Worley Company buys surgical supplies from a variety of manufacturers and then r

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:

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

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.)

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

Explanation / Answer

1) Total Revenue Received University Memorial Cost of goods sold to the hospital (a) $30,000.00 $30,000.00 Markup percentage 5.00% 5.00% Markup in dollars (b) $1,500.00 $1,500.00 Revenue received from hospitals (a) + (b) $31,500.00 $31,500.00 2) Activity Cost Pool (a) Estimated Overhead cost (b)Expected Activity (c) Activity Rate Customer deliveries $500,000.00 5000 $100.00 Per delivery Manual order processing $248,000.00 4000 $62.00 Per manual order Electronic order processing $200,000.00 12500 $16.00 Per Electronic order Line item picking $450,000.00 450000 $1.00 Per line item 3) a x b a x c (a) Activity Rate University(b) Memorial (c) University ABC Cost Memorial ABC Cost Customer deliveries $100.00 Per delivery 10 25 $1,000.00 $2,500.00 Manual order processing $62.00 Per manual order 0 30 $0.00 $1,860.00 Electronic order processing $16.00 Per Electronic order 15 0 $240.00 $0.00 Line item picking $1.00 Per line item 120 250 $120.00 $250.00 Total activity Costs $1,360.00 $4,610.00 4) Worley’s customer margin University Memorial Sales $31,500.00 $31,500.00 Less: Cost of Good Sold $30,000.00 $30,000.00 Gross Margin $1,500.00 $1,500.00 Less: Customer deliveries $1,000.00 $2,500.00 Manual order processing $0.00 $1,860.00 Electronic order processing $240.00 $0.00 Line item picking $120.00 $250.00 Total activity Costs $1,360.00 $4,610.00 Customer margin $140.00 -$3,110.00

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