Miami Valley Architects Inc.

Miami Valley Architects Inc. provides a wide range of engineering and architectural consulting services through its three branch offices in Columbus, Cincinnati, and Dayton, Ohio. The company allocates resources and bonuses to the three branches based on the net income reported for the period. Presented below are the results for the 2016 fiscal year ($ in thousands). Columbus Cincinnati Dayton Total Sales $1,500 $1,419 $1,067 $3,986 Less: Direct labor (382) (317) (317) (1,016) Direct materials (281) (421) (185) ( 887) Overhead (710) (589) (589) (1,888) Net Income $127 $92 ($24) $195 :

Overhead items are accumulated in one overhead pool for the entire firm and then allocated to the branches based on direct labor dollars. For fiscal 2016 this predetermined rate was $1.859 for every direct labor dollar incurred by an office. The overhead pool includes rent, depreciation, taxes, etc. regardless of which office incurred the expense. Management is concerned with the results of the fiscal 2016 performance reports. During a review of the overhead, it became apparent that many items of overhead were not correlated with the direct labor dollars. Management decided to apply overhead based on direct tracing where possible and to apply Activity Based Costing (ABC) to model the profitability of each branch. Results of Overhead Analysis An analysis of the overhead revealed that facility sustaining costs for rent, utilities, depreciation, property taxes, etc. could be traced directly to the office where the costs were incurred ($ in thousands). Columbus Cincinnati Dayton Total Direct Overhead $180 $270 $177 $627 Activity pools and activity drivers determined from the accounting records and staff surveys are presented in the table on the next page1. Activities by Location Activity Pools Activity Driver Columbus Cincinnati Dayton General Administration $409,000 Direct Labor Dollars $382,413 $317,086 $317,188 Project Costing $48,000 # of Timesheet Entries 6,000 3,800 3,500 Accounts Payable/Receiving $139,000 # of Vendor Invoices 1,020 850 400 Accounts Receivable $47,000 # of Client Invoices 588 444 96 Payroll/Mail Sort & Delivery $30,000 # of Employees 23 26 18 Personnel Recruiting $38,000 # of New Hires 8 4 7 Employee Insurance Processing $14,000 # of Claims Filed 230 260 180 Proposals Accepted by Clients $139,000 # of Proposals Accepted 200 250 60 Sales Meeting/Sales Aids $202,000 Contracted Sales $1,824,439 1,399,617 $571,208 Shipping $24,000 # of Projects 99 124 30 Ordering $48,000 # of Purchase Orders 135 110 80 Duplicating Costs $46,000 # of Copies Duplicated 162,500 146,250 65,000 Blueprinting $77,000 # of Blueprints 39,000 31,200 16,000 $1,261,000

1. (4 points) Assume each job Miami Valley Architects completes required a proposal. Furthermore, assume proposals can involve talent from any of the three offices and from central administration who can make proposals to clients located anywhere the firm does work. Using ABC and the data provided above as presented in this case, what amount will be charged to a job completed by Miami Valley Architects for the cost of developing and making a proposal?

2. (8 points) Activity based costing is one approach to the difficult problem of cost allocation. However, the results may still be arbitrary and too imprecise for some applications. Consider the case of a large, national architectural firm with offices located throughout the country. Assume this firm needs to establish a transfer price to charge different profit centers across the country for their use of a centralized Personnel Recruiting service located within a centralized Human Resources group. Using the example of Personnel Recruiting in this problem, discuss reasons why activity based costing as it is implemented in this model by Miami Valley Architects for Personnel Recruiting lacks the precision needed for the large, national architectural firm seeking to establish a transfer price.

3. (8 points) In the first analysis the net incomes attributed to the Columbus, Cincinnati, and Dayton offices were $127,000; $92,000; and, ($24,000), respectively. If profits for the offices are calculated using the ABC approach, the profits attributed to the Columbus, Cincinnati, and Dayton offices are $128,000; ($42,000); and, $109,000, respectively these computations were made to save you the need to spend time doing the arithmetic, they do not need to be verified and you should accept these numbers as correct. After the reviewing the revised data, Don Johnson, the head of Miami Valleys executive committee takes you out to lunch to discuss the committees new plan for closing the Cincinnati office and continuing to serve some remaining loyal Cincinnati clients from the Columbus office. Don begins the conversation by telling you how you saved the company from making a disastrous mistake. Don said that the executive committee knew something wasnt right and before your ABC project Dayton was targeted for closure within the next six months. Now, the numbers make it clear that the problem is with the Cincinnati office and this is the office that should be closed within the coming six months. Don is a person of action and he is ready to prune when and where pruning is needed. The new ABC numbers show that Cincinnati is reporting an operating loss of $42,000. Don believes that closing the Cincinnati office will avoid this loss and overall firm profit will increase by $42,000 or more. Explain why a more careful study of the impact of closing Cincinnati must be undertaken because it is unlikely that Dons expected increase in firm profit of $42,000 will actually occur if Cincinnati is closed.