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 8%.

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 8%. For example, if a hospital buys supplies from Worley that cost Worley $100 to buy from manufacturers, Worley would charge the hospital $108 to purchase these supplies.

 

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 $32,000 to buy from manufacturers):

 

For years, Worley believed that the 8% 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:

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 $32,000 cost of goods sold that Worley incurred serving each hospital.)

Explanation

1.

Total revenue received:

	University				Memorial
Cost of goods sold to the hospital (a)	$	32,000			$	32,000
Markup percentage		8	%			8	%
Markup in dollars (b)	$	2,560			$	2,560
Revenue received from hospitals (a) + (b)	$	34,560			$	34,560

2.

Activity Rates:

Activity Cost Pool	(a) Estimated Overhead cost		(b) Expected Activity		(a) ÷ (b) Activity Rate
Customer deliveries	$	480,000	6,000	deliveries	$	80.00	per delivery
Manual order processing	$	308,000	4,000	orders	$	77.00	per manual order
Electronic order processing	$	216,000	12,000	orders	$	18.00	per electronic order
Line item picking	$	820,000	410,000	line items	$	2.00	per line item picked

3.

Activity costs are assigned to the two hospitals as follows:

University:

Activity Cost Pool	(a) Activity Rate			(b) Activity		(a) × (b) ABC Cost
Customer deliveries	$	80.00	per delivery	14	deliveries	$	1,120.00
Manual order processing	$	77.00	per order	0	orders		0
Electronic order processing	$	18.00	per order	13	orders		234.00
Line item picking	$	2.00	per line item	140	line items		280.00
Total activity costs						$	1,634.00

Memorial:

Activity Cost Pool	(a) Activity Rate			(b) Activity		(a) × (b) ABC Cost
Customer deliveries	$	80.00	per delivery	21	deliveries	$	1,680.00
Manual order processing	$	77.00	per order	50	orders		3,850.00
Electronic order processing	$	18.00	per order	0	orders		0
Line item picking	$	2.00	per line item	220	line items		440.00
Total activity costs						$	5,970.00

4.

Customer margins for the two hospitals:

	University			Memorial
Sales	$	34,560.00		$	34,560.00
Cost of goods sold		32,000.00			32,000.00
Gross margin		2,560.00			2,560.00
Customer deliveries		1,120.00			1,680.00
Manual order processing		0			3,850.00
Electronic order processing		234.00			0
Line item picking		280.00			440.00
Total activity costs		1,634.00			5,970.00
Customer margin	$	926.00		$	(3,410.00)

Thanks