1. Group 7 GU Yujie 15408426 Maggie PENG Xueman 15408353 Shirley
JIA Xuanyue Jacey
SONG Bichun Song
DUAN Huiying Alice
ZHANG Haishu Caroline

2. 14-16 Cost allocation in hospitals, alternative allocation criteria
Cost allocation in hospitals, alternative allocation criteria. Dave Meltzer vacationed at Lake Tahoe last winter. Unfortunately, he broke his ankle while skiing and spent two days at the Sierra University Hospital. Meltzer’s insurance company received a $4,800 bill for his two-day stay. One item that caught Meltzer’s attention was an $11.52 charge for a roll of cotton. Meltzer is a salesman for Johnson & Johnson and knows that the cost to the hospital of the roll of cotton is between $2.20 and $3.00. He asked for a breakdown of the $11.52 charge. The accounting office of the hospital sent him the following information:
a. Invoiced cost of cotton roll $ 2.40
b. Cost of processing of paperwork for purchase 0.60
c. Supplies-room management fee 0.70
d. Operating-room and patient-room handling costs 1.60
e. Administrative hospital costs 1.10
f. University teaching-related costs 0.60
g. Malpractice insurance costs 1.20
h. Cost of treating uninsured patients 2.72
i. Profit component 0.60
Total $11.52

3. Meltzer believes the overhead charge is outrageous
Meltzer believes the overhead charge is outrageous . He comments, “There was nothing I could do about it. When they come in and dab your stitches, it’s not as if you can say, ‘Keep your cotton roll. I brought my own.’”
1. Compute the overhead rate Sierra University Hospital charged on the cotton roll.
2. What criteria might Sierra use to justify allocation of the overhead items b–i in the preceding list? Examine each item separately and use the allocation criteria listed in Exhibit 14-8 in your answer.
3. What should Meltzer do about the $11.52 charge for the cotton roll?

4. Indirect costs ($11.52 – $2.40) = $9.12
1. Compute the overhead rate Sierra University Hospital charged on the cotton roll.
1. Direct costs = $2.40
Indirect costs ($11.52 – $2.40) = $9.12
Overhead rate = $9.12/ $ = 380%

5. 2. What criteria might Sierra use to justify allocation of the overhead items b–i in the preceding list? Examine each item separately and use the allocation criteria listed in Exhibit in your answer.

6. Cause and Effect
variables are identified that cause resources to be consumed
Most credible to operating managers
Integral part of ABC
Benefits Received
the beneficiaries of the outputs of the cost object are charged with costs in proportion to the benefits received
Fairness (Equity)
the basis for establishing a price satisfactory to the government and its suppliers
Cost allocation here is viewed as a “reasonable” or “fair” means of establishing selling price
Ability to Bear
costs are allocated in proportion to the cost object’s ability to bear them
Generally, larger or more profitable objects receive proportionally more of the allocated costs

7. Overhead Cost Item
Allocation Criteria
B.Processing of paperwork for purchase
C.Supply-room management fee
D.Operating-room and patient- room handling costs
E.Administrative hospital costs
F.University teaching-related costs
G.Malpractice insurance costs
H.Cost of treating uninsured patients
I.Profit component
B.Cause and effect
C.Benefits received
D.Cause and effect
E.Benefits received
F.Ability to bear
G.Ability to bear or benefits received
H.Ability to bear
I None. This is not a cost.

8. 3.What should Meltzer do about the $11.52 charge for the cotton roll?
3. Assuming that Meltzer’s insurance company is responsible for paying the $4,800 bill, Meltzer probably can only express outrage at the amount of the bill. The point of this question is to note that even if Meltzer objects strongly to one or more overhead items, it is his insurance company that likely has the greater incentive to challenge the bill. Individual patients have very little power in the medical arena. In contrast, insurance companies have considerable power and may decide that certain costs are not reimbursable—for example, the costs of treating uninsured patients.

9. Wholesale Customers Retail Customers
14-17 customer profitability, customer-cost hierarchy
Enviro-Tech has only two retail and two wholesale customers.
Customer for 2013 (in thousands)
Wholesale Customers
Retail Customers
North American Wholesaler
South American Wholesaler
Green Energy
Global Power
Revenue at list prices
$375,000
$590,000
$175,000
$130,000
Discounts from list prices
25,800
47,200
8,400
590
Cost of goods sold
258,000
510,000
144,000
95,000
Delivery costs
4,550
6,710
2,230
2,145
Order processing costs
3,820
5,980
2,180
1,130
Cost of sales visit
6,300
2,620
1,575

10. Q1:customer-level operating income .
Annual distribution-channel costs:$33million (wholesale customers)
:$12million (retail customers)
Annual corporate-sustaining costs:$48million（salary&admin. cost）
No cause-and-effect or benefits-received relationship between cost- allocation base. (Enviro-Tech could save corporate-sustaining costs only if the company completely shut down.)
Q1:customer-level operating income .
(Format in exhibit 14-3)

11. Customer Profitability Analysis ：
Analyzes activities,
Identifies proper cost drivers,
Determines realized profits from customers.
Focuses on:
Selling,
General,
Administrative costs.
Allows managers to:
Strategic customer acquisition
Continuous improvement
Setting prices based on the cost to serve
Value added service management

12. Customer output unit-level costs—costs of activities to sell each unit (computer) to a customer. An example is product-handling costs of each computer sold.
Customer batch-level costs—costs of activities related to a group of units (computers) sold to a customer. Examples are costs incurred to process orders or to make deliveries.
Customer-sustaining costs—costs of activities to support individual customers, regardless of the number of units or batches of product delivered to the customer. Examples are costs of visits to customers or costs of displays at customer sites.
Distribution-channel costs—costs of activities related to a particular distribution channel rather than to each unit of product, each batch of product, or specific customers. An example is the salary of the manager of the Provalue Division’s wholesale distribution channel.
Division-sustaining costs—costs of division activities that cannot be traced to individual customers or distribution channels. The salary of the Provalue Division manager is an example of a division-sustaining cost.

14. All amounts in thousands of U.S. dollars
Wholesale
Retail
North America
Wholesaler
South America
Green
Energy
Global
Power
Revenues at list prices
$375,000
$590,000
$175,000
$130,000
Price discounts
25,800
47,200
8,400
590
Revenues (at actual prices)
349,200
542,800
166,600
129,410
Cost of goods sold
285,000
510,000
144,000
95,000
Gross margin
64,200
32,800
22,600
34,410
Customer-level operating costs
Delivery
4,550
6,710
2,230
2,145
Order processing
3,820
5,980
2,180
1,130
Sales visit
6,300
2,620
1,575
Total customer-level oper. costs
14,670
15,310
7,030
4,850
Customer-level operating. income
$ 49,530
$ 17,490
$ 15,570
$ 29,560

15. Additional Information
17-2. Prepare a customer-cost hierarchy report, using the format in Exhibit 14-6.
Additional Information
Distribution-channel costs are not customer-level costs, because changes in customers behavior will have no effect on these costs
Corporate-sustaining costs has no direct cause -and-effect relationship with profitability of different customers.

17. ① Revenues(at actual prices)=Revenues at list prices - Price discounts
Customer Distribution Channels
All amounts in thousands of U.S. dollars
Wholesale Customers
Retail Customers
Total
(all customers)
Total Wholesaler
North-
America
Wholesaler
South-
America Wholesaler
Total Retail
Green Energy
Global Power
(1) = (2) + (5)
(2) = (3) + (4)
(3)
(4)
(5) = (6) + (7)
(6)
(7)
Revenues
(at actual prices)①
$ 1,188,010
$ 892,000
$ 349,200
$ 542,800
$ 296,010
$ 166,600
$ 15,570
Customer-level
costs②
1,050,860
824,980
299,670
525,310
243,880
151,030
99,850
Customer-level operating income
112,150
67,020
$ ,530
$ 17,490
45,130
$ 15,570
$ 29,560
Distribution-channel costs
45,000
33,000
12,000
Distribution-
channel-level
oper. income
67,150
$ ,020
$ 33,130
Corporate-sustaining costs
48,000
Operating income
$ ,150
① Revenues(at actual prices)=Revenues at list prices - Price discounts
② Customer-level costs=Cost of goods sold + Total customer-level oper. costs

18. 3. Enviro-Tech’s management decides to allocate all corporate-sustaining costs to distribution channels:
$38 million to the wholesale channel and $10 million to the retail channel. As a result, distribution channel costs are now $71million($33 million + $38 million) for the wholesale channel and $22 million($12 million + $10 million) for the retail channel. Calculate the distribution channel–level operating income.
On the basis of these calculations, what actions, if any, should Enviro-Tech’smanagers take? Explain.

19. Corporate-sustaining costs Distribution-channel costs
New allocation
48 million
Corporate-sustaining costs
38 million
Wholesale
10 million
Retail
Distribution-channel costs

20. All amounts in thousands of U.S. dollars
Calculation---From Q1 1.
All amounts in thousands of U.S. dollars
Wholesale
Retail
North America
South America
Green
Global
Wholesaler
Energy
Power
Revenues at list prices
$375,000
$590,000
$175,000
$130,000
Price discounts
25,800
47,200
8,400
590
Revenues (at actual prices)
349,200
542,800
166,600
129,410
Cost of goods sold
285,000
510,000
144,000
95,000
Gross margin
64,200
32,800
22,600
34,410
Customer-level operating costs
Delivery
4,550
6,710
2,230
2,145
Order processing
3,820
5,980
2,180
1,130
Sales visit
6,300
2,620
1,575
Total customer-level oper. costs
14,670
15,310
7,030
4,850
Customer-level operating. income
$ 49,530
$ 17,490
$ 15,570
$ 29,560

21. 2.Customer Distribution Channels(all amounts in $000s) ---Old
Calculation---From Q2
2.Customer Distribution Channels(all amounts in $000s) ---Old
(all customers)
Wholesale
Retail
Revenues (at actual prices)
$1,188,010
$892,000
$296,010
Customer-level costs
1,050,860
824,980
243,880
Customer-level operating income
112,150
67,020
45,130
Distribution-channel costs
45,000
33,000
12,000
Distribution-channel-level oper. income
67,150
$34,020
$33,130
Corporate-sustaining costs
48,000
Operating income
$19,150
71,000
22,000
0.00

22. Calculation---new allocation
3.Customer Distribution Channels(all amounts in $000s) ---NEW
(all customers)
Wholesale
Retail
Revenues (at actual prices)
$1,188,010
$892,000
$296,010
Customer-level costs
1,050,860
824,980
243,880
Customer-level operating income
112,150
67,020
45,130
Distribution-channel costs
93,000
71,000
22,000
Distribution-channel-level oper. income
27,110
23,130
3,980
Corporate-sustaining costs
Operating income
$19,150

23. What implication?
There is, however, no cause-and-effect or benefits-received relationship between corporate costs and any allocation base
i.e., the allocation of $38,000,000 to the wholesale channel and $10,000,000 to the retail channel is arbitrary and not useful for decision making.

24. What should the management do?
The management of Enviro-Tech should not base any performance evaluations or investment/disinvestment decisions based on these channel-level operating income numbers.
They may want to take corporate costs into account, however, when making long-run pricing decisions.

25. 4.How might Enviro-Tech use the new cost information from its activity-based costing system to better manage its business?
Evaluating the customer-level costs
Determining which activities are valuable to the customer that they are willing to pay for.
Use activity-based cost information to better manage its business
KEY DECISION!!

26. 4.How might Enviro-Tech use the new cost information from its activity-based costing system to better manage its business?
Eg: costs of sales visits for the North America Wholesaler are $6,300, which is more than double the cost for the South America Wholesaler.
The company should evaluate the efficiency and effectiveness of this activity for this customer group. Also use its ABC measurement to the distribution channel costs to determine if any cause-and- effect relationships exist between these costs and the customer types.

27. Thank you ！