Wilkerson

Q-1 What is the competitive situation faced by Wilkerson?A-1 Wilkerson manufactures pumps and they used to get 35% margins. However with the advent of many other players in pump manufacturing the prices have been dropping significantly and it seems they are earnings pre-tax margins of around 3% down from 10% operating margins. Every month the prices have been dropping and pumps being commoditized products with no differentiating feature Wilkerson had to match the price drops. Thus they face the problem of falling prices with falling margins.Q-2 Describe Wilkersons current cost system.A-2 In the present costing system material cost is allocated based on the price paid for components based on annual purchasing contracts. Labour costs were allocated based standard running times and a cost of $25 per hour of labour cost including fringe benefits. Overhead costs of the departments was charged as 300% of the labour costs. Thus this is how the price for the product was obtained.Q-3 Provide your best estimates about the cost and profitability of Wilkersons three product lines. What difference does your cost assignment have on reported product costs and profitability? What causes any shifts in cost and profitability?A-3 One of the main problems associated with the earlier costing system is that it allocates overhead on the basis of the direct labour hours which might not be the true representative of the overhead allocation. Overheads have different components with different drivers for each as enumerated in the table below.ActivityDriver

Machine related ExpenseMachine Hours

Setup LabourProduction Runs

Receiving and production controlProduction Runs

EngineeringHours of Engineering work

Packaging and shippingNumber of shipments

Thus the overheads are allocated as given in the table below:CostsDriverTotal DriverCost/Driver

Machine related Expense336000Machine Hours1120030

Setup labour40000Production Runs160250

Receiving and production control180000Production Runs1601125

Engineering100000Hours of Engineering work125080

Packaging and shipping150000Number of shipments300500

Thus the table above shows the cost/driver for overheads. The overheads are calculated for each product below

ValvesCost HeadsDriverCost/DriverDriver for ProductCost

Machine related ExpenseMachine Hours303750112500

Setup laborProduction Runs250102500

Receiving and production controlProduction Runs11251011250

EngineeringHours of Engineering work8025020000

Packaging and shippingNumber of shipments500105000

Total Overhead Costs151250

Direct Material Costs = 16 x 7500 = $120,000Direct labour costs =10 x 7500 = 75000Total Cost for Valves = $346,250 Operating Profit= 86 x 7500-346250=$298750 Operating Margin = 298750/645000 = 46%PumpsCost HeadsDriverCost/DriverDriver for ProductCost







Direct Material Costs = 20 x 12500 = $250,000Direct labour costs =12.50 x 12500 = 156250Total Cost for Pumps= $727,500Operating Profit = 87 x 12500-727500 =360,000Operating Profit margin = 360000/1087500 = 33%

Flow ControlsCost HeadsDriverCost/DriverDriver for ProductCost







Direct Material Costs = 22 x 4000 = $88,000Direct labour costs =10 x 4000 = 40000Total Cost for Flow Controls = $461,500 Operating Profit = 105 x 4000 461500 = -$41500Operating Profit margin = -10%As can be seen above valves have the highest operating profit margin followed by pumps earning more than the projected margins. The flow controllers which were considered highly profitable are making losses at the given price point. The redistribution of profits happen because of the reallocation of the overheads based on the drivers giving a closer to reality costs.Q-5 Based on your analysis in Question 4, what actions might Wilkersons management team consider to improve the companys profitability?A-5 Based on the above analysis we can see that flow controllers are making losses and on a previous increase of price no effect on demand was observed. This indicates that the demand is fairly inelastic at the present price points and further price increases are possible. This will help in improving the profitability of the flow control devices. For pumps Wilkerson should not take price drops till it affects market share as it will affect the healthy margins they earn right now.Q-6 What concerns, if any, do you have with the cost estimates you prepared in the answer to Question 4? What additional information or analysis would you want for better cost and profitability estimates?A-6 These cost estimates are based on the drivers being assigned to the activities. However the drivers used might not be representative of the activities. However if more details can be obtained about which activity is driven by what driver accurately and tying it up with the data from the past will help in developing a much better model.

Wilkerson

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