G.G. Toys

1. Do you recommend that G.G. Toys change its existing cost system in the Chicago Plant? In the Springfield plant? Why or why not?

In the Chicago plant, G.G. Toys should change its existing cost accounting system from the legacy or traditional costing methodology to activity-based costing (ABC). In allocating overhead as a percentage of direct labor cost, the margins of 9% and 34% in the Geoffrey doll and the specialty branded doll #106 respectively, do not reflect the actual cost of overhead.

Currently G.G. Toys is calculating its manufacturing overhead costs on only on one cost driver, the direct labor. From case facts, we know that the manufacturing overhead at the Chicago plant is very high (approximately 95% of the overall GG Toys manufacturing overhead)

The 3 different categories of dolls require different amounts of machine hours and other variable costs. By using Activity-based costing, each specific category of doll would have a different manufacturing overhead (and hence different contribution margin) allocated to it and the profit margin analysis for the doll category would yield an accurate result that can be used successfully for measuring controllability and relevance over long run.

For the Springfield plant, GG Toys has approximately 5% of the overall overhead and from case fact, we know that GG purchases finished components from local manufacturers and then assemble the components (to form the cradles) using manual labor and there is no machine hours involved in this (Exhibit # 1). So, I recommend GG to keep the existing cost accounting system as the primary cost driver here is labor hours which is being rightly applied as the cost allocation basis. Moreover, ABC methodology is unnecessary because Springfield plant is related to producing only one product.

2. Calculate the cost of Geoffrey Doll, the specialty-branded doll # 106, and a cradle using the cost study conclusions

Cost pool Cost driver

Total cost in pool

Practical Capacity

Activity Rate Unit

Machine Related Machine Hours $112,000 11200 $10

per m/c hour

Setup Labor Related # of Setups $13,333 160 $83.33 per setupProduction OrderRelated

Number of ProductionOrders

$63,000 161 $391.30per prod. Run

Packaging and Shipping Number of Shipments $53,000 350 $151.43

per shipment

Plant Mgmt. & Facilities

Number of Production units $40,000 27000 $1.48 per unit

Category Geoffrey DollSpecialty Branded # 106 Cradles

Units 7500 4000 3000Unit Level costs Machine Runs $37,500 $12,000 $0

Facilities $11,111.11 $5,925.93 $4,444Batch Level Setups $833.31 $8,333.13 $0

Prod. Run $3,913.04 $39,130.43 $391# of shipments $1,514.29 $33,314.29 $7,571

Total Mfg. Overhead $54,871.75 $98,703.77 $12,407.18Unit Overhead cost $7.32 $24.68 $4.14

Cost Category Geoffrey Doll Specialty BrandedDoll # 106

Cradle

Direct Labor cost $3.00 $3.75 $7.50Direct Materials cost $5.00 $6.00 $12.00Manufacturing Overhead $7.22 $24.68 $4.14Standard Unit cost $15.22 $34.43 $23.64Selling Price $21.00 $36.00 $30.00Margin $5.78 $1.57 $6.36% Margin 27.52% 4.37% 21.21%

3. Compare and contrast the profitability of each doll under the new and the old systems. Based on your recomputed product costs, what actions would you recommend the company consider to enhance its profitability? What additional information would you like to have to make these recommendations?

Geoffrey Doll Speciality BrandedDoll # 106

Cradle

Traditional 9.00% 34.00% 21.00%Activity Based 27.52% 4.37% 21.21%

Based on the above analysis, the following are the actions that I would recommend the company consider enhancing its profitability

Change the sales mix of the toy category. Sell more of Geoffrey Doll and Cradle but do not sell Specialty Branded Doll # 106

Implement Activity based costing in the Chicago Plant but keep the existing costing procedure in the Springfield plant.

Increasing the batch size would reduce the number of batches which can increase the contribution margin and thereby the profit margin.

Replacing existing machinery with more efficient production machines that can reduce the machine run time.

Carefully examine the total material requirement to build the dolls and the pajamas and then order for the raw materials.