Question One

Peterkin Ltd makes three products, the ‘Gadget’, the ‘Midget’ and the ‘Widget’.  Each of the products requires the use of labour and of materials, including a special material, ‘Material X’. Manufacturing labour is equally capable of working on all three products. Demand for all three products has increased strongly over recent months and is expected to remain high.

Information about the products, relating to the foreseeable future, is as follows:

Manufacturing overheads             ---------------see below----------------

Material X costs the business £0.10 a metre and the manufacturing workers are paid £8 an hour. The manufacturing workers are all employed on contracts that guarantee all 12 of them a 40-hour week (that   is,   the   manufacturing   workers   are   paid   £320   a   week, irrespective of the amount of work carried out). There are no other employment costs associated with the workers. It is not possible to expand the staff by employing other manufacturing workers and the existing ones are reluctant to work overtime.

Material X is in short supply and only 30,000 metres a week are expected to be available for the foreseeable future. The business holds no inventories of Material X. Supplies of it are received at the beginning of each week.

The business incurs manufacturing overheads that are believed to  be partially fixed and partially variable with manufacturing labour time. During two recent consecutive weeks, these costs totalled £2,700 in week one and £3,010 in week two.

Output for those two weeks was as follows:

There have not been, nor are there expected to be in the foreseeable future, any price changes, either of sales prices or of cost elements.

Required

CT has commissioned a market survey to assess the likely demand. The market research survey cost £5,000. This has yet to be paid by CT. The survey reveals that, without advertising, other than in the SBSA newsletter, there is a 0.6 probability of selling 12,000 places, a 0.2 probability of selling  14,000 and a 0.2 probability of selling 16,000 during 20X4. Left unadvertised, the demand for places in 20X5 and 20X6 is expected to remain at the same level as actually occurs in 20X4. The market researchers point out that, should the lowest level of demand occur in 20X4, it would almost certainly be as a  result  of  the  publicity  in  the  newsletter  being  overlooked  by businesses. The market researchers are very confident that a direct mailing, to all businesses that might buy places on courses, would raise  demand  from   12,000  to   14,000   places  per  year  for  the remainder of the three years. The market researchers believe that, at either the 14,000 or the 16,000 level of demand, there would be

no prospect of improving demand by any means.

A direct mailing would cost £140,000. It is only feasible to undertake  a  direct  mailing  in  late  December.  One  could  be  undertaken  in  December 20X3. Alternatively one could be made in December 20X4. Instructors will be recruited for the duration of the project and paid a  total of £350,000 per annum. They will be responsible for managing  the  project  locally.  CT  will  pay  their  travelling  and  subsistence  expenses, estimated at a total of £100,000 p.a. for each of the three years.

The project would require CT to provide personal computers to be used  by  participants  on  the  courses.  CT  has  suitable  hardware available  from  another  project  which  is  coming  to  an  end  in December  20X3.  The  computers  were  bought  in  May  20X3  for £400,000. Were they not to be used in this project, they would be sold on 31 December 20X3 for an estimated £250,000, receivable on that date. It is estimated that at the end of the SBSA project the computers would be disposed of for a zero net  realisable value, probably by donating them to a school.

This  costing  system  is  based  upon  ABC  principles.  Prior  to  the implementation of this system they had a traditional system based upon allocation costs using averages and apportionments. They moved away from this system because they wanted a costing system that reflected reality, based on the patients. Therefore, the cost object in this case would

be considered as 'the patient'.

The system

The costing system is designed around the patient (cost object) and the resources are allocated to activities that the patients use. These activities are centred on events or services that the patients use. The system is designed  so  that  ‘ in-patient’  costs  are  calculated  from  the  time  of admission  through  to  the  time  of  discharge,  while  'out-patients'  are charged on the basis of the service they require.

The principles of ABC are used to calculate the costs of patients on a basis which is clinically meaningful and results in resources being traced to clinical activities. The design of the system ensures that there are a minimum number of activities which include: wards, pathology, imaging, pharmacy  services  and  drugs,  prostheses,  therapies,  critical  care, operating   theatres,    special    procedure    suites,    other   diagnostics, emergency department and outpatients.

They claim the benefits of this system are as follows:

1)      An ability for an organization to truly understand their economic and financial drivers. PLICS can provide transparency to an organization of their income and costs at a service and sub service level on a monthly basis. It provides the capability to benchmark, analyse, investigate and evaluate the make-up of the organizations service costs. There is a further ability to benchmark individual cost elements (e.g. nursing costs. drugs, theatre cost) and patient cost profiles against other providers.

2)      Dramatically improved clinical ownership of operating information.

Dialogue can be had about resources consumed by individual patients with similar diagnoses and comparisons can be made against peer groups, teams, individuals as well as care pathways.