This assignment is based on the Jamestown case which is at end of question (ABC Jamestown Case
We will focus on the three key customers that Jamestown is using as examples for its profitability analyses: Alanson, Boyne, and Conway. Exhibit 2 in the case provides estimates of profits from each of the three key customers. These estimates are not very credible to some managers at Jamestown. Use the information provided in Exhibits 4 and 5 and the accompanying text to create a new cost system that you can use to make more accurate estimates of customer profits. More specific guidance is provided below for creating an alternative cost system to estimate customer profits.
Guidance on designing a new cost system
The controversies in the company appear to be focused on the costs of warehousing and shipping activities, so this is the part of the system that you need to redesign. A worksheet for cost system design is included in the Assignments folder. The row for Special Handling has been completed already. You will need to complete the other rows, choosing allocation bases (= cost drivers) based on information provided in the case.
Here are some things to note:
a) Typically we use budgeted MOH costs and budgeted activity levels to create MOH allocation rates. The 2007 activity costs from Exhibit 4 of the case are the budgeted costs, and 2007 activity driver information are the budgeted quantity of the allocation bases.
b) When taking numbers from the Exhibits in the case, be sure to pay attention to whether the numbers are given in $$, thousands of $$, physical units, etc.
c) The total $$ volume of inventory stored at Jamestown is $16,630,890. The average dollar volume of inventory stored for a given customer can be estimated with this formula:
CGS for customer * (customers average number of days in inventory 365)
d) Dont try to create separate allocation rates for automotive and non-automotive customers. The case provides no reason to believe that the costs of holding a given amount of inventory or processing an order of a given size are different for these two customer types.
e) Assume that there is no difference in $$ size of order between orders that require special services and orders that do not. (Thus if 10% of a customers orders require special services, then this represents 10% of its $$ volume of sales.)
Excel requirements
Always use formulas and cell addresses when you can, rather than typing in numbers.
The output should be clearly labeled and easily readable. A reader should be able to understand quickly where all your numbers came from, by looking at your formulas and accompanying notes.
For the analysis of profitability of each of the 3 customers, show 3 sections: (i) background data taken directly the case (e.g., number of orders, average days in inventory), (ii) intermediate calculations required (e.g., average value of inventory on hand, estimated sales volume of special orders), and (iii) a revised customer profitability statement in the same format as Exhibit 2 in the case.
To hand in
1. Completed Cost system worksheet in the spreadsheet provided in the Assignments folder (first tab in spreadsheet).
2. A replacement for Exhibit 2, with new estimates of profit per customer (second tab in spreadsheet). This should also be in Excel. When you calculate profits for the three key customers, you can use the same numbers for Sales, Cost of Goods Sold and General & Administrative Expenses that appear in Exhibit 2 of the case.
3. Brief answers to the following questions
a) Why is it better to split the $9,820,000 of pulling and shipping costs into three pools, instead of having a single pulling and shipping pool with a single driver?
b) How do we know how much of the $9,820,000 of pulling and shipping costs should go in each pool? (This means: identify the passage in the case that tells us how to split up the costs into these three pools.)
c) In your new version of Exhibit 2, one customer will be much less profitable than it appeared to be in the original Exhibit 2, because the cost of serving this customer is high. According to your new cost system, what are three ways that this customer generates such high costs for Jamestown?
d) The time you have spent creating a new cost system is not worthwhile unless it enables Jamestown to make better management decisions that will improve its profits. Suggest and explain two ways that Jamestown could improve its profits, which it could not do so easily without the information provided by your new cost system.
Jamestown Electric Supply Company: Assessing Customer Profitability 265 There is no shortage of opinions about the potential reasons for falling profits. Mar keting managers still believe that more sales will solve the problem. Warehousing and shipping (W&S) management thinks that customer services are out of control and causing significant cost increases for the company. Both W&S and production management do not d the current customer profitability system helpful in determining the cause of the large increase in costs to service customer demands. While the bonuses of most managers are decreasing, marketing managers are actually getting larger bonuses because of the rising commission and bonus pools resulting from the rising sales. These discrepancies caused increased tensions among the various Jamestown managers and made the January 3, 2008 Board of Directors meeting quite contentious In addition, mounting shareholder frustration over declining profitability raised signif icant pressure on the Board of Directors to take appropriate action. As a result, the customer profitability system was an important issue on the agenda at the 2008 Board of Directors meeting The Search for Better Profitability Measures: An Alternate Customer Profitability Systemm The Annual Board Meeting At the annual Board of Directors meeting on January 3, 2008, the CEO, board members, and other top management decided that the customer profitability system implemented in 2007 had done little to help identify profitable versus unprofitable customers. The customer profitability analysis indicated that high-volume customers provide the most profit for Jamestown, while low-volume customers provide the least profit. In hopes of finding ways to obtain more useful information about the relationship of customer mix to profits, the company held a series of management meetings. At one such recent meeting, key company executives discussed issues possibly contributing to the de cline in profits. One board member asked John Myers, the head of manufacturing, about the rising cost of direct labor for Jamestown's electrical component products. John re sponded that his peers at other manufacturing companies claim that their labor costs are decreasing. John then firmly stated, "Perhaps labor costs would go down at Jamestown, too, if it were not for the ever-increasing demand by marketing for rush orders that have unrealistic promised delivery times, based on Jamestown's normal production planning and scheduling system. Janice Brody, director of corporate marketing, quickly defended the importance of her marketing department and its programs by saying, "I would like to point out that rapid response to customer demand is a corporate goal, and it is essential to attract new clients and to retain current clients!" She also noted that the need for rapid response is particularly strong in the automobile segment of the firm's business. John wasted no time in responding to Janice's point, bluntly stating, "That may be true, but these rush orders are costing us a lot of money." Frank Albert (the Chairman of the Board) questioned Fred Hanson, head of warehous- ing and shipping (W&S) operations, regarding the growing costs within his business proc ess: Warehousing costs are going up faster than sales revenue. Surely you can lay off some people or cut some other costs, can't you?" Fred, upset that his W&S operations were mentioned as a source of the waning profits, quickly defended his department: "My operation bends over backward to meet all of the demands put on us! Everyone always wants us to do more for customers, but no one ever thinks it will cost us more to accomplish it." As a result, Fred explained, the company now has what are, in effect, mini-warehouses Issues in Accounting Education, May 2008 Jamestown Electric Supply Company: Assessing Customer Profitability 265 There is no shortage of opinions about the potential reasons for falling profits. Mar keting managers still believe that more sales will solve the problem. Warehousing and shipping (W&S) management thinks that customer services are out of control and causing significant cost increases for the company. Both W&S and production management do not d the current customer profitability system helpful in determining the cause of the large increase in costs to service customer demands. While the bonuses of most managers are decreasing, marketing managers are actually getting larger bonuses because of the rising commission and bonus pools resulting from the rising sales. These discrepancies caused increased tensions among the various Jamestown managers and made the January 3, 2008 Board of Directors meeting quite contentious In addition, mounting shareholder frustration over declining profitability raised signif icant pressure on the Board of Directors to take appropriate action. As a result, the customer profitability system was an important issue on the agenda at the 2008 Board of Directors meeting The Search for Better Profitability Measures: An Alternate Customer Profitability Systemm The Annual Board Meeting At the annual Board of Directors meeting on January 3, 2008, the CEO, board members, and other top management decided that the customer profitability system implemented in 2007 had done little to help identify profitable versus unprofitable customers. The customer profitability analysis indicated that high-volume customers provide the most profit for Jamestown, while low-volume customers provide the least profit. In hopes of finding ways to obtain more useful information about the relationship of customer mix to profits, the company held a series of management meetings. At one such recent meeting, key company executives discussed issues possibly contributing to the de cline in profits. One board member asked John Myers, the head of manufacturing, about the rising cost of direct labor for Jamestown's electrical component products. John re sponded that his peers at other manufacturing companies claim that their labor costs are decreasing. John then firmly stated, "Perhaps labor costs would go down at Jamestown, too, if it were not for the ever-increasing demand by marketing for rush orders that have unrealistic promised delivery times, based on Jamestown's normal production planning and scheduling system. Janice Brody, director of corporate marketing, quickly defended the importance of her marketing department and its programs by saying, "I would like to point out that rapid response to customer demand is a corporate goal, and it is essential to attract new clients and to retain current clients!" She also noted that the need for rapid response is particularly strong in the automobile segment of the firm's business. John wasted no time in responding to Janice's point, bluntly stating, "That may be true, but these rush orders are costing us a lot of money." Frank Albert (the Chairman of the Board) questioned Fred Hanson, head of warehous- ing and shipping (W&S) operations, regarding the growing costs within his business proc ess: Warehousing costs are going up faster than sales revenue. Surely you can lay off some people or cut some other costs, can't you?" Fred, upset that his W&S operations were mentioned as a source of the waning profits, quickly defended his department: "My operation bends over backward to meet all of the demands put on us! Everyone always wants us to do more for customers, but no one ever thinks it will cost us more to accomplish it." As a result, Fred explained, the company now has what are, in effect, mini-warehouses Issues in Accounting Education, May 2008
