Questions are in the file attached below. All the questions are related to each other.

Aardvark Delivery Service (ADS)1 was formed 30 years ago with a mandate to establish a private delivery system in the country of Aardvark. By 20X5, ADS was handling close to 30 million pieces of mail and 29 million kilograms of parcels per year. Arthur Chapman has spent several years working with small-scale private delivery companies in many countries. Recently, Arthur was hired by ADS to assist in improving its operating and financial performance. The owners of ADS were dissatisfied with the recent trend in financial results (Exhibits 1 to 3). Farid Banai, president of ADS, has called a meeting with Arthur and Truc Nguyen, operations manager, to review the 20X5 results. PRESIDENT (Farid Banai): From where I sit, the situation doesn't look very good. Our volume is fairly constant; however, the deficit keeps getting larger. We planned to break even in 20X5 but failed to accomplish our goal. The basic mission of ADS is to provide effective and efficient delivery services to the entire population and to network with other delivery services around the world. The vast distances, rugged terrain, natural obstacles and severe winter weather all contribute to making our job a great challenge. We calculate, for example, that in the month of March it costs us $2.75 to send a letter from a small town in our most easterly region to one of the northern outposts, but our revenue on that letter is still just $0.48. ARTHUR: Tell me about the profitability of each type of delivery service ADS offers. PRESIDENT: Letter delivery has not been profitable even after the installation of more highly automated equipment. We had planned on express parcels generating the most profit for us; however, the 20X5 results were disappointing. Some of the issues are that other private carriers are encroaching on the parcel end of our business and the number of kilograms in sales for express-delivery parcels were less than budget. ARTHUR: Are there any issues with cost? OPERATIONS MANAGER (Truc Nguyen): Costs keep rising. The basic costs at ADS are sorting, delivery, administration and promotion. Here's a copy of the budget for 20X5 (Exhibit 1). All of the costs have been classified as fixed except for sorting labour, which is strictly variable. You'll notice that we split the sorting costs into labour and overhead and separately keep track of both classes of parcels, express delivery and regular delivery. Both the standard and actual sorting labour rates were raised to $20.00 per hour in 20X5. We don't plan on increases for 20X6 as our rates are on par with both private and government-funded delivery services. I sense that we may not be accurately allocating sorting costs to each of our delivery services. When we implemented the automated sorting equipment for processing letters two years ago, our margins changed very little. I assumed that variable sorting labour costs would decrease for letters. Administration costs are categorized as 20% maintenance costs and 40% janitorial costs, with the remainder classified as office administration, which includes office supplies, phone charges and consulting fees. The maintenance and janitorial costs have remained stable over the past couple of years; however, the office administration costs seem to fluctuate somewhat, depending on volume. We split the administration costs as roughly 50% of the total to letters and prorate the remainder to the parcel services based on total weight for each department. It's a fairly large portion of our costs that we arbitrarily allocate to each service. The allocation of delivery costs to each of our services has been affirmed by our controller, who has worked with me and an outside consultant to set effective rates and cost measures. We've already confirmed that the 20X5 variance in delivery costs is due to the increase in fuel prices across the country. We intend to maintain advertising costs for 20X6 and are confident that it will boost sales volume. We predict that letter sales will increase to 42 million pieces, while express-delivery parcel sales will increase to 2.5 million kilograms and regulardelivery parcel sales will increase to 28 million kilograms. ADS's overall mandate is for operations to at least break even. ARTHUR: Has anyone performed an analysis of the sorting and administrative costs to determine whether these costs have been properly allocated to the services that incur them? OPERATIONS MANAGER: We haven't had the time to properly assess cost allocation. We contracted a consultant last year to review the costing of our services. She advised that we allocate costs using an activity-based approach; however, the contract ended 3 / 12 before we were able to implement the plan. I've included an illustration of the sorting process (Exhibit 4) and a copy of the suggested sorting activities and cost pools (Exhibit 5). She also did an analysis of the administration costs, first, to determine a better way to allocate service department costs (Exhibit 6) and, second, to understand the behaviour of the office administration costs (Exhibit 7). ARTHUR: And what about revenues? OPERATIONS MANAGER: Well, the rates throughout 20X5 were $0.48 for the average letter, $2.10 per kilogram on express-delivery parcels and $1.05 per kilogram for regular-delivery parcels. So far, we've only been able to justify increasing the letter rate to $0.49 in 20X6. PRESIDENT: Things didn't go too well for ADS in 20X5 (see Exhibit 2) and unless some changes are made, I don't see much future improvement. The profits for the standard letter service appear to be pretty bleak, but our owners refused our request to drop the letter delivery business. ARTHUR: So the future is in parcels? PRESIDENT: When I saw the 20X5 results, that seemed to be the way we were heading. However, I'm skeptical of this approach until we have a better handle on costing. That's what I'm hoping you'll do for us. As I see it, there are two tasks I would like you to accomplish: 1. Provide a better allocation of sorting and administrative costs between departments. 2. Take a closer look at the express-delivery parcel opportunities. Many of our customers who use our letter and regular-delivery service also use the expressdelivery parcel service. I believe there's a future in this line of business, but for now we need to increase our bottom line. In support of that, I would like you to investigate the following two options relating to express-delivery parcels: Increase the rate to $2.75 per kilogram. According to marketing, we might lose 2% of our business if we do this. However, due to increases in fuel costs and demand, many of our competitors are increasing prices as well, so we don't expect this decrease in demand to continue. Increase our advertising campaign for express-delivery parcels by $500,000. We expect this will increase our sales by 15%. Well, I guess that's all for today. We have lots of things to attend to. I hope that you will be able to give us some advice on what we should be doing. ARTHUR: Thank you for your guidance and assistance. I'll begin my analysis immediately and report back as soon as possible. 4 / 12 Required: For the first requirement, assume the role of a junior management accountant internal to ADS. For the balance, assume the role of Arthur Chapman and prepare a report to Farid Banai, President of ADS. The report should analyze ADS's current cost allocations and provide advice for the future. It should include the following: 1. Overview: Provide a high-level analysis of the 20X5 operating variances (Exhibit 3). The variances in Exhibit 3 are based on the budgeted and actual figures in Exhibits 1 and 2. (8 marks) 2. Analysis: Using the documents provided by the consultant, prepare an analysis of each of the following 20X5 costs: a) Sorting labour and overhead: Reallocate the total sorting labour and sorting overhead costs to each of the departments using the activity-based costing analysis in Exhibit 5. (10 marks) b) Administration costs: i. Service department portion of administration costs: Prepare a comparison of cost allocations of the janitorial and maintenance departments to the production departments using the direct and step methods. Use the allocation bases provided in Exhibit 6 and begin with the janitorial costs using the step method. Your analysis should discuss which method provides the most reasonable estimate of service department costs to production departments and explain why it is the best method. (8 marks) ii. Office administration costs: Review the summary printout of two Excel regression analyses (Exhibit 7): one that tests the correlation between administration employee hours and office administration costs and one that tests the correlation between documents used and office administration costs. Explain which activity driver is the best representation of cost behaviour and reallocate the office administration costs to the production departments using the 20X5 activities provided in the exhibit. As a result, the office administration costs should be split into variable and fixed portions. Fixed costs should be allocated among the services using the original allocation base. (10 marks) 3. Prepare a revised operating statement for 20X5 using the costing analyses from requirement 2. Provide a short analysis of the results including possible explanations. (10 marks) 4. Prepare a 20X6 budgeted operating statement using the cost allocations developed in requirement 2 and the expected costs provided in the case. Assume the following: a) The average size of parcels will continue to be 0.5 kg. b) Activity-based unit costs will remain the same for 20X6. c) The number of bundles for activity-based costing will remain the same. 5 / 12 d) For expedited parcels, the hours used varies by the number of parcels. e) Service department allocations and fixed costs will be unchanged. (10 marks) 5. Analyze the president's two options concerning the express-delivery parcel business. Your analysis should use the 20X6 budgeted figures and the additional information provided in Exhibit 8. Based on the quantitative analysis, make a recommendation and provide your reasons. Your recommendation should include at least two changes that the organization could make regarding the express-delivery parcel business. (9 marks) 6. Provide management with at least two observations you have made during your research that can be considered for future analysis. (2 marks) Note: In addition to the above, award 3 marks for format and professionalism. Exhibit 1 Aardva rk Delivery Services20X5 budget(in'000s) Express posts parcels Regular post parcels Total $0.48 $19,200 2,560 $2.10 $5,376 23,094 $1.05 $24,249 $48,825 2,051 6,310 7,140 3,426 964 19,891 $ (691) 788 1,578 840 342 368 3,915 $1,461 Letters Volume (pieces) Volume (kilograms) Rates Total revenue Expenses: Sorting labour Sorting overhead Delivery Administration1 Promotion2 Total expenses Surplus (deficit) 6 / 12 40,000 $ 6,158 7,888 7,522 3,084 368 25,019 (771) 8,997 15,775 15,502 6,851 1,699 48,825 $ (0) Exhibit 2 Aardvark Delivery Services 20X5 actual results (in '000s) Express delivery parcels Regular delivery parcels Total $0.48 $18,144 2,310 $2.10 $4,851 26,880 $1.05 $28,224 $51,219 2,100 6,773 7,508 3,276 1,155 20,811 $ (2,667) 797 1,693 998 259 578 4,324 $ 527 Letters Volume (pieces) Volume (kilograms) Total revenue Expenses: Sorting labour Sorting overhead Delivery Administration1 Promotion2 Total expenses Surplus (deficit) 37,800 $ 7,168 8,466 9,240 3,017 998 28,888 (664) 10,065 16,931 17,745 6,552 2,731 54,024 $ (2,805) 1 Administration costs are allocated equally to letters and parcels. The amounts assigned to the two categories of parcels are based on the number of kilograms of each category handled. 2 Promotion product. 7 / 12 costs are allocated based on advertising campaigns specific to each Exhibit 3 Summary of 20X5 operating variances (in '000s) Overall using exhibits Express Regular delivery delivery Letters Sales Spending: Sorting labour Sorting overhead Delivery Administration Promotion $(1,056) $ $ $ $ $ (49) (462) (368) 150 (191) $ Total $(525) $ 3,975 $ 2,394 (9) $(116) $(158) $ 83 $(210) $(1,010) $ (578) $(1,718) $ 67 $ (630) $(1,067) $(1,156) $(2,243) $ 299 $(1,031) Total variance $(1,976) $(934) $ 107 $(2,804) Exhibit 4 The Aardvark delivery system consists of three main activities: collection sorting delivery Aardvark Delivery Services Parcel-sorting process Mail collection and delivery Operations management of Aardvark has developed a sophisticated grid that networks the collection and delivery process. The organization contracted a consultant two years ago to research the most economical and efficient ways to collect mail. Mail is collected at various periods throughout the day to ensure that idle time in the sorting process is minimal. Mail is also delivered throughout the day to ensure that delivery vehicles can make more than one delivery in a day, thus capitalizing on existing delivery resources. 8 / 12 Pre-sort After being collected, all mail enters the pre-sort process, where it is separated into letters and parcels. Sort letters Letters are sorted using automated sorting equipment. The capacity of the equipment is 10,000 letters per hour. Letters are sorted by delivery route. A delivery route can consist of a street, a subdivision or a building. Separate regular-delivery and express-delivery parcels After the pre-sort, all parcels are sorted into regular-delivery and express-delivery groups. Because of the distance from the pre-sort area to the parcel-sorting area, this step takes longer if there are heavier parcels, as they are moved manually. Sort regular-delivery parcels Regular-delivery parcels are manually sorted and combined with letters to be delivered by the appropriate carrier. Sort express-delivery parcels Express-delivery parcels are sorted using a grid that is based on the availability of more-costly but quicker delivery methods such as air and commercial carriers. Distribute to mail carriers Letters and regular-delivery parcels are sorted by route and put into bundles. There is one bundle per delivery route, regardless of the number of items. These bundles are distributed to mail carriers, who sort the mail for their routes into the most effective order for delivering the mail. Expedite express-delivery parcels A team of four experts works around the clock to determine the most efficient way to send express-delivery parcels to ensure 24- to 48-hour delivery. The expediting process is labour intensive, and different hours are required for each mode of transportation. 9 / 12 Exhibit 5 Activity-based cost analysis of 20X5 sorting costs (in '000s) Activity Pre-sort Sort letters Separate regular and express parcels * Sort regular parcels * Sort express parcels Expedite parcels Distribute to mail carriers TOTAL SORTING COSTS * (Average weight of parcels is 0.5 kg.) Cost driver piece piece kilogram piece piece hours bundle Cost pool $4,844 1,362 6,467 5,113 3,722 2,538 2,950 $26,996 Total activity 96,180 37,800 29,190 53,760 4,620 126 5,000 Activity-based costing 20X5 units of activity (in '000s) Expenses Pre-sort Sort letters Separate regular and express parcels Sort regular parcels Sort express parcels Expedite parcels Distribute to mail carriers Letters 37,800 37,800 Express parcel 4,620 Regular parcel 53,760 2,310 26,880 53,760 4,620 126 3,000 2,000 Total 96,180 37,800 29,190 53,760 4,620 126 5,000 Exhibit 6 Allocation of service department costs 20X5 Service department costs Maintenance machine hours Janitorial square metres 10 / 12 Maintenance Janitorial $1,310,400 $2,620,800 50 500 Express- Regulardelivery delivery parcels Letters parcels Total 2,800 225 400 3,475 1,200 1,650 1,750 5,100 Exhibit 7 Actual (20X5) and budgeted (20X6) activity Letters 20X5 employee hours (actual) 20X6 employee hours (budgeted) 20X5 documents (actual) 20X6 documents (budgeted) 44,704 47,232 30,000 32,000 Expressdelivery parcels 36,076 38,116 15,800 16,500 Regulardelivery parcels 64,220 67,852 19,200 19,300 Total 145,000 153,200 65,000 67,800 The following summary outputs are the result of two regression analyses: one that tests the correlation between administration employee hours and office administration costs and one that tests the correlation between documents processed and office administration costs. The data consist of monthly observations from the 20X5 historical figures. Note that employees are responsible for assigning their hours worked to each of the three operating departments. 11 / 12 Exhibit 8 Data for analysis of express-delivery options Costs and activities specific to express-delivery parcels Sorting labour costs ('000s) Number of administrative documents processed Option 1: Increase price 7,429 Option 2: Increase advertising 8,718 16,170 18,975 Summary of marks Preliminary analysis of budget versus actual Analysis of cost allocations Revised 20X5 statement Projected 20X6 statement Service analysis Management observations Report format and professional capabilities Total marks 12 / 12 8 28 10 10 9 2 3 70