Cost Management
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OPERATIONS
Unicycles
Bicycles
Total sales
$150M
$150M
Occupies
75,000 sq. ft.
25,000 sq. ft.
Advertising
$2.5M
$2.5M
Total expenses
$1.5M
$1.5M
Based on the traditional method, advertising and total expenses are divided equally between the two businesses. With 75% of the warehouse space, the unicycle business makes 88% of the total sales for the company. With 25% of the warehouse space, the bicycle business makes 12% of the total sales for the company.
In order to make such a strategic decision the costs have to be accurate and activity-based. One system that aids in this decision is the Activity-based costing system (ABC) (Horngren, Sundem, & Stratton, 2005). This system first accumulates all direct costs into the highly performed activities. Then it allocates those activity-costs groups to believable and dependable cost drivers. Based on financial data this system helps the company make a more strategic decision. I strongly recommend this company invest in this system. There are always benefits and drawbacks of any ÐŽ§systemÐŽÐ. Some of the benefits of the activity-based costing system (Horngren, Sundem, & Stratton, 2005):
Accuracy of margins.
Greater resource diversity.
Detecting activities that are not cost efficient activities.
I believe that the unicycle business should pay total expenses of $2.5M and receive in advertising $4.4M. The remaining balance of total expenses should go to the bicycle business ($75,000) and for advertising $588,000. In determining the amount of money allocated to the bicycle business, the company has to decide what actions they want to take. I could increase sales in the bicycle business by allocating more money for advertising to boost sales since they do cost more to make.
One major problem that a company can run into when allocating too much money to a business, is excess funds. One of these businesses could be suffering from the 50/50 spilt of expenses. This is all the same with a company allocating too little money to a business.