Select two reasons why Snacks should allocate corporate costs to each division

Cost allocation is the process through which a business allocates funds during the budgeting process. As a small business grows and different teams form, a new form of cost allocation is available: double or multiple allocations. In this case, funds – referred to by the University of Maryland as the "allocation base" – are allocated separately to different departments, teams or divisions within a business. This approach has advantages for a growing company but also introduces new difficulties. There are both advantages and disadvantages of allocation.

By splitting funds between different departments or teams, a small business can provide funding based on the needs of the division and shift the allocation over time as conditions change. For example, if a marketing team needs an extra $1,000 next quarter for a new video campaign, the multiple cost allocation method makes it easier to shift this funding. If the business needs a new division for inventory management, the company can decide the budget that division needs and allocate space for it in its accounting tools, which will detail precisely how inventory management uses its budget. This process helps a business improve budgeting and accurately track department spending.

Advantages of allocation of expenses can also apply to companywide budget plans: A small business can use multiple cost allocations to separate funds for the entire company from funds meant for individual departments. This is useful when budgeting overhead costs and similar companywide costs or strategies.

As the budget is apportioned to each department, companies can get a clearer look at which activities are the most cost-efficient. You can determine, for example, that a product's costs are 35 percent manufacturing, 40 percent sales and 25 percent quality control. This can help you determine the importance of each department in getting your products to market.

Businesses can also choose unique indicators that don't rely solely on sales to decide budgets for each department. For example, a goal of 20 percent improved sales may make sense for judging how efficiently the sales department is using its budget, but a goal of a 10 percent increase in production capacity might make more sense for a manufacturing department. Direct labor, machine time, square footage, head count and many other indicators can be chosen as needed.

When funds are allocated to individual departments, departments know their budgets well ahead of time. That gives departments room to make long-term plans, request additional funding for specific products, and make better overall management decisions.

Each department tends to have different variable costs, and accurately tracking or predicting these variable costs can be challenging, especially in the beginning. If variable costs are misjudged or market changes lead to unexpected costs – as is common with production materials, for example – then costs may be misallocated, causing a shortage. Accounting Tools points out this can also be an issue when the wrong variable indicators are used to assign budgets.

The opposite problem can also happen: If a business misjudges costs and allocates a department a larger budget than it needs, that department may not use its funds correctly. This is seen in organizations where budgets are decided based on usage instead of other factors, so departments rush to use their funding in unnecessary ways to justify the same or a larger budget for the next period. The business as a whole suffers when this occurs.

Allocating costs can sometimes lead to favoritism, where one department receives much more than the others if cost managers care for it more. This sort of bias can also cause a variety of related issues, such as infighting, bids for attention or inflation of department needs and ideas.

As cost allocation shifts, snapshot looks at the overall company budget can become misleading. For example, if four departments each contribute 25 percent of the costs to a product, your reduction of one department to a 10 percent contribution makes the other three departments contribute 30 percent. The other departments didn't start spending more; they just have a higher percentage assigned to them because one department decreased its costs. Ensure you understand the meaning of increased percentages for any given department or activity.

Select two reasons why Snacks should allocate corporate costs to each division

$"$ I'm going to focus on the customers of my business and leave cost-allocation issues to my accountant." Do you agree with this comment by a division president? Explain.

Select two reasons why Snacks should allocate corporate costs to each division

Ameer Said

Numerade Educator

Why is customer-profitability analysis an important topic for managers?

Select two reasons why Snacks should allocate corporate costs to each division

Ameer Said

Numerade Educator

How can a company track the extent of price discounting on a customer-by-customer basis?

Ameer Said

Numerade Educator

"A customer-profitability profile highlights those customers a company should drop to improve profitability." Do you agree? Explain.

Ameer Said

Numerade Educator

Give examples of three different levels of costs in a customer-cost hierarchy

Ameer Said

Numerade Educator

What information does the whale curve provide?

Ameer Said

Numerade Educator

"A company should not allocate all of its corporate costs to its divisions." Do you agree? Explain.

What criteria might managers use to guide cost-allocation decisions? Which are the dominant criteria?

"Once a company allocates corporate costs to divisions, these costs should not be reallocated to the indirect-cost pools of the division." Do you agree? Explain.

"A company should not allocate costs that are fixed in the short run to customers." Do you agree? Explain briefly.

How should a company decide on the number of cost pools it should use to allocate costs to divisions, channels, and customers?

Show how managers can gain insight into the causes of a sales-volume variance by subdividing the components of this variance.

How can the concept of a composite unit be used to explain why an unfavorable total sales-mix variance of contribution margin occurs?

Explain why a favorable sales-quantity variance occurs.

Ameer Said

Numerade Educator

How can the sales-quantity variance be decomposed further?

Ameer Said

Numerade Educator

The actual contribution margin per unit will impact the following sales variance:a. Flexible-budget varianceb. Market-size variancec. Market-share variance.

des-quantity variance

Lexota, Inc., an auto manufacturer, reported the following budgeted and actual sales of its vehicles during September, Year 2:The budgeted contribution margin is $20 \%$ for both vehicle types. Which of the following statements is true concerning the sales variances for Lexota, Inc. for September, Year $2 ?$a. The sales-volume variance for the company is favorable.b. The sales-quantity variance for the company is unfavorable.c. The budgeted variable cost for each vehicle type is the same.

d. The sales-mix variance for the company is unfavorable.

Harold Monette vacationed at Lake Tahoe last winter. Unfortunately, he broke his ankle while skiing and spent two days at the Sierra University Hospital. Monette's insurance company received a 4,950 dollars bill for his two-day stay. One item that caught Monette's attention was a 10.60 dollars charge for a roll of cotton. Monette is a salesman for Johnson \& Johnson and knows that the cost to the hospital of the roll of cotton is between $\$ 2.45$ and $\$ 3.25 .$ He asked for a breakdown of the $\$ 10.60$ charge. The accounting office of the hospital sent him the following information:a. Invoiced cost of cotton roll \$ 2.65b. cost of processing of paperwork for purchase 0.57c. Supplies-room management fee 0.74d. Operating-room and patient-room handling costs 1.62e. Administrative hospital costs 1.06f. University teaching-related costs 0.61g. Malpractice insurance costsh. cost of treating uninsured patients 1.52i. Profit component 0.65Total 10.60dollars Monette believes the overhead charge is outrageous. He comments, "There was nothing I could do aboutit. 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 $14-8$ (page 572 ) in youranswer.

3. What should Monette do about the $\$ 10.60$ charge for the cotton roll?

EnviroTech has only two retail and two wholesale customers. Information relating to each customer for 2017 follows (in thousands):Enviro-Tech's annual distribution-channel costs are $\$ 33$ million for wholesale customers and $\$ 12$ million for retail customers. The company's annual corporate-sustaining costs, such as salary for top management and general-administration costs are 48 million dollars . There is no cause-and-effect or benefits-received relationship between any cost-allocation base and corporate-sustaining costs. That is, Enviro-Tech could save corporate-sustaining costs only if the company completely shuts down. 1. Calculate customer-level operating income using the format in Exhibit $14-3$
2. Prepare a customer-cost hierarchy report, using the format in Exhibit $14-6$.3. Enviro-Tech's management decides to allocate all corporate-sustaining costs to distribution chan nels: \$38 million to the wholesale channel and \$10 million to the retail channel. As a result, distribution channel costs are now $\$ 71$ million $(\$ 33 \text { million }+\$ 38$ million) for the wholesale channel and s22 million (s12 million + s10 million) for the retail channel. Calculate the distribution-channel-level operating income. 0n the basis of these calculations, what actions, if any, should Enviro-Tech's manag. ers take? Explain.4. How might Enviro-Tech use the new cost information from its activity-based costing system to better manage its business?

Instant Service (IS) repairs printers and photocopiers for five multisite companies in a tristate area. IS's costs consist of the cost of technicians and equipment that are directly traceable to the customer site and a pool of ottice overhead. Until recently, IS estimated customer profitability by allocating the office overhead to each customer based on share of revenues. For $2017,$ IS reported the following results:Abby costa, IS's new controller, notes that office overhead is more than $10 \%$ of total costs, so she spends a couple of weeks analyzing the consumption of office overhead resources by customers. She collects the following information:1. Compute customer-level operating income using the new information that costa has gathered.2. Prepare exhibits for IS similar to Exhibits $14-4$ and $14-5 .$ Comment on the results.

3. What options should IS consider, with regard to individual customers, in light of the new data and analysis of office overhead?

Best Drugs is a distributor of pharmaceutical products. Its ABC system has five activities:Rick Flair, the controller of Best Drugs, wants to use this ABC system to examine individual customer profitability within each distribution market. He focuses first on the Ma and Pa single-store distribution market. Using only two customers helps highlight the insights available with the ABC approach. Data pertaining to these two customers in August 2017 are as follows:1. Use the ABC information to compute the operating income of each customer in August 2017 . Comment on the results and what, if anything, Flair should do.
2. Flair ranks the individual customers in the Ma and Pa single-store distribution market on the basis of monthly operating income. The cumulative operating income of the top $20 \%$ of customers is $\$ 58,120$ Best Drugs reports operating losses of $\$ 23,670$ for the bottom $40 \%$ of its customers. Make four recommendations that you think Best Drugs should consider in light of this new customer-profitability information.

Reidland Manufacturing has four divisions: Acme, Dune, Stark, and Brothers. Corporate headquarters is in Minnesota. Reidland corporate headquarters incurs costs of $\$ 16,800,000$ per period, which is an indirect cost of the divisions. Corporate headquarters currently allocates this cost to the divisions based on the revenues of each division. The CEO has asked each division manager to suggest an allocation base for the indirect headquarters costs from among revenues, segment margin, direct costs, and number of employees. The following is relevant information about each division:1. Allocate the indirect headquarters costs of Reidland Manufacturing to each of the four divisions using revenues, direct costs, segment margin, and number of employees as the allocation bases. Calculate operating margins for each division after allocating headquarters costs.2. Which allocation base do you think the manager of the Brothers division would prefer? Explain.3. What factors would you consider in deciding which allocation base Reidland should use?

4. Suppose the Reidland CEO decides to use direct costs as the allocation base. Should the Brothers division be closed? Why or why not?

Rembrandt Hotel \& Casino is situated on beautiful Lake Tahoe in Nevada. The complex includes a 300 -room hotel, a casino, and a restaurant. As Rembrandt's new controller, your manager asks you to recommend the basis the hotel should use for allocating fixed overhead costs to the three divisions in $2017 .$ You are presented with the following income statement information for 2016 :You are told that you may choose to allocate indirect costs based on one of the following: direct costs, floor space, or the number of employees. Total fixed overhead costs for 2016 were $\$ 14,550,000$1. Calculate division margins in percentage terms prior to allocating fixed overhead costs.2. Allocate indirect costs to the three divisions using each of the three allocation bases suggested. For each allocation base, calculate division operating margins after allocations, in dollars and as a percentage of revenues.3. Discuss the results. How would you decide how to allocate indirect costs to the divisions? Why?

4. Would you recommend closing any of the three divisions (and possibly reallocating resources to other divisions) as a result of your analysis? If so, which division would you close and why?

Oluwadamilola Ameobi

Numerade Educator

Bergen Corporation has three divisions: pulp, paper, and fibers. Bergen's new controller, David Fisher, is reviewing the allocation of fixed corporate-overhead costs to the three divisions. He is presented with the following information for each division for 2017 :Until now, Bergen Corporation has allocated fixed corporate-overhead costs to the divisions on the basis of division margins. Fisher asks for a list of costs that comprise fixed corporate overhead and suggests the following new allocation bases:1. Allocate 2017 fixed corporate-overhead costs to the three divisions using division margin as the allocation base. What is each division's operating margin percentage (division margin minus allocated fixed corporate-overhead costs as a percentage of revenues)?2. Allocate 2017 fixed costs using the allocation bases suggested by Fisher. What is each division's operating margin percentage under the new allocation scheme?3. Compare and discuss the results of requirements 1 and 2 . If division performance incentives are based on operating margin percentage, which division would be most receptive to the new allocation scheme? Which division would be the least receptive? Why?

4. Which allocation scheme should Bergen Corporation use? Why? How might Fisher overcome any objections that may arise from the divisions?

The Chicago Tigers play in the American Ice Hockey League. The Tigers play in the Downtown Arena, which is owned and managed by the City of Chicago. The arena has a capacity of 15,000 seats $(5,500 \text { lower-tier seats and } 9,500$ upper-tier seats). The arena charges the Tigers a per-ticket charge for use of its facility. All tickets are sold by the Reservation Network, which charges the Tigers a reservation fee per ticket. The Tigers' budgeted contribution margin for each type of ticket in 2017 is computed as follows:The budgeted and actual average attendance figures per game in the 2017 season are as follows:Therewas no difference between the budgeted and actual contribution marginiforlower-tier or upper-tier seats The manager of the Tigers was delighted that actual attendance was $10 \%$ above budgeted attendanceper game, especially given the depressed state of the local economy in the past six months1. Compute the sales-volume variance for each trype of ticket and in total for the Chicago Tigers in 2017 (Calculate all variances in terms of contribution margins.)2. Compute the sales-quantity and sales-mix variances for each type of ticket and in total in 2017

3. Present a summary of the variances in requirements 1 and 2. Comment on the results.

The Hiro Corporation sells two brands of wine glasses:Plain and Chic. Hiro provides the following information for sales in the month of June 2017 :All variances are computed in contribution-margin terms.1. Calculate the sales-quantity variances for each product for June 2017 .2. Calculate the individual-product and total sales-mix variances for June 2017 . Calculate the individualproduct and total sales-volume variances for June 2017

3. Briefly describe the conclusions you can draw from the variances.

Emcee Inc. manufactures and sells two fruit drinks: Kostor and limba. Budgeted and actual results for 2017 are as follows:1. Compute the total sales-volume variance, the total sales-mix variance, and the total sales-quantity variance. (Calculate all variances in terms of contribution margin.) Show results for each product in your computations.
2. What inferences can you draw from the variances computed in requirement 1?

Emcee Inc. prepared the budget for 2017 assuming a $20 \%$ market share based on total sales in the Midwest region of the United States. The total fruit drinks market was estimated to reach sales of 1.25 million cartons in the region. However, actual total sales volume in the western region was 1.5 million cartons.
Calculate the market-share and market-size variances for Emcee Inc. in 2017 . (Calculate all variances in terms of contribution margin.) Comment on the results.c

Mary Martin recenty started a job as an adminisistative assistant in the costaccounting departmentof Needham Manufacturing. New to the area of cost accounting, Mary is puzled by the fact that tone of Needham's manufactured products, SR67, has a different cost depending on who asks for it. When the marketing department requested the cost of SR670 in order to determine pricing for the new catalog, Mary was told to report one amount, but when a request came in the very nextday from the financial reporting department for the cost of SR670, she was told to report a very different cost Mary runs a report using Needham's cost accounting system, which produces the following cost elements for one unit of SR670.1. Explain to Mary why the cost given to the marketing and financial-reporting departments would be different2. Calculate the cost of one unit of SR670 to determine the following:a. The selling price of SR670b. The cost of inventory for financial reporting

c. Whether to continue manufacturing SR670 or to purchase it from an outside source (Assume that SR670 is used as a component in one of Needham's other products.

Bracelet Delights is a new company that manufactures custom jewelry. Bracelet Delights currently has six customers referenced by customer number: $01,02,03,04,05,$ and 06 Besides the costs of making the jewelry, the company has the following activities:1. Customer orders. The salespeople, designers, and jewelry makers spend time with the customer. The cost-driver rate is 42dollars per hour spent with a customer.2. Customer fittings. Before the jewelry piece is completed, the customer may come in to make sure it looks right and fits properly. Cost-driver rate is 30 dollars per hour.3. Rush orders. Some customers want their jewelry quickly. The cost-driver rate is 90 dollars per rush order.4. Number of customer return visits. Customers may return jewelry up to 30 days after the pickup of the jewelry to have something refitted or repaired at no charge. The cost-driver rate is 40 dollars per return visit.Information about the six customers follows. Some customers purchased multiple items. The cost of the jewelry is $60 \%$ of the selling price.1. Calculate the customer-level operating income for each customer. Rank the customers in order of most to least profitable and prepare a customer-profitability analysis, as in Exhibits $14-3$ and $14-4$

2. Are any customers unprofitable? What is causing this? What should Bracelet Delights do about these customers?

Delivery has decided to analyze the profitability of five new customers. It buys recycled paper at 20 dollars per case and sells to retail customers at a list price of $\$ 26$ per case. Data pertaining to the five customers are:1. Compute the customer-level operating income of each of the five retail customers now being examined $(1,2,3,4, \text { and } 5) .$ Comment on the results.2. What insights do managers gain by reporting both the list selling price and the actual selling price for each customer?

3. What factors should managers consider in deciding whether to drop one or more of the five customers?

Mississippi Manufacturing makes a component called B2040. This component is manufactured only when ordered by a customer, so Mississippi keeps no inventory of B2040. The list price is $\$ 112$ per unit, but customers who place "large" orders receive a $10 \%$ discount on price. The customers are manufacturing firms. Currently, the salespeople decide whether an order is large enough to qualify for the discount. When the product is finished, it is packed in cases of 10 . If the component needs to be exchanged or repaired, customers can come back within 14 days for free exchange or repair.The full cost of manufacturing a unit of $\mathrm{B} 2040$ is $\$ 95 .$ In addition, Mississippi incurs customer-level costs. Customer-level cost-driver rates are: All customers except E ordered units in the same order size. Customer E's order quantity varied, so E got a discount part of the time but not all the time.1. Calculate the customer-level operating income for these five customers. Use the format in Exhibit $14-3$ Prepare a customer-profitability analysis by ranking the customers from most to least profitable, as in Exhibit $14-4$

2. Discuss the results of your customer-profitability analysis. Does Mississippi have unprofitable customers? Is there anything Mississippi should do differently with its five customers?

Louise Newman operates Interiors by Louise, an interior design consulting and window treatment fabrication business. Her business is made up of two different distribution channels, a consulting business in which Louise serves two architecture firms (Adams and Betz) and a commercial window treatment business in which Louise designs and constructs window treatments for three commercial clients (Chatham, Dedham, and Elm). Louise would like to evaluate the profitability of her two architecture firm clients and three commercial window treatment clients, as well as evaluate the profitability of each of the two channels and the business as a whole. Information about her most recent quarter follow:Overhead costs total 340,400 dollars . Louise has determined that $25 \%$ of her overhead costs relate directly to her architectural business, $40 \%$ relate directly to her window treatment business, and the remainder are corporate overhead costs.On the revenues indicated above, Louise gave a $10 \%$ discount to Adams in order to lure it away from a competitor and gave a $5 \%$ discount to Elm for advance payment in cash.1. Prepare a customer-cost hierarchy report for Interiors by Louise, using the format in Exhibit $14-6$2. Prepare a customer-profitability analysis for the five customers, using the format in Exhibit $14-4$

3. Comment on the results of the preceding reports. What recommendations would you give Louise?

Cathy Carpenter, controller of the Sweet and Salty Snacks is preparing a presentation to senior executives about the performance of its four divisions. Summary data related to the four divisions for the most recent year are as follows:Under the existing accounting system, costs incurred at corporate headquarters are collected in a single cost pool (S1.2 million in the most recent year) and allocated to each division on the basis of its actual revenues. The top managers in each division share in a division-income bonus pool. Division income is defined as operating income less allocated corporate costs.Carpenter has analyzed the components of corporate costs and proposes that corporate costs be collected in four cost pools. The components of corporate costs for the most recent year and Carpenter's suggested cost pools and allocation bases are as follows:1. Discuss two reasons why Sweet and Salty Snacks should allocate corporate costs to each division.2. Calculate the operating income of each division when all corporate costs are allocated based on revenues of each division.3. Calculate the operating income of each division when all corporate costs are allocated using the four cost pools.

4. How do you think the division managers will receive the new proposal? What are the strengths and weaknesses of Carpenter's proposal relative to the existing single cost-pool method?

Forber Bakery makes baked goods for grocery stores and has three divisions: bread, cake, and doughnuts. Each division is run and evaluated separately, but the main headquarters incurs costs that are indirect costs for the divisions. costs incurred in the main headquarters are as follows:The Forber upper management currently allocates this cost to the divisions equally. 0 ne of the division managers has done some research on activity-based costing and proposes the use of different allocation bases for the different indirect costs - number of employees for HR costs, total revenues for accounting department costs, square feet of space for rent and depreciation costs, and equal allocation among the divisions of "other" costs. Information about the three divisions follows:1. Allocate the indirect costs of Forber to each division equally. Calculate division operating income after allocation of headquarter costs.2. Allocate headquarter costs to the individual divisions using the proposed allocation bases. Calculate the division operating income after allocation. Comment on the allocation bases used to allocate headquarter costs.

3. Which division manager do you think suggested this new allocation. Explain briefly. Which allocation do you think is "better?"

The Insurance Company insures homeowners in three regions of the United States: Eastern, Midwest, and South. In the past year, several hurricanes hit the Southern region of the United States, requiring payments to insured homeowners.Management of the company wishes to analyze the profitability of the three key regions and has gathered the following information:In addition to the customer-level costs above, the company also allocates 750,000 dollars of corporate costs to each region based on the revenues of each region.1. Prepare a cost-hierarchy income statement for The Insurance Company using the format in Exhibit $14-7$ assuming corporate costs are not allocated to each region.2. Allocate the corporate costs to each region and calculate the income of each region after assigning corporate costs.3. Should top management of The Insurance Company close down the South region? Explain.

4. What are the advantages and disadvantages of The Insurance Company allocating corporate costs to the regions?

$14-37$ cost-hierarchy income statement and allocation of corporate, division, and channel costs to customers. Vocal Speakers makes wireless speakers that are sold to different customers in two main distribution channels. Recently, the company's profitability has decreased. Management would like to analyze the profitability of each channel based on the following information:The company allocates distribution channel costs of marketing and administration as follows:Based on a special study, the company allocates corporate costs to the two channels based on the corporate resources demanded by the channels as follows: Distribution Channel $A, \$ 45,000,$ and Distribution Channel $B, 55,000 1. Calculate the operating income for each distribution channel as a percentage of revenue after assigning customer-level costs, distribution-channel costs, and corporate costs.2. Should Vocal Speakers close down any distribution channel? Explain briefly including any assumptions that you made.

3. Would you allocate corporate costs to divisions? Why is allocating these costs helpful? What actions would it help you take?dollars . If the company were to close a distribution channel, none of the corporate costs would be saved.

Miami Infonautics, Inc., produces handheld Windows CETM-compatible organizers. Miami Infonautics markets three different handheld models: PalmPro is a souped-up version for the executive on the go, PalmCE is a consumer-oriented version, and PalmKid is a stripped-down version for the young adult market. You are Miami Infonautics' senior vice president of marketing. The CEO has discovered that the total contribution margin came in lower than budgeted, and it is your responsibility to explain to him why actual results are different from the budget. Budgeted and actual operating data for the company's third quarter of 2017 are as follows:1. Compute the actual and budgeted contribution margins in dollars for each product and in total for the third quarter of 20172. Calculate the actual and budgeted sales mixes for the three products for the third quarter of 2017 .3. Calculate total sales-volume, sales-mix, and sales-quantity variances for the third quarter of 2017 . (Calculate all variances in terms of contribution margins.)

4. Given that your CEO gets very angry if actual results differ from budget, you want to be well prepared for this meeting. In order to prepare, write a paragraph or two comparing actual results to budgeted amounts.

Miami Infonautics" senior vice president of marketing prepared his budget at the beginning of the third quarter assuming a $25 \%$ market share based on total sales. Foolinstead Research estimated that the total handheld-organizer market would reach sales of 408,600 units worldwide in the third quarter. However, actual sales in the third quarter were 515,000 units.1. Calculate the market-share and market-size variances for Miami Infonautics in the third quarter of 2017 (calculate all variances in terms of contribution margins).2. Explain what happened based on the market-share and market-size variances.

3. Calculate the actual market size, in units, that would have led to no market-size variance (again using budgeted contribution margin per unit). Use this market-size figure to calculate the actual market share that would have led to a zero market-share variance.

The Robin's Basket operates a chain of Italian gelato stores. Although the Robin's Basket charges customers the same price for all flavors, production costs vary, depending on the type of ingredients. Budgeted and actual operating data of its Washington, D.C., store for August 2017 are as follows:The Robin's Basket focuses on contribution margin in its variance analysis1. Compute the total sales-volume variance for August 20172. Compute the total sales-mix variance for August 2017.3. Compute the total sales-quantity variance for August 2017.

4. Comment on your results in requirements $1,2,$ and 3

KC Corporation manufactures an air-freshening device called GoodAir, which it sells to six merchandising firms. The list price of a GoodAir is 30,dollars and the full manufacturing costs are 18 dollars . Salespeople receive a commission on sales, but the commission is based on number of orders taken, not on sales revenue generated or number of units sold. Salespeople receive a commission of 10 dollars per order (in addition to regular salary).KC Corporation makes products based on anticipated demand. KC carries an inventory of GoodAir, so rush orders do not result in any extra manufacturing costs over and above the 18 dollars per unit. KC ships finished product to the customer at no additional charge for either regular or expedited delivery. KC incurs significantly higher costs for expedited deliveries than for regular deliveries. Customers occasionally return shipments to $\mathrm{KC}$, and the company subtracts these returns from gross revenue. The customers are not charged a restocking fee for returns.Because salespeople are paid $\$ 10$ per order, they often break up large orders into multiple smaller orders. This practice reduces the actual order-taking cost by 7 dollars per smaller order from 15 dollars per order to 8 dollars per order) because the smaller orders are all written at the same time. This lower cost rate is not included in budgeted rates because salespeople create smaller orders without telling management or the accounting department. All other actual costs are the same as budgeted costs. Informatinn ahout KC's clients follows:1. Classify each of the customer-level operating costs as a customer output unit-level, customer batchlevel, or customer-sustaining cost.2. Using the preceding information, calculate the expected customer-level operating income for the six customers of KC Corporation. Use the number of written orders at 15 dollars each to calculate expected order costs.3. Recalculate the customer-level operating income using the number of written orders but at their actual $\$ 8$ cost per order instead of 15 dollars (except for $D C$, whose actual cost is 15$ perdollarsorder). How will KC Corporation evaluate customer-level operating cost performance this period?4. Recalculate the customer-level operating income if salespeople had not broken up actual orders into multiple smaller orders. Don't forget to also adjust sales commissions.

5. How is the behavior of the salespeople affecting the profit of KC Corporation? Is their behavior ethical? What could KC Corporation do to change the behavior of the salespeople?