Continuation of S5-8 and S5-12: compare traditional and ABC costs (Learning Objective 2)

Refer to the Mission Data Set. Write a memo to Nelson comparing the costs of the Webb and Greg jobs using the original direct labor single-allocation-base system (S5-8) and the ABC system (S5-12). Be sure to explain the following:

• How have the costs changed under the ABC system?

• Why have the costs changed in the direction they changed rather than in the opposite direction?

• Do the ABC results solve Nelson’s puzzle from the Mission Data Set? Explain.

Your memo should follow the format outlined in S5-10.

Mission, Inc., is a technology consulting firm focused on Web site development and integration of Internet business applications. President Susan Nelson’s ear is ringing after an unpleasant cal! from client Jerry Webb. Webb was irate after opening his bill for Mission’s redesign of his company’s Web site. Webb said that Mission’s major competitor, Delta Applications, charged much lower fees to another company for which Webb serves on the board of directors.
Nelson is puzzled for two reasons. First, she is confident that her firm knows Web site design and support as well as any of Mission’s competitors. Nelson cannot understand how Delta Applications can undercut Mission’s rates and still make a profit.
But Delta Applications is reputed to be very profitable. Second, just yesterday Nelson received a call from client Keith Greg. Greg was happy with the excellent service and reasonable fees Nelson charged him for adding a database-driven job-posting feature to his company’s Web site. Nelson was surprised by Greg’s compliments because this was an unusual job for Mission that required development of complex database management and control applications, and she had felt a little uneasy accepting it.
Like most consulting firms, Mission traces direct labor to individual engagements (jobs). Mission allocates indirect costs to engagements using a budgeted rate based on direct labor hours. Nelson is happy with this system, which she has used since she established Mission in 1995.
Nelson expects to incur $706,000 of indirect costs this year, and she expects her firm to work 5,000 direct labor hours. Nelson and the other systems consultants earn $350 per hour. Clients are billed at 150% of direct labor cost. Last month, Mission’s consultants spent 100 hours on Webb’s engagement. They also spent 100 hours on Greg’s engagement.