DAKOTA OFFICE PRODUCTSActivity Based Costing (ABC)

Dakota Office Products (DOP)• Dakota Office Products is a regional distributor of office

supplies to institutions and commercial businesses. It has an excellent reputation for customer service and responsiveness.

• Product line ranges from simple writing implements like pencils and markers to photo-copy papers.

Operation Process• Warehouse:

a. Unload truckload shipments of products from manufacturers, and move them into their designated storage locations.

b. After receiving customer orders, DOP warehouse personnel accumulate the cartons of items and prepare them for shipment.

• Customer ordering and validation:a. Set up a manual customer order

b. Enter individual order lines in an order

c. Validate an EDI/internet order

Orders Delivery

• Commercial Trucks.

• Dakota Trucks deliver

“desktop” packages directly

to the customer.

Pricing Structure• Marking up the purchased product cost by 15% to cover

the cost of warehousing, distribution, and freight. • Add another markup to cover the approximate cost for

general and selling expenses, plus an allowance for profit.• The markups were determined at the start of each year,

based on actual expenses in prior years and general industry and competitive trends.

• Actual prices to customers were adjusted based on long-term relationships and competitive situations, but were generally independent of the specific level of service provided to that customer, except for desk top deliveries.

Current Situation• Increase In Sales • Increase In Costs • Loss in profit for the 1st Time

in the DOP’s history.

Despite introducing innovations such as desktop delivery and electronic order entry, the DOP could not earn a profit.

Activity-Based Costing Steps

• Cost Object : Orders• Primary Activities

1. Process cartons in and out of the facility

2. New desk top delivery service

3. Order handling

4. Data entry.

• Consumption of Resources• Cost

Activity Cost Pools & Measures

Activity Cost Pool Activity Measure

Ship Cartons Number of cartons shippedcommercial freight

Process Cartons Number of cartons ordered

Desktop Delivery Number of desktop deliveries

Process Manual Custom Order Number of orders, manual

Enter Items Ordered (Manual) Number of line items, manual

Process EDI Order Number of EDI orders

Activity Cost Pools Percentages & Amounts

Activity Cost Pools - Percentages

Ship Cartons Process Cartons Desktop DeliveryProcess Manual Customer Order

Enter Items Ordered (Manual)

Process EDI Order Totals

Freight 100% 0% 0% 0% 0% 0% 100%

Warehouse Rent & Depreciation

0% 100% 0% 0% 0% 0% 100%

Warehouse Distribution Personnel

0% 90% 10% 0% 0% 0% 100%

Delivery Truck Expenses

0% 0% 100% 0% 0% 0% 100%

Order Entry Expenses 0% 0% 0% 20% 75% 5% 100%

Activity Cost Pools - Amounts

Ship Cartons Process Cartons Desktop DeliveryProcess Manual Customer Order

Enter Items Ordered (Manual)

Process EDI Order Totals

Freight 450,000 - -

- - - $450,000

Warehouse Rent & Depreciation

- 2,000,000 - - - - $2,000,000

Warehouse Distribution Personnel

- 2,160,000 240,000 - - - $2,400,000

Delivery Truck Expenses

- - 200,000 - - - $200,000

Order Entry Expenses - - - 160,000 600,000 40,000 $800,000

Totals 450,000 4,160,000 440,000 160,000 600,000 40,000 5,850,000

Activity Based Costing Model

Customer Profitability

Customer Margin - Activity Based Costing

  Rate/$

Customer A Customer B Item Number of Activity Debit\Credit Number of Activity Debit\Credit

Sales     103,000  

104,000

Cost of Items Purchased     (85,000)  

(85,000) Operating Costs:          

Processing/Carton 52

200

(10,400)

200

(10,400)

Freight/Carton 6

200

(1,200)

150

(900)

Delivery to Desktop/Delivery 220

-

-

25

(5,500)

Process.CustomOrd/ManualOrd 10

6

(60)

100

(1,000)

EnteringItemsManual/line 4

60

(240)

180

(720)

Process EDI Order/EDI order 5

6

(30)

-

-

Interest on Accounts Receivables 0

9,000

(900)

30,000

(3,000)

Customer Margin     5,170  

(2,520) Profitability percentage(Customer Margin\Sales)     5.02%   -2.42%

Differences In Profitability between Customer A & Customer B

1. The cost of desktop delivery.

2. The processing of manual orders.

3. The cost of entering items manually.

4. The interest on accounts receivable.

Recommendations• Difference 1:

• The cost of delivery to the desktop (Applying the fixed cost of the delivery truck expenses on the Desktop delivery on the customers who have used it will lower the profitability of these customers)

• Recommendation:• Using only the shipping by commercial trucks• Make use of Dakota’s truck fleet in another activities as to lower

the delivery truck expenses portion applied on theses customers

Recommendations• Difference 2 & 3:

• The processing of manual orders & the cost of entering items manually.

• Recommendation:• Increase the pricing on Customer B to cover the loss incurred from

this activity.• Encourage customer B on using the EDI and the Internet for

placing their sales orders by offering them a competitive pricing when using these two tools.

• To encourage Customer B on placing bulk orders rather than small orders, this will save the time of processing manual orders.

Recommendations• Difference 4:

• The interest on accounts receivable - Customer B is consuming much more from Customer A by applying the 10% interest Rate. This lost amount is a cost that needs to be figured out on how to lower it as it is lowering the cash flow and it disables the company capability in using it in other opportunities.

• Recommendation:• To have an agreement with customer B on the payments due date

by encouraging them with a price discount.

Conclusion • From applying the activity based costing the company

could find the activities lowering the profit. • It gives a base for further decision making to:

• Enhance the operations, • Remove the unneeded activities, • Increase the profit.

• It gives a realistic costs on the designated cost objects (Order) in our case