Question

Ellie Mosk, CEO of X-Space Industries, decided to expand the company’s product offering beyond the core model rocket business. After investigation, she decided to set up a separate division to design and manufacture products for the drone market. Several companies were interested in having X-Space develop these drones, and financial results, to date, have been encouraging. Revenue was $4 million, gross margins have been running about 40%, and the customer sales and support costs were $1 million. However, there is a growing concern that some customers require a disproportionate share of the sales and support resources, and the true profitability of the customers is unknown. Data were collected to support an analysis of customer profitability:

Activity	Cost Driver	Total Cost
Sales visits	Sales visit days	$	488,000
Product modifications	Number of modifications		272,000
Phone calls	Number of minutes		93,200
E-mail/electronic communications	Number of communications		174,000
		$	1,027,200

Customer	Revenue				Gross Profit				Visit Days				Modifications				Phone Minutes				Electronic Communications
A	$	402,000			$	152,000				15				15				1,150				625
B		502,000				202,000				25				15				1,240				875
C		602,000				232,000				40				40				1,490				1,120
D		1,120,000				422,000				90				60				1,840				2,120
E		1,520,000				592,000				100				70				2,240				2,370
Totals	$	4,146,000			$	1,600,000				270				200				7,960				7,110

Required:

1. Management felt the easiest way to allocate the sales and support costs was based on the total revenue. Using total revenue as the allocation base, determine the profitability of each of the five customers.

2. Management felt that because the data revealed some customers require a disproportionate share of sales and support resources, activity-based costing should be used to determine customer profitability. Use ABC to prepare a customer profitability analysis.

Answer 1

Solution 1:

Computation of Customer profitability - X-Space Industries
Particulars	Customer A	Customer B	Customer C	Customer D	Customer E
Revenue	$402,000	$502,000	$602,000	$1,120,000	$1,520,000
Gross Profit	$152,000	$202,000	$232,000	$422,000	$592,000
Sales and support cost (In ratio of revenues)	$99,598	$124,374	$149,150	$277,488	$376,590
Customer profit	$52,402	$77,626	$82,850	$144,512	$215,410

Solution 2:

Determination of activity rate for each activity & allocation of sales and support cost
Activity	Estimated Overhead Cost	Activity Base	Usage of Activity Base	Activity Rate	Customer A		Customer B		Customer C		Customer D		Customer E
					Usage	Allocated Costs	Usage	Allocated Costs	Usage	Allocated Costs	Usage	Allocated Costs	Usage	Allocated Costs
Sales Visits	$488,000.00	Sales visit days	270	$1,807.41	15	$27,111	25	$45,185	40	$72,296	90	$162,667	100	$180,741
Product modifications	$272,000.00	Number of modifications	200	$1,360.00	15	$20,400	15	$20,400	40	$54,400	60	$81,600	70	$95,200
Phone Calls	$93,200.00	Number of minutes	7960	$11.71	1150	$13,465	1240	$14,519	1490	$17,446	1840	$21,544	2240	$26,227
Email / Electronic communications	$174,000.00	Number of communciations	7110	$24.47	625	$15,295	875	$21,414	1120	$27,409	2120	$51,882	2370	$58,000
Total	$1,027,200.00					$76,271		$101,517		$171,551		$317,692		$360,168

Computation of Customer profitability - X-Space Industries
Particulars	Customer A	Customer B	Customer C	Customer D	Customer E
Revenue	$402,000	$502,000	$602,000	$1,120,000	$1,520,000
Gross Profit	$152,000	$202,000	$232,000	$422,000	$592,000
Sales and support cost (Activity based costing)	$76,271	$101,517	$171,551	$317,692	$360,168
Customer profit	$75,729	$100,483	$60,449	$104,308	$231,832