Dakota Office Products Case

1. Why was Dakotas existing pricing system inadequate for its current operating environment?

Some problems with the current operating environment include:

Profits only when clients placed large orders for cartons

Real drop of profit when many clients place small orders
Wrong cost determination for individual customers
Wrong cost determination for new services provided by
DOP

Dakota Office Product uses traditional costing system where direct and indirect costs are assigned
and allocated to products and services delivered to customers. This is better for companies where
production operations are high labor intensive and overhead costs are smaller part of total costs.
Activity Based Costing is going to be better for Dakota Office Products. They will be able to
calculate the cost of products and services in accordance to the activities involved and resources
consumed.

2. Develop an activity-based cost system for Dakota Office Products (DOP) based on Year 2000
data. Calculate the activity cost-driver rate for each DOP activity in 2000.

Activity cost-driver rates:

Activity One: process cartons in and out of the facility

Rate=(90% of Warehouse Personnel Expense + Cost of Items Purchased)/cartons processed

Rate=(90%*2,400,000+35,000,000)/80,000= $464.5 /per carton

Activity Two: the new desktop delivery service

Rate=(10% of Warehouse Personnel Expense + Delivery Truck Expenses)/desktop deliveries

Rate=(10%*2,400,000+200,000)/2000= $220 /per carton

Activity Three: order handling

Rate= (Warehouse Expenses + Freight)/ number of orders

Rate=(2,000,000+450,000)/(16,000+8,000)=$102.08 /per order

Activity Four: data entry

Rate=Order entry expenses/Order lines

Rate=800,000/150,000= $5.3 orders/per line

3. Using your answer to Question 2, calculate the profitability of Customer A and Customer B.

Activity Cost driver rate Customer A Customer B

Process cartons in $464.5 per 92,900 92,900

and out of the carton (464.4*200 (464.4*200 cartons)
facility cartons)

The new desktop $220/desktop 5,500

delivery price deliveries (220*25desktop
deliveries)
Order handling 102.08/per 1,224.96 10,208 (102.08*100
order (102.08*12 orders)
orders)
Data entry 5.3 per line 318 (5.3*60 line 954 (5.3*180 line
item items) items)

Total Cost 94,442.96 1,09,562

Sales 1,03,000 10,4000
Profit 8557.04 (5562)

4. What explains any difference in profitability between the two custom

The increase in cost due to increase in number of both manual and EDI orders has led to lower
profitability of Customer B when compared to Customer A.

5. What are the limitations, if any, to the estimates of the profitability of the two customers?

Limitations include correctly estimating cost pools and correctly determining the cost drivers.
6. Is there any additional information you would like to have to explain the relative profitability of
the two customers?

Knowing the profitability rate could help the company get higher sales per customer. They could
raise the prices of their services for the more profitable customers and cut prices on some services
used by their less profitable customers.

7. Assume that Dakota applies the analysis done in Question 3 to its entire customer base. How
could such information help the Dakota managers increase company profits?

Dakota should do an analysis with all of its customers. This could identify the customers who they
would profit from the most and then they could minimize services to the least profitable customers
and concentrate on the more profitable customers. Also if they did an analysis, they would figure
out that the delivery cost has some issue and the price for desktop delivery should be adjusted by
the distance from the warehouse.

8. Suppose that a major customer switched from placing all its orders manually to placing all its
orders over the internet site. How should this affect the activity cost driver rates calculated in
Question 2? How would the switch affect Dakotas profitability?

The activity cost driver rates would increase if the major customer switched. This switch would
increase DOPs Profits because of less indirect time and activity costs. The manual cost driver
would go down and desktop delivery charge driver would increase.