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Classic Pen

In: Business and Management

Submitted By bosox17
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1. ABC revised product costs for 4 pens:
Indirect labor (3 activities) ($20,000)
a. .50 scheduling/ handling production runs=
b. .40 physical changeover=
c. .10 maintain records on 4 products
Operate. Computer systems: ($10,000)
a. .80 included in production run activity
b. .20 keep records on 4 products
Machines ($14000)
a. Machine depreciation
b. Machine maintenance
c. Energy to operate machines
Direct labor= 20,000+8000 (fringe benefits) = 28000
Indirect labor= 20,000+8000 (fringe) =28000
See Excel file for product costs calculations and new profit margins

Comparing two profit margins Traditional vs. ABC Blue Black Red Purple Total
Traditional 13.6% 13.3% 14.8% 18.2% 13.5%
Profit Margin
ABC 21.6% 22.67% -44% -200% 14%

2. Looking at the new product costs per unit (using ABC) the cost per unit for each product is much different then found under traditional. The cost per unit found under the ABC method was different than what the unit price for each product was being sold for. For blue and black pens the company was making a profit on each pen there were selling (comparing $1.18 product cost for blue and $1.16 for black which were each being sold for 1.50). Red pens cost $2.23 each to make and were being sold for 1.55 each which resulted in a loss. Purple pens were losing the company even more money with costing 4.95 to produce but were only being sold for 1.65 per pen. Under further calculations using the ABC method it was found that blue was the most profitable followed by Black, but that Red and purple were causing the company to lose money, Red was losing the most in dollars with around $6000 while purple was losing a little over $3300. The profit margin was also different than what the traditional product costing found. ABC revealed that Blue and Black pens were actually more profitable than what the company originally thought, but Red pens had a 44% loss in profit margins and purple had a huge 200% loss. Overall, there ended up being a 14% total profit margin which was .5% higher than what traditional costing found.

Based on the ABC product cost it is evident that overhead costs is the main reason that some of the pen colors are not being profitable for the company. That being said, the pen company could try and cut down on some of the overhead costs; more specifically the time it takes to set up the pens. This might not be possible though so other actions might need to be taken to make the company have a higher profit margin. The cost to make one unit of red and purple pens is also a lot more than what the pens are being sold for. In order to be more profitable the company may want to sell purple and red pens for more than what they are selling them for now or sell more in volume of the red and purple pens to compensate for the large amounts of overhead expenses that both of these colors require. Another possibility is to increase the number of production runs of the red and purple runs.

Another possibility is to focus not on the products losing money, but on the products that are profitable. The Classic Pen Company could try and increase the demand of their profitable products, the blue and black pens. This would increase revenues which if they were big enough may be able to offset some of the losses from the purple and red pens. Finally, another option maybe to get rid of the specialty colors, and just go back to producing blue and black pens where they had a 20% profit margin. Based on the ABC product costing, I would say that it may not be in the best interest of the classic pen company to introduce more specialty colors even if they can sell them at a premium, because they maybe just as unprofitable as the red and purple pens are if they have long set up times and not many production runs.

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