Destin Brass
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Destin Brass
Under the standard costing based allocation/cost method, Flow Controllers received a product cost cross-subsidization from the other two products in the amount of $174,446. This product cost cross-subsidization made it appear that Flow Controllers were quite profitable when in fact it is losing money for Destin Brass.
Cost hierarchy of activity-based cost
The Cost Hierarchy categories using ABC for Destin Brass is given below:
Category Activity
Unit Level Run labor per unit
Unit Level Receiving
Unit Level Materials handling
Unit Level Packing and shipping
Unit Level Depreciation
Batch Level Set-up labor per unit
Product Sustaining Engineering
Product Sustaining Maintenance
Recommendation
ABC analysis sh ws that there is a direct relationship between the activity-based costs and the Destin Brass' profitability. Clearly, the traditional costing system is allocating more costs to the Pump product line, which is making the pumps seem less profitable.
ABC analysis also shows that Flow Controllers are less profitable due to the cost involved. Destin Brass should lower the number of Flow Controllers produced and leave the price higher as the product's price did not affect the demand in the prior month.
The Pump product line, which is most profitable, will be able to sustain the gross margin closer to the company's estimates (35%) rather than the 22% gross margin that was reported in the prior month. This level of gross margin can be achieved even by lowering the product's sale price. By reducing the price and having better manufacturing processes, the company will be able to recapture the lost market share.
Net Income reporting difference
Net Income reported using the ABC cost system is $178,499 higher for Pumps, $174,446 lower for Flow Controllers, and a negligible amount for Valves...