BuyGasCo Corporation: The Use of Alternative Costing Methods

1. Why do you believe the judge chose the plaintiff’s costing approach over the
defendant’s?
The judge chose the plaintiff’s costing approach because it is consistent
with the State of Florida’s Motor Fuel Marketing Practices Act wherein “the
reasonable rental value attributable to the sale of motor fuel at the retail outlet
shall be allocated by the percentage of gross sales attributable to motor fuel
sales.” Since the reasonable rental value is allocated based on sales, the judge
may have decided that it is only fitting that the allocated cost should likewise be
allocated on the products based on sales volume per type of gasoline grade.

2. Explain why Dr. Humboldt’s analysis included the cost of a hypothetical “kiosk.”
Dr. Humboldt has developed an ABC model that identified different
overhead activities necessary for selling gasoline. Two of which are that there
should be at least an attendant who will attend to customers who buys gas and
that there should be a facility to place this attendant. Since there’s no such facility
within the convenience store, Dr. Humboldt assumed that there is a kiosk that will
serve this purpose.

3. Explain how the costs in the case behave with respect to the following hierarcy:
unit-level, batch-level, product-level and organizational level, including specific
examples of each hierarcy level.

a. Unit level costs are costs of activities performed on each individual unit of a
product or service. In this case, power used to operate gas dispensing pumps
can be considered as unit level cost as this cost tends to increase as the
volume of gasoline sold increases.
b. Batch-level costs - A cost associated with a batch of items, but not directly
traceable to an individual item within the batch. Batch level activities would be
the same for each gasoline transaction regardless of the volume of gasoline
sold. include those cost associated with processing customer payments
c. Product-level costs – They are costs of activities undertaken to support
individual products or services. Examples of product level costs for
BuyGasCo could be the purchase of pumping equipment and holding tanks
for different gasoline grades)
d. Organizational-level costs - are required to sustain facility operations and
cannot be casually identified with units, batches or individual products. (Costs
for acquiring a new accounting software for BuyGasCo)
 BuyGasCo Corporation: The Use of Alternative Costing Methods

4. Explain why Dr. Humboldt’s ABC analysis yields a result between the extremes
of the other two costing approaches that had been used in the earlier court
hearing

Dr. Humboldt’s ABC model has essentially split the difference between the
cost per gallon from the two extreme approaches. As you can see in his
computation, 70% of the total indirect cost was allocated equally to the three
types of gasoline grades while the remaining 30% was allocated to the products
on a per unit basis.

5. To what extent do Dr. Humboldt’s calculations represent an application of ABC,

based upon your understanding of ABC? Please explain.

Based on Dr. Humboldt’s analysis, I could say that it is a straightforward

application of the ABC model. The following steps were made using the ABC
approach:

a. Identification of an activity and its costs. BuyGasCo has two main

activities – selling convenience store products and selling gasoline. With the
data given by BUyGasCo’s management, Dr. Humboldt had identified three
overhead activities involved in selling gasoline: Gasoline Attendant’s labor,
the facility needed to house the gasoline attendant and the facilities needed to
store and dispense gasoline.

b. Identification of an appropriate cost driver for each activity. Dr. Humboldt

assigned the volume of gasoline sold as a cost driver for both the gas
attendant’s labor cost pool and kiosk activity cost pool while the number of
gasoline grades was assigned as cost driver for gasoline dispensing cost pool

c. Utilization of the cost drivers to assign the activity cost to the individual
products. Dr Humboldt allocated the the labor and kiosk activity cost pools
on the basis of the gallons of gas sold. So, 60.3%, 22.4% and 17.3% were
assigned to regular gasoline, plus gasoline and premium gasoline,
respetively. The third pool was determined to be driven by the number of
grades, so that pool was evenly divided among the three. By allocating both
on the basis of gallons of gas sold and number of grades, Dr Humboldt
derived a total cost that is between those computed by the plaintiff and
the defendant.

According to Dr. Humboldt’s analysis, it was determined that the cost per
gallon sold fell in between the amounts calculated by the plaintiff and the
 BuyGasCo Corporation: The Use of Alternative Costing Methods

defendant. It has also helped the management of BuyGasCo to correct the

problem of product-cost subsidization where plus and premium gasoline are
under-costed using the volume based approach while the regular gasoline is
overcosted.

6. Critique the Florida statute’s use of “cost” in assessing whether predatory pricing
of gasoline has occurred
Florida Motor Fuel Marketing Practices Act was enacted to prevent
predatory pricing, which is the selling of products “below cost” where the effect is
to injure competition. If the statute is to be followed, the price of the regular
gasoline per gallon may appear to be set at below cost because the traditional
approach of costing products have been used wherein a single variable (number
of gallons sold) was used to allocate costs when in fact, there are typically
several activities involved in selling gasoline. By using a single variable, high
volume products tend to absorb excessive costs while low-volume products are
charged with insufficient costs leading to what they call product-cost
subsidization.

7. Explain whether you think the judge should lift the injunction on BuyGasCo,
following consideration of Dr. Humboldt’s ABC analysis.
I would agree with Dr. Humboldt’s ABC model is more refined than the
traditional costing methods of both the plaintiff and the defendant. However, I
would disagree in his use of a single cost driver (number of gasoline grades) for
the costs of the gasoline dispensing activities. I believe that the reasonable rental
value cost for gasoline dispensing assets should be allocated further to grade-
specific gasoline dispensing assets and common gasoline dispensing assets.
Grade specific assets would include the holding tanks, pumping
equipment, plumbing and piping. It would be safely assumed that the sizes of
these tanks, equipment and plumbing would be the same for the three grades.
Therefore, an equal assignment of the grade specific gasoline dispensing costs
is a reasonable activity cost driver.
On the other hand, common gasoline dispensing costs should be
allocated on a per unit basis. The regular gasoline, which registers the highest
volume of sales, most probably would require more number of dispensing
machines to accommodate the number of buying customers and in effect takes
up more space in their facility.
With this contention and still using the ABC model, the following
computations had been made:

Allocation of the Reasonable Rental Value Cost (Indirect Costs)

 BuyGasCo Corporation: The Use of Alternative Costing Methods

Reasonabl
Percentag e Rental Cost
Amount e Value Allocation
140,00 27,957. 4,501.
Kiosk Estimate 0.00 16.10% 00 08
Common Gasoline 478,57 27,957. 15,386.
Dispensing Facilities 0.00 55.04% 00 29
Grade Specific Gasoline 250,99 27,957. 8,069.
Dispensing Facilities 5.00 28.86% 00 63

Allocation of the Total Indirect Costs to the Individual Products

Activity Activity Premiu

Cost Pools Cost Driver m Plus Regular
Gasoline Gallons of 9 1,1 3,1
1 Attendant’s Labor 5,220.00 Gas Sold 03.06 69.28 47.66
Gallons of 7 1,0 2,7
2 Kiosk Estimate 4,501.08 Gas Sold 78.69 08.24 14.15
Common Gasoline
Dispensing Gallons of 2,6 3,4 9,2
3 Facilities 15,386.29 Gas Sold 61.84 46.52 77.93
Grade Specific
Gasoline
Dispensing 1/3 for each 2,6 2,6 2,6
4 Facilities 8,069.63 Grade 89.88 89.88 89.88

Determination of Profit/Loss per Product

Premium Plus Regular

Price per Gallon $ 1.43 $ 1.36 $ 1.23

Direct Cost per Gallon $ 1.22 $ 1.20 $ 1.18

Direct Labor Cost per Gallon 0.0092 0.0092 0.0092
Indirect Cost per Gallon 0.0624 0.0562 0.0429
Cost per Gallon 1.2916 1.2654 1.2321
Profit $ 0.1384 $ 0.0946 $ (0.0021)

Based on the computations presented above, it is determined that the

Premium and Plus gasoline are sold at a net profit of $0.1384 and $0.0946 per
gallon, respectively. The regular gasoline, however, is sold below cost by $
 BuyGasCo Corporation: The Use of Alternative Costing Methods

0.0021, which is about 75.29% lesser than what was computed by the plaintiff.
With that, the judge should sustain the injunction.