Part I: Activity-Based Costing

1. Calculate the unit manufacturing costs for simple desk and corner
workstation under ABC system.

Under ABC system, the unit manufacturing cost of simple desk is $257.50,

which is lower than the cost $315 under simple costing system. On the contrary,
the unit manufacturing cost of corner workstation under ABC system is $1059.50,
which is higher than the cost $935 under simple costing system (See Table3).
Identify the problem with simple costing and comment on how ABC system

solve the problem

The simple costing system used only one allocation base, direct
manufacturing labor hours, to allocate manufacturing overheads to different
products. It assumes all products consume all resources in proportion to direct
manufacturing labor hours. While the manufacturing processes and the products
they produced are more complex. Sometimes, the direct manufacturing labor hour
is not a cause-and-effect relationship with indirect cost. If we use it to allocate
indirect cost, the indirect cost will be assigned inaccurately. As result, simple desk
is over-cost while corner workstation is under-cost.
ABC system attempts to overcome this problem. ABC systems create
homogeneous cost pools linked to different activities. For each activity-cost pool,
ABC system seeks a cost allocation base that has a cause-and-effect relationship
with costs in the cost pool. Therefore, the indirect costs will be assigned based on
the consumption of resources to different products more accurately.
2. Based on your analysis for requirement 1, advise on the actions that
EWFs management team might take to improve the companys
profitability.
EWFs management can use the information of the ABC system to make a
better pricing decision to improve the companys profitability. The manager may
readjust the prices of simple desk and corner workstation.
Table4: Product profitability analysis(ABC system)
Simple desk(per
Corner workstation(per
unit)
unit)
Full
manufacturing
$257.5
$1059.5
costs
Markup (60%)
$154.5
$635.7
EWFs Selling price
$412
$1695.2
Gross margin
37.5%
37.5%

Competitors price

$420

$1650

To set the prices of simple desk and corner workstation as manufacturing

costs plus 60% markup (see Table4). The manager should sell simple desk at $412
which is lower than the competitors price, $420. It will increase the
competitiveness and attract more customers. In addition, the gross margin is
37.5%. It is higher than the 35%, so it could cover all nonmanufacturing costs and
earn a reasonable return for company.
As for the corner workstation, the price should be set at $1695.2 in order to
earn 60% markup. However, the price is higher than the competitors price, $1650.
Since the competition in the furniture industry is keen, the higher price, the more
business will be lost. At least, EWF is required to set price same as the
competitors $1650 to stay competitive in the industry. Even though, it cannot earn
60% markup, but till has 35.79% [(1650-1059.5) 1650] gross margin, which is
higher than 35%. It is better to sets price at $1650 to earn few profits instead of
setting higher price and earning high more gross profit per unit, but losing
business.
In the conclusion, EWF should set price of simple desk at $412 to increase its
competitiveness and set price of corner workstation at $1650 to avoid losing
competitiveness. Such action will increase the market share of simple desk which
has higher gross margin and improve the companys profitability. Moreover, as the
simple desk is relatively competitive, EWF could produce more units than less
competitive products.
Part II: Decision Making
3. Evaluate, with supporting calculations, whether EWF should introduce
Multi-Pack Desk with Shelves at a price of $800, if the financial concern is the

only concern.
Table5: Producing Multi-Pack Desk with Shelves
Incremental revenues (incremental
cost)
Revenues
$720,000
Direct material
(315,00)
Direct manufacturing labor costs
(13,500)
Design and plan the production
(131,250)
process
Nonmanufacturing costs
(180,000)
Effect on operating income
80,250
If financial concern is the only concern, EWF should introduce Multi-Pack
Desk with Shelves at price $800 since it will brings more $80,250 profit to the
company (See Table5).
4.
First, EWF should consider whether the new product can be differentiated relative
to its competitors. As mentioned in the case, EWF can seldom differentiate its
products. Although the introduction of this new product will result the operating loss in
first year, EWF may increase the market share for its new product if it can differentiate
its product in coming future, which may result in the positive operating income as the
revenue from sales of Multi-pack Desk with shelves.
Second, EWF should consider whether Multi-pack Desk with shelves can raise
the customers satisfaction. Raising customers satisfaction will help EWF to retain its
customers from switching to its competitors. It also helps to build a long-term
relationship with customers. Therefore, if EWF believe that Multi-pack Desk with
shelves can greatly raise customers satisfaction, EWF should introduce it although it
results operating loss in first year.
Third, EWF should consider whether it wants to be the market leader in Multipack Desk with shelves. Introduction of new product to the market before competitors
can help the company to build the image of market leader, in which customers will
usually purchase product from market leader. Also, introducing new product before
competitors can help company to get feedback from customers for improvement.
Thus, if EWF want to be the market leader in Multi-pack Desk with shelves, it
should introduce it in 2010.
Forth, EWF should consider the reliability of the expected units sold. The low
units sold expected in 2010 may due to the unawareness of customers in introduction
stage of new product. Customer may get used to the new product in the next year.
Thus, EWF should estimate the units sold for few years instead of one year in order to
raise the reliability of its estimate.