California Creamery, Inc. (Activity-Based Costing)
1. What is the cost of the two products under traditional costing?
Under traditional accounting the costs for each flavor were intuitively wrong. The cost to produce a gallon of Polynesian was $5.60, only 20 cents more than Vanilla comparatively. One would assume that an exotic flavor would have a significantly higher cost proportionally.
2. What is the cost of the two products under activity-based costing?
There was much more distinction between the costs under this style of accounting. This is presumably because this strategy will account for the higher costs of producing the exotic flavor and the high volume of gallons in production of Vanilla. The final per gallon cost of Polynesian was $9.07, which is understandably and intuitively higher than the $4.64 it costs to produce a gallon of Vanilla.
3. Explain why ABC is a good/poor choice for costing products in this firm.
Given the disparate difference in production costs it is clear that the previous pricing strategy left a lot of profit on the table. It completely disregards overhead and production costs that reach beyond direct labor. With ABC accounting, the firm has a clearer picture of how its resources are being allocated to each flavor, which will provide much needed information on how to price each flavor. This way the firm can make more accurate decisions about what profit margins it hopes to achieve.
4. Assume that CCI sold all products at the same retail price, $6/unit. What implications does ABC have for management behavior (sales mix, marketing effort, etc.)?
At $6/unit, the firm would have no incentive to carry the exotic flavors. In the case of Polynesian, it would not only be unprofitable, but also would result in a net loss of $3.07 per gallon. Management may choose to exclusively offer the more traditional flavors and reap lower margins in higher volumes. This could have...
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