Dakota Office Products

Goals and objectives Activity Based Costing/Management (ABC/M) is a tool that helps to explore opportunities for improving profitability of

your company. Unlike traditional cost analysis approaches, ABC/M provides more accurate cost information for each

activity, client/customer and product. Using activity-based approaches can help to overcome the following business

challenges:

• Improving sales strategy based on a profitability analysis of various cost objects (clients, products, services, regions and

sales channels)

• Planning and controlling how resources are used, identifying wasteful expenditure, and exploring opportunities for cost

reduction without affecting core operations

• Establishing the cost of internal functions and considering options for optimising them, including centralisation or

outsourcing.

Exhibit 1 Dakota Office Products: Income Statement CY2000

Sales 4,25,00,000 121.4%

Cost of Items Purchased 3,50,00,000 100.0%

Gross margin 75,00,000 21.4%

Warehouse Personnel Expense 24,00,000 6.9%

Warehouse Expenses (excluding

personnel)

20,00,000 5.7%

Freight 4,50,000 1.3%

Delivery Truck Expenses 2,00,000 0.6%

Order entry expenses 8,00,000 2.3%

General and selling expenses 20,00,000 5.7%

Interest expense 1,20,000 0.3%

Net Income Before Taxes -4,70,000 -1.3%

24,00,000

20,00,000

4,50,000

2,00,000

8,00,000

58,50,000Operating Costs

Dakota Office Products

Truck shipment

from

manufacturers

Storage

Location in the

warehouse

Customer order

receipt

Collect designated

ordered products

from the

warehouse

Shipment

Preparation

Commercial Truck

Desktop Delivery

Manual Order

EDI Order

Set-Up Manual Customer Order (2000 hours)

Enter Individual Oder Lines(7500 hours)

Validate an EDI order (500 hours)

Validate the Order

Process Cartoons

Process Manual Customer Order

Enter Items Ordered

Process EDI Orders

Ship Cartoons

Desktop Delivery

Exhibit 1 Dakota Office Products: Income Statement

CY2000

Sales 4,25,00,000 121.4%

Cost of Items Purchased 3,50,00,000 100.0%

Gross margin 75,00,000 21.4%

Warehouse Personnel Expense 24,00,000 6.9%

Warehouse Expenses

(excluding personnel)

20,00,000 5.7%

Freight 4,50,000 1.3%

Delivery Truck Expenses 2,00,000 0.6%

Order entry expenses 8,00,000 2.3%

General and selling expenses 20,00,000 5.7%

Interest expense 1,20,000 0.3%

Net Income Before Taxes -4,70,000 -1.3%

Exhibit 2 Customer Profitability Report (Current Method)

Customer A Customer B

Sales 1,03,000 121.2% 1,04,000 122.4%

Cost of Items Purchased 85,000 100.0% 85,000 100.0%

Gross margin 18,000 21.2% 19,000 22.4%

Warehousing, Distribution and

Order Entry

12,750 15.0% 12,750 15.0%

Contribution to general and

selling expenses, and profit

5,250 6.2% 6,250 7.4%

Exhibit 3 Services Provided in Year 2000 to Customers A and B

Customer A Customer B

Number of cartons ordered 200 200

Number of cartons shipped commercial

freight

200 150

Number of desktop deliveries - 25

Number of orders, manual 6 100

Number of line items, manual 60 180

Number of EDI orders 6 -

Average accounts receivable $9,000 $30,000

Customer A Customer B

Sales 1,03,000 1,04,000

Cost of Items

Purchased

85,000 85,000

Gross margin 18,000 19,000

Number of cartons 200 10400 200 10400

Number of cartons

shipped, commercial

freight 200 1200 150 900

Number of Dextop

Deliveries 25 5500

Number of orders

mannual 6 60 100 1000

Number of line items,

mannual order 60 240 180 720

Number of EDI Orders 6 30

Average Accounts

Receivables $9000 900 $30000 3000

12830 21520

Customer contribution 5,170 -2,520

• Kronecker Company, a growing mail order clothing and accessorycompany, is concerned about its growing marketing, distribution, sellingand administration expenses.

• It therefore examined its customer ordering patterns for the past year andidentified four different types of customers, as illustrated in the followingtable.

• Kronecker sends catalogs and flyers to all its customers several times ayear. Orders are taken by mail or over the phone by the toll free number.Kronecker prides it self on the personal attention it provides shopperswho order over the phone.

• All purchases are paid for by check or credit card. It also maintains a verygenerous return policy if customers are not satisfied with the product.Customers must pay return shipping charges, but their purchase price isthen fully refunded.

Customer 1 Customer 2 Customer 3 Customer 4

Initial Sales Rs. 1000 Rs. 1000 Rs. 2,500 Rs. 3,000

Number of items returned 0 4 2 24

Dollar value of items returned 0 Rs. 200 Rs. 500 Rs. 1,500

Number of orders per year 1 6 4 12

Number of phone orders per year 1 0 0 12

Time spent on phone placing orders 0.25 hour 0 0 1 hour

Number of overnight delivery 1 0 0 12

Number of regular delivery 0 6 4 0

Prices are set so that cost of goods sold is on

average about 75% of the sales price.

Customers pay actual shipping charges, but

extra processing is required for overnight

delivery. The company has developed the

following activity cost driver rates for its

support costs. What advice will you give to

the company.

Activity Activity Cost

Driver Rate

(Rs.)

Process mail orders 5

Process phone orders 80

Process returns 5

Process over night delivery

request

4

Maintain customer relations 50

200 500 1,500

Net sales $1,000 $800 $2,000 $1,500

Cost of goods sold,

75% of sales 750 600 1,500 1,125

Processing mail orders,

$5 per nonphone order 0 30 20 0

Process phone orders,

$80 per hour 20 0 0 80

Process returns,

$5 per item returned 0 20 10 120

Process overnight

delivery requests,

$4 per request

Maintain customer

relations

Customer 1 Customer 2 Customer 3 Customer-4

Sales $1,000 $1,000 $2,500 $3,000

Less returns 0

Customer 4

is the

most

expensive

Customer 1 is fairly

low-cost to serve

Profit $176 $100 $420 $77

Profit Sales 0.18 0.10 0.17 0.03

11

4 0 0 48

50 50 50 50