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S&P Pies Case Solution & Answer

S&P Pies  Case Solution

Part 1

Information that S&L Pies Need

S&L Pies needs the following information:

  1. As we know that S&L Pies compete-son the differentiation strategy,which is based on the high-quality pies with different flavors and unique packaging.
  2. As S&L Pies is moving towards the differentiation strategy, so it needs a costing system that can effortlessly handle different kinds of pies in terms of its pricing, offerings and special orders.
  3. According to the case information; it has been found that all of the pies use the same essential process for manufacturing, so the cost system of the company does not need to track the cost specifically related to the labor per pie and overhead per pie or even per special order or other orders.
  4. In addition to this, basically S&L Pies needs an accurate costing system for their product costing for the specific or special orders, along with the costing for different types of pies, which have a wide variety of product combinations.

Different Costing Approaches and their Pros and Cons

Job Costing Approach

Calculating the cost of an operation, better reflects the individual characteristics of each operation (particularly for unusual ingredients or flavoring extracts) and can provide the most truthful cost for each operation. For this purpose, for each job or order, all raw material, labor, and overhead costs must be recorded separately, even though the labor and handling costs for each shipment are roughly the same.

Process Costing Approach

Calculating the cost of the process is very efficient in terms of both labor costs and indirect costs, as the costs of each pie are almost the same. Process costing for S&L Pies might be the calmest and economical cost method. Nevertheless, it cannot specify the exclusive cost of unusual ingredients or the dissimilar pie sizes for each order.

Operating Costing Approach

Operating cost uses the costs of activities (job order costing) to track the individual expenses of an individual order (especially for unusual components) and the costs of the process (process costing) such as the labor costs and overheads, as these expenses are analogous for each pie. On the contrary, it might not be as accurate as calculating labor and overhead costs. In addition to this, it is more complex than calculating the cost of a separate operation or process, as it involves the usage of both the approaches.

Activity Based Costing Approach

Assuming that the company chooses the right set of activity costs and motivation, because the activity-based costing can ensure the most accurate overhead allocation of products. However, S&L Pies must continue to use labor, process, or operating costs to calculate the direct costs. For S&L Pies, using ABC is probably the most complicated cost method. The variety of activities between products may not be sufficient to justify the use of ABC.

Recommendation for Costing System

Direct Cost

The most important thing is to discourse the advantages and disadvantages of each possible technique and to support the suggested method. For direct costs at S&L Pies, the simple operating cost calculation method might be the most viable costing method.

The process of making all pies is fundamentally the same, but the magnitude, extent, composition, taste and extracts of the ingredients in the pie usually vary arbitrarily. When calculating the operating cost; the cost of the process is used to treat the labor costs and indirect costs as a homogeneous cost. The costs of elements, components and any unusual-extracts are recognized by order or lot, using the labor cost method.

Indirect Cost

Currently, S&L Pies has not found the technical staff or information system in its premises of operations,to implement the activity-based costing (ABC) approach. S&L Pies might be able to effectively track overheads by process area for a more accurate allocation than a simple plant-wide tariff. As the business grows in the future; it may become possible to add a simple ABC model to improve the overhead cost accuracy.

Product and Period Costs

In the accounting perspective; the product costs comprise of the costs that are necessary to manufacture the core product of the company, such as: in the case of S&L Pies; the core product is the manufacturing of pies and the costs that are used to manufacture the pie, are considered the product costs. Product costs include direct material costs, labor costs and factory overhead costs.

In the decision-making perspective; the managers of the company can include any costs in the product cost if they can directly trace it for the manufacturing purpose of the company’s particular product. So, in this case study, S&L Pies, after the exception of broker’s commission, can assign the direct material cost, direct labor cost and factory overhead cost in the product cost category. The period and product costs are as follows:

Table 1.1

Cost Category Product Period
Raw Materials  $   327,934  $           –
Bakery labor  $   158,767  $           –
Administration Salaries (incl. taxes and benefits)  $     41,367  $           –
Supplies (e.g., spices, spoons, packaging)  $      3,833  $           –
Freight & Shipping-In  $      4,907  $           –
Freight & Shipping-Out  $     64,707  $           –
Utilities Electricity  $      9,813  $           –
Utilities Gas (ovens)  $      3,067  $           –
Water  $         920  $           –
Repairs & Maintenance  $      4,293  $           –
Rent expense (Building; 85% production, 15% admin)  $     16,292  $      2,875
Telephone & Internet (administrative)  $           –  $      2,300
CEO salary  $           –  $    25,300
Brokers’ commissions (4% of sales)  $           –  $    30,667
Total Expenses  $   635,900  $    61,142

Part 2

National Fast-Food Chain Option

The first option for the company is from the national fast-food chain that guarantees a three years agreement, which is extendable if the fast-food chain finds it successful. By using the analysis presented in the table 2.1; it is observed that the three years’ agreement will help to increase the company’s profits by around 495 thousand dollars in next three years, with the return on investment of 33.33 percent. If this agreement is extended to the further next three years then it will accumulate an increased-profit of 990 thousand dollars in the next six years, with the return on investment of 33.33 percent. In conclusion, it has been found that the order from the fast food chain would increase the overall profits for the company along with the return on investment, even if the project is only accepted for three years.

Table 2.1

  3 Years Extension
Price per unit $           1.50 $               1.50
volume 2,200,000 4,400,000
Investment $      500,000 $          500,000
Margin in % 15% 15%
Time frame in months 36 72
Incremental Revenues $    3,300,000 $       6,600,000
Incremental Costs $    2,805,000 $       5,610,000
Incremental Profit $      495,000 $          990,000
Incremental Profit per year $      165,000 $          165,000
ROI (per year) 33% 33%
Payback period in years 3.03 3.03

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