Destin Brass Products Co. MEMORANDUM To:Senior Management of Destin Brass From: Consulting Team 2 Subject: Is the company costing system enhancing profitability? Date:10/18/11 ____________________________________________________________ _____________________________________ After reviewing the exhibits provided to us from Peggy and Scott, we have created an Activity-Based Costing for Destin Brass’s Valve, Pumps and Flow Controllers in efforts to determine whether the company’s current costing system is in fact enhancing profitability.
If you take a look at Exhibit 2, you can see the new costing Activity-Based Costing (ABC) System that we are proposing should be used to cost and price your products. The new costing system estimates the cost of the valves to be $37. 75, the pumps to be $48. 87, and the Flow Controllers to be $100. 57. When you compare the unit costs that we have determined using the ABC Costing, as shown in Exhibit 3, to the standard unit cost and revised unit cost, the ABC valves unit cost is $ 0. 19 more than the standard unit cost and $ 11. 5 less than the revised unit cost. The Pumps, the item which competitors have been continually reducing prices on, has a unit cost under the ABC that is $ 14. 25 less than the standard unit cost and $ 10. 08 less than the revised unit cost. The cost of the flow controllers has been significantly been under valued when you compare the standard unit cost and the revised unit cost to the ABC unit cost. The new cost of the Flow Controllers under the ABC costing is $ 44. 07 more than the standard unit cost and $ 52. 61 more than the revised unit cost.
What causes the different product costing methods to produce such different results is that the standard unit cost uses only direct labor to allocate the overhead, and the revised unit cost uses material costs and machine usage to allocate the overhead. The new “modern costing approach”, uses the various activities that occur in the production of each product to assign a more accurate cost structure to each item. The strategic implications of our analysis is to establish a more accurate costing and pricing structure of Destin Brass’ valve, pumps, and flow controllers.
As previously stated, we recommend that the new Activity-Based Costing be implemented to cost your products, as shown in Exhibit 2. Additionally, to meet your planned gross margin (%) of 35% for each product, we recommend that you adjust your product prices to $58. 08 for valves, $ 75. 18 for pumps, and $154. 72 for flow controllers, as shown in Exhibit 4. Next month, assuming quantities produced and sold, activities, and cost remain the same, but the new costing system and new suggested prices, total net income for the month would increase by $ 157,325, as shown in Exhibit 4.