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ACC 312H - Spring 2013

Fundamentals of Managerial Accounting-Honors

Instructor - Will O'Hara

Class Session 20 of 29

Thursday, April 04

Chapter 10 - Activity-Based Costing & Management

Class Notes-Part 3

OWENS & MINOR

What are the services rendered by the distributor to manufacturers and hospitals?

.The distributor's primary role is to break bulk, own, hold, and manage inventory.
• Manufacturers want to ship products in large quantities to a few major customers .
• Hospitals to not want to own, maintain, or manage huge amounts of materials.
• They would also like to purchase from different manufacturers.
• The customer pays distributors to provide an inventory holding and delivery service, while
manufacturers discount products to reward distributors for purchasing in bulk.

How have distributors' roles changed over time?

• Traditional Roles:
-Hold and Manage Inventory
-Break Bulk from Manufacturers
-Transmit Sale Info to Manufacturers
-Provide Credit to Hospitals
-Monitor Pricing and Contracts

.New, Additional Roles

-Make Smaller, More Frequent Deliveries
-Make emergency Deliveries
-Provide End-user Kits
-Provide Hospitals with Usage Information
-Provide Logistic Materials/Material Management Reports

.In general, the value-added by O&M has evolved from holding inventory & breaking bulk to
providing all-inclusive material management services to their customers & suppliers.

• Using expertise in material handling, O&M can help cut costs in the entire supply chain .

• O&M distributes consumable goods such as disposable gloves, dressing, endoscopic products,
intravenous products, needles, sterile procedural trays, surgical products wound closure products,
f

etc .

• O&M is brand neutral.

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What effect has cost-pius pricing had on distributors. customers. and suppliers

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fOW Does O&M's Pricing Matrix work?

Number of Lines Ordered ~er Month
A(.Jill''f, hl..reJ
P.O's per
Month 975-1,249 125D-1,749 1,75D-2,249 2,25D-2z749 2,75D--3 z249 3 z25D-3 z749 3,75D-4,249
30-50 $21,869 $23,421 $24,972 $26,524 $28,075 $29,627 $31,178
51-70 $22,149 $23,701 $25,252 $26,804 $28,355 $29,907 $31,458
71-90 $22,429 $23,981 $25,532 $27,084 $28,635 $30,187 $31,738
91-110 $22,709 $24,261 $25,812 $27,364 $28,915 $30,467 $32,018
111-130 $22,989 $24,541 $26,092 $27,644 $29,195 $30,747 $32,298
131-150 $23,269 $24,821 $26,372 $27,924 $29,475 $31,027 $32,578
151-170 $23,549 $25,101 $26,652 $28,204 $29,755 $31,307 $32,858
171·190 $23,829 $25,381 $26,932 $28,484 $30,035 $31,587 $33,138
191·210 $24,109 $25,661 $27,212 $28,764 $30,315 $31,867 $33,418
211-230 $24,389 $25 1941 $27,492 $29,044 $30,595 $32,147 $33,698

eTo develop the matrix, O&M performed an ABC analysis (similar to Wilkerson) to understand the
capacity-related costs associated with the activities it performs for its customers and the drivers of the
capacity-related expenditures it makes on these activities (the pricing matrix is different depending on
the customer).

eUnder O&M's activity-based pricing, customers would pay cost + a 0% markup + an activity fee that
is increasing in the n,Ymber of purchase Qrders a customer initiates each month and the number of
lines ordered by the customer. t<..... I /'
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eBased on its ABC analYSis, purchase orders and lines orde~~ (later realized that number of
different SKU's a better driver) are two of the major drivers of its capacity-related expenditures:

Purchase orders drive capacity-expenditures on:

---. Taking customer orders
---.Customer billing & collection
---.Order processing
---.Office administration

Lines ordered drive capacity-expenditures on:

---.Warehouse inventory control
---.Warehouse administration
---.Replenishment
---.Staging

eThe pricing matrix does not include the drivers of all its capacity-related expenditures in the matrix
(e.g., shipping& handling, deliveries, etc.). O&M didn't want its pricing proposal to become too
complex. So, they chose the two most important drivers & came up with a ratio to allocate these costs
based on PO per month and lines ordered.

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Under the activity-based pricing model. O&M basically priced its activities at or near the cost
of providing service. That said, how would O&M achieve profitability under this pricing
scheme?

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Class Notes Template-Chapter 10-3 ACC312H-Spring 2013

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 What haggened next?

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Takeaway from Owens and Minor

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Class Notes Template-Chapter 10-3 ACC312H-Spring 2013

O'Hara Page 6 of 6