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)	$	500,000	5,000	deliveries
Manual order processing (Number of manual orders)		248,000	4,000	orders
Electronic order processing (Number of electronic orders)		200,000	12,500	orders
Line item picking (Number of line items picked)		450,000	450,000	line items
Other organization-sustaining costs (None)		602,000
Total selling and administrative expenses	$	2,000,000

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 $30,000 to buy from manufacturers):

	Activity
Activity Measure	University	Memorial
Number of deliveries	10	25
Number of manual orders	0	30
Number of electronic orders	15	0
Number of line items picked	120	250

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 $30,000 cost of goods sold that Worley incurred serving each hospital.)

Answer 1

1
	University	Memorial
Cost of goods sold	30000	30000
Add: Markup @ 5%	1500	1500
Total Revenue	31500	31500
2
Activity cost pool	Total cost	Total activity	Activity rate
Customer deliveries	500000	5000	100.00	per delivery
Manual order processing	248000	4000	62.00	per manual order
Electronic order processing	200000	12500	16.00	per electronic order
Line item picking	450000	450000	1.00	per line item picked
3
	University			Memorial
Activity cost pool	Activity	Activity rate	Cost allocated	Activity	Activity rate	Cost allocated
Customer deliveries	10	100.00	1000	25	100.00	2500
Manual order processing	0	62.00	0	30	62.00	1860
Electronic order processing	15	16.00	240	0	16.00	0
Line item picking	120	1.00	120	250	1.00	250
		Total	1360.00		Total	4610.00
	Total activity costs
University	1360
Memorial	4610
4
	University	Memorial
Revenue	31500	31500
Less: Costs
Cost of goods sold	30000	30000
Activity costs	1360	4610
Customer margin	140	-3110