Deeds Company sells custom-made machine parts to industrial equipment manufacturers by bidding cost plus 40 percent, where cost is deﬁned as manufacturing cost plus order processing cost. There are two types of customers: those who place small, frequent orders and those who place larger, less frequent orders. Cost and sales information by customer category is provided below.
Order-ﬁlling capacity is purchased in steps (order-processing clerks) of 1,000, each step costing $40,000; variable order-ﬁlling activity costs are $30 per order. The activity capacity is 39,000 orders; thus, the total order-ﬁlling cost is $2,715,000 [(39 steps × $40,000) þ ($30 × 38,500)]. Current practice allocates ordering cost in proportion to the units purchased. Deeds recently lost a bid for 100 units. (The per-unit bid price was $2 per unit more than the
winning bid.) The manager of Deeds was worried that this was a recurring trend for the larger orders. (Other large orders had been lost with similar margins of loss.) No such problem was taking place for the smaller orders; the company rarely lost bids on smaller orders.
1. Calculate the unit bid price offered to Deeds’s customers assuming that order-ﬁlling cost is allocated to each customer category in proportion to units sold.
2. Assume that a newly implemented ABC system concludes that the number of orders placed is the best cost driver for the order-ﬁlling activity. Assign order-ﬁlling costs using this driver to each customer type and then calculate the new unit bid price for each customer type. Using this new price, would Deeds have won the bid for the 100 units recently lost?
3. What if Deeds offers a discount for orders of 35 units or more to the frequently ordering
customers? Assume that all the frequently ordering customers can and do take advantage of
this offer at the minimum level possible. Can Deeds offer the original price from Requirement 1 to the frequently ordering customers and not decrease its proﬁtability?