Destin Brass Products Co.

Problem Statement Destin font professorship Roland Guidry is concerned with the belligerent trends of the come with heightens. He and his staff argon worried that attach to realizes be f wholeing in regards to these free-enterprise(a) tasks. Analysis Destin facial expression confederacy manufactures threesome items dealing with water nuance outlines valves, gists, and scarper surmountlers. The caller-out has been seeing just about line of works dealing with tilt within well-nigh of the harvest-home trades they contract. Ronald Guidry had cardinal basic inquirys they precious rejoindered dealing with this suit 1. wherefore was it so difficult for the troupe to stay free-enterprise(a) in the pump securities indus get a line? 2. Why has the keep smart set not seen any rivalry in the pay heed controller commercialise even with a recent press in their value to consumers? These questions aro utilise from Guidry when he realized that the compan y wasnt do the beat 35% plebeian lolly bothowance circular in pumps. This was the case beca social occasion the company was forced to reduce the sell toll in pumps a guidance from the target scathe ($97. 10 to $81. 26) pay open to soaked competition. caution in any case realized the excessive gross gelt circumference of 42% in incline controllers even after a recent 12. % growth in legal injury. pic The answer to the questions raised by watchfulness is like a shot related to to to how the company is nibing for their command budget items relating to from from apiece one one intersection. The company had been utilise a conventionalistic elan of allocating belt. ( butt 2) This was a simplistic and inexpensive guidance for the company to arrive at this task. However, it truly didnt accu calculately deal out smash-up to each product. Destin realized this and had it controller, Peggy Alford, goal a revise way for allocating operating embody. Exh ibit 3) This rewrite dodging didnt seem to answer any questions or slake any problems that Destin was having. Activity establish be ( first rudiment) was an separate possibility to share disk operating follow and helps answer the questions preceding(prenominal). (Exhibit 4) Traditional Cost administration The traditionalistic terms system that was shortly world used was a much or little inexpensive way for the company to portion hit bell. This system was used to come a banner unit of measurement salute that was whence used to produce a target selling bell ground on the 35% profit leeway set by the company.The grammatical construction used to assign smash-up to each product to arrive at a standard follow was a precise strange mode for the company to use. There are a account of reasons that this way was inappropriate. First, the merely way belt is allocated utilize this system is by assigning everywherehead to occupation to each product on the home of business-run motor personify. pic The sidestep above shows how the overhead rate was generated for use in the traditional damage system. Using this rate it allocates $4. 39 of overhead for every $1. 00 of run crusade used in the product which the ride was applied.This per unit overhead rate is because added with a solid and involve grok per unit embody. Adding these three damage up will part you the standard unit cost for producing each product. (Exhibit 2) This system instauration all overhead on grind and thitherfore is not a very accurate way to distribute overhead cost to each product. Take for typesetters case the menstruate controllers which have a stab usage of . 40 hours per unit. Using the overhead rate above of 439%, overhead allocated to each fall down controller is $28. 10. This hardly takes into account direct working class and nothing else.This creates a problem because even though period of time Controllers take . 40 hours to produce they altogether use . 20 hours of motorcar usage. analyze this mechanism usage to . 50 motorcar hours to produce each valve which uses . 25 parturiency hours and . 50 hours to produce each pump which uses . 50 sedulousness hours. This shows that consort controllers are stupefyring more cost then indispensable when dealing with work usage. This problem of over allocating overhead to certain products is too accredited when dealing with apparatus depreciation. work depreciation accounts for $270,000 of the summarise overhead, a humongous percentage.With the overhead rate existence heady by fatigue using this traditional system, mould depreciation is being ascertain by how much labor is being used to produce each product. In reality motorcar depreciation should be allocated to overhead using how many form hour it took to produce each product. With 4,000 melt down controllers being produced at a machine usage of . 20 hours they accounts for 800 total machine h ours. This number is very small in comparison to valves and pumps which take 3,750 and 6,250 total machine hours to produce, respectively.This means that proceed controllers should be allocated less machine deprecation overhead due to the relative small number of total machine hours used. However, since the overhead rate is notwithstanding calculated using labor in the traditional system commingle controllers are being over allocated. The table infra shows how much machine depreciation is being allocated to overhead using the traditional rule based on labor hours. pic The table below shows what machine depreciation would be if it were calculated using the number of machine hours used produce each product line. picBased on the previous 2 tables allocating machine depreciation based on direct labor hours gutter give the company a false cost on how much it cost to produce each unit of a accompaniment product. Pumps are being allocated $19,350 ($175,600-$156,250) too much machin e depreciation. With the company producing 12,500 pumps thats a per unit over charge of $1. 55. term this is only showing the differences in machine depreciation, the some other(a) overhead cost associated with Destin producing it products also vary. With these overhead cost being miss-allocated for, on that point is the potential for Destin to be using harmful data to toll its products.This could help justify the competition problem the company is facing and will be discussed later in the paper. A plump for way that this traditional cost system is inappropriate for Destin to use is because it only gives the company one choice in dealing with a bell metamorphose. Since all overhead is figured using direct labor hours if Destin indigenceed to potpourri it cost associated with overhead, then the only way would be to change the direct labor dollars. This severally limits the company by having only one pool to change harms. rewrite Unit Cost SystemDestin disposal Produc ts controller Peggy Alford put together a revised cost allocating system in an attempt to expose allocate overhead based on activities. This system separates material related overhead and labor related overhead and determines corresponding rates to keep ones shoulder to the wheel into your unit be. (Exhibit 3) The table below shows the time interval of the two types of overhead used in the revised rule. pic The revised system is unwrap than the standard system that Destin heart shortly uses to allocate overhead. It takes into account the problem in the standard system which based all allocation of overhead only from direct abor dollars. In correcting this problem the revised structure nowadays takes into account material related overhead which has no relationship to the labor be of machining. While this dilemma was turn in the revised system other problems aroused questioning the accuracy of the system allocating overhead to the overcompensate products. When feeling at the other overhead section in the table above packing material and expatriation overhead is included. This creates a problem when the overhead rate for this group of cost is ascertain using machine hours.Lets use menstruate controllers again to break off understand the problem that is created. In the revised cost system all overhead not dealing with materials is allocated to products using $42. 59 per machine hour used. With flow controllers victorious . 20 hours of machine time to produce the other overhead is designate to the standard cost at $8. 52 per unit. With valves and pumps both(prenominal) using machine time of . 50 hours to produce each unit, this systems creates an advantage for the flow controllers. Although flow controllers use less machine time they require more transportation and packing cost.Flow controllers require a total of 22 shipments to its customers compared to only sevener for pumps and one for valves. With this being true the absolute majority of the $60,000 assigned to packing and shipping overhead should be allocated as cost to flow controllers. Despite this fact the allocation abidet be done because of how overhead is assigned based machine hours used. The succeeding(a) table shows the current overhead assigned to packing and shipping based on the revised system of using machine hours as the basis for overhead allocation. picThe beside table shows what packing and shipping overhead would be based on a percentage of total shipments company wide. pic The second way shown is the fail way to allocate overhead based on packing and shipping costs because it takes into account how many shipments and necessary of each product line. looking at flow controllers again you can see that this product line requires 22 of the 30 shipments. This is a cost of $44,000 that is nowadays related to the flow controllers. With the current revised system represented in the first base table, flow controllers only were allocated $4,430. 0 o f cost associated with packing and shipping. This is only 10. 1% of the cost that should be allocated. With this Revised System for costs Destin Brass would still be using bad data to set damages of it products. This could be one possible answer to the questions asked in the beginning by the company. Another problem that arises if this revised system is put into posture is one that is similar to the previous problem. Destin Brass manufacturing manger John Scott is quoted in the case as saying (the company) probably spends half of our engineering effort on flow controllers.If this is the case, then like before flow controllers arent being allocated enough overhead with regards to engineering cost. This is shown in the sideline two tables. The table on the left shows the sum of money of engineering overhead being before long allocated to flow controllers. The table on the right shows what the allocation of engineering cost should be to flow controllers based on the estimated num ber of 50% of total engineering. pic pic This again is another(prenominal) possible reason for the competition and footing problems that Destin Brass is facing.Both of the above methods really restrict the company from implanting changes in price and/or cost. The methods have few pools for counseling to fulfil changes using and result gives poor data. A System with the possibilities to implement changes substantially is application based costing. Activity Based Costing A system that would benefit Destin Brass greatly would be to implement activity based coasting as a means to allocate the overhead costs associated with its products. This method traces the costs of resources to the activities consumed.The problem set in the two previous systems would all be eliminated if rudiment where used at Destin. The first principle method is used by applying all direct cost (direct labor and materials) towards the product coast based on the coast summary. (Exhibit 1) Indirect cost (Indi rect labor and materials and depreciation) are then applied to each product at a rate that set by the amount of the activity used to produce the good. The amounts used in this case are estimated based on how many proceeding occur in total and are caused by each product. Exhibit 5) This way of allocating overhead better illustrates how much cost goes into each product based on the amount of components and runs is needed to complete each product. With this being true flow controllers now have type to the cost being occurred and the overhead allocated to them. Flow controllers numbers are now more accurate because of the fact the all transactions needed to complete the product are used in generating an allocation rate. one by one flow controller is made up of 10 components and that are being produced in 10 runs.This will account for the company to have 100 transactions (10&21510) in line of battle to produce the good. The numbers that Destin came up with using this method are shown in Exhibit 4. With each overhead cost being rated by itself for each product, the company has better data to make arduous decisions with. They also have better control on implementing changes. As with the previous methods management could only change labor or machine hours to effectively change coast. With the rudiment method each cost is rated separately and therefore a change to a cost would be well done.When analyze the product unit coast obtained from the three methods discussed in this paper, the companies problems dealing with competition and price are easy reasoned with. The spare-time activity table shows these unit costs for each product line using each of the three methods This comparison table shows that Destin Brass was allocating its overhead in a way that gave decision makers faulty data. By looking at the numbers obtained using the rudiment method and analyse them to the two other methods answers to the two questions raised by the prexy can be answered.The f irst question of why was it so difficult for the company to stay competitive in the pump market is explained by the above chart. Destin had believed its production cost for pumps to be $63. 12. With this being give tongue to when Destin had to lower their price due to stiff competition the company felt they were no longer going to be able to obtain the desired 35% profit margin. However if Destin new the true cost of producing each pump unit was $37. 70 then lowing the price to stay competitive would have been no longer and paying back because the company would still be over the 35% mark.The second question raised by management at Destin Brass dealing with why the company has not seen any competition in the flow controller market is also advantageously answered using the above table. Destin believed that its standard unit cost for producing flow controllers was $56. 50. Using this cost number the company set a target selling price of $86. 96 to obtain the desired 35% profit margi n for the company. When potential competitors looked at this price they felt there was no way they could make a profit in this product line.The potential competitors most in all probability had a cost of producing a flow controller some where around the price we obtained using the ABC method of $100. 91. heretofore when Destin raised the price of flow controllers by 12. 5% to $97. 07 competitors would still not want to enter the market based on our selling price. These questions are also easily answered by looking at the following table which take the unit cost obtained using the ABC method and comparing them with last months selling prices This table shows that the flow controllers were priced to low based our current cost.The company would have incurred a loss of 4% gross margin if this were the unit cost we used last month. Again this shows why now competition was forming because any other company using the ABS method would incur a loss as well. If Destin where moreover to mak e a 35% margin at its new unit cost of $100. 91 it would need to sell the flow controllers at $155. 25. This increase in price might fuel some competition. probable competitors might see this new price Destin is selling at and feel it is a favorable market to get into now competition can sell above their production cost.Pumps are also easily analyzed using this table. Now that the company has an ABC unit cost of $48. 79 they can better compete in the price wars the take place in the pump market. At the price Destin was selling pumps at last month of $81. 26 the company would now be qualification a 40% gross margin using the ABC cost. This leaves Destin the option of dense the price in pumps $75. 06 in order to stay competitive and maintain market share. At this price Destin would still be making the company desired 35% profit margin.Net income would not change in the flowing month if the ABC method were to be implemented. This is assuming there are no changes in production, sales , or costs. This is strictly saying that the way you account for overhead as no electrical shock on net income. The ABC method total overhead costs, it only changes how those costs are allocated for internal purposes. With this information shown the ABC method for allocating overhead to products is far A-one to anything Destin Brass had used before. The ABC method takes into account all overhead cost and the components involved in each product.In summary a companys profitability of a product depends on the allocation rules used internally. Recommendations I would recommend to Destin Brass president Roland Guidry to implement the ABC method for allocating overhead. This method alleviates the two problems he had at the beginning of the case dealing with the question of competition and price. The ABC method will also let Mr. Guidry better control his cost and prices by providing him with a way thats easier and more effective. I would recommend to Mr. Guidry that he lower the price o f the pumps in order to remain competitive in that market.He should lower pump prices as long as he be at or above the 35% gross margin he wants. I would also recommend that he slowly raise the prices of flow controllers. With the unit cost a lot high than where it was this price needs to raise and try to obtain the 35% margin. Mr. Guidry should keep a close eye on the competition in this market. As the price is increase potential competitors might enter the market. He should raise the price for flow controllers as long as competition stays to a minimal to retain the market share Destin has already obtained. pic pic pic pic pic