,000.00	$               39,000.00	$                     78,000.00
Margin	5%	5%	5%
Total Revenue	$                             40,950.00	$               40,950.00	$                     81,900.00

• [2]

Activity Cost Pool (Activity Measure)	Total Cost	Total Activity		Activity Rates
Customer deliveries (Number of deliveries)	$                           344,000.00	4000	deliveries	$                                                86.00	per deliveries
Manual order processing (Number of manual orders)	$                           468,000.00	6000	orders	$                                                78.00	per orders
Electronic order processing (Number of electronic orders)	$                           240,000.00	10000	orders	$                                                24.00	per orders
Line item picking (Number of line items picked)	$                           546,000.00	420000	line items	$                                                   1.30	per line items
Other organization-sustaining costs (None)	$                           640,000.00
Total to be allocated	$                       2,238,000.00

• [3]

Overhead cost assigned to:
University	$                               1,405.00
Memorial	$                               5,498.00

--Working

UNIVERSITY
Activity Cost Pool (Activity Measure)	Total Cost	Activity Rates		No. of cost drivers	Cost Allocated
Customer deliveries (Number of deliveries)	$                           344,000.00	$                       86.00	per deliveries	11	$                         946.00
Manual order processing (Number of manual orders)	$                           468,000.00	$                       78.00	per orders	0	$                                  -
Electronic order processing (Number of electronic orders)	$                           240,000.00	$                       24.00	per orders	11	$                         264.00
Line item picking (Number of line items picked)	$                           546,000.00	$                          1.30	per line items	150	$                         195.00
Total Cost Allocated					$                     1,405.00
MEMORIAL
Activity Cost Pool (Activity Measure)	Total Cost	Activity Rates		No. of cost drivers	Cost Allocated
Customer deliveries (Number of deliveries)	$                           344,000.00	$                       86.00	per deliveries	21	$                     1,806.00
Manual order processing (Number of manual orders)	$                           468,000.00	$                       78.00	per orders	43	$                     3,354.00
Electronic order processing (Number of electronic orders)	$                           240,000.00	$                       24.00	per orders	0	$                                  -
Line item picking (Number of line items picked)	$                           546,000.00	$                          1.30	per line items	260	$                         338.00
Total Cost Allocated					$                     5,498.00

• [4]

	University	Memorial
Total revenues	$                             40,950.00	$               40,950.00
Less:
Cost of Goods Sold	$                             39,000.00	$               39,000.00
Overhead cost allocated	$                               1,405.00	$                 5,498.00
Margin	$                                   545.00	$               (3,548.00)