Delaney Motors
Background
• Delaney Motors is a General Motors automobile dealership in Ohio.
• Its operations include new-car sales, used-car sales, parts sales, vehicle lease and rentals, vehicle service, and
automobile body repairing and repainting.
• The dealership was earning almost 5 percent on sales but the reported profit on the body shop operations seemed low to Mr. Delaney.
• Mr. Delaney engaged a consultant to study the body shop operation and make recommendations.
• Most semi variable costs contain a significant portion of common costs.
• Each department benefits from these expenses and should be allocated a portion of these costs.
• Telephone and fixed costs could properly be allocated to
departments if the necessary documentation were available. • The owner’s salary should be allocated accordingly. Industry
data show that owners’ salaries tend to vary with sales volume.
• Units of production, machine-hours, material costs, sales dollars, direct labor costs, and direct labor hours.
• Direct labor hours will provide an acceptable cost allocation base. In the interest of practicality and because other methods clearly are unacceptable, allocating semi variable cost based on direct labor-hours appears to be the most viable alternative. • The financial statements list the number of direct and indirect
employees in each department but failed to disclose the
number of departmental hours worked. It is assumed that all direct employees work approximately the same number of hours per week.
• The number of direct laborers consequently becomes the cost
allocation base for semivariable costs.
• CAR DEALERSHIP: A car dealership or vehicle local distribution is a business that sells new or used cars at the retail level, based on a dealership contract with an automaker or its sales subsidiary. It
employs automobile salespeople to do the selling. It may also
provide maintenance services for cars, thus employing automotive technicians, stock and sell spare automobile parts, and
process warranty claims. (Wikipedia.com)
• BODY SHOP: A body shop is a facility for the repair and restoration of automobiles. The staff is trained to deal specifically with damage to the body and frame of a car, such as that which might be incurred in a collision. Repairing damages to the body of a car or the frame can get quite complicated, and as a result a trip to the body shop is rarely cheap. (wisegeek.com)
The Problem
• Delaney Motors sees lower earnings in its body shop
operations. Frank Delaney, owner of the General Motors (GM) dealership business, hired a consultant to analyze the issues faced by this profit center. The consultant found out that some costs are not properly allocated.
• The consultant then made a report regarding the Body Shop profitability. He also provided alternative options such as to sell the shop, lease the shop and increase/decrease prices. Mr. Delaney considered these recommendations, however he was more concerned of providing quality service than
Exhibit 1 Analysis of Body Shop Profitability Line
1 Sales: body shop $306,652
2 Gross profit: body shop 91,107
3 Gross profit percentage (line 2 ÷ line 1) 29.7% Analysis of Semivariable Costs
4 Legal and auditing (body shop) 0
5 Owner’s salary (body shop) 0
6 Telephone and telegraph (body shop) 839
7 Total body shop semivariable costs 839
8 Legal and auditing (company) 2,113
9 Owner’s salary (company) 21,600
10 Telephone and telegraph (company) 21,676
11 Total company semivariable cost 45,389
12 Body shop percentage (line 7 ÷ line 11) 1.85% 13 Body shop employees as percent of total (5/23) 21.7% 14 Revised body shop semivariable costs (line 11 ÷ line 13) 9,867 15 Increase in body shop semivariable costs (line 14 – line 7) 9,028
Exhibit 1 Analysis of Body Shop Profitability cont. Analysis of Fixed Cost
16 Body shop fixed cost, as now allocated $6,106
17 Total company fixed costs 28,815
18 Body shop percentage (line 16 ÷ line 17) 21.19% 19 Revised body shop fixed costs (20% of line 17) 5,763 20 Decrease in body shop fixed cost (line 9 – line 16) (343) Summary of Findings
21 Net increase in costs (line 15 – line 20) 8,685
22 Unrevised body shop profit 9,009
23 Revised body shop profit (line 22 – line 21) (324) 24 Unrevised profit to sales (line 22 ÷ line 1) 2.94% 25 Revised profit to sales (line 23 ÷ line 1) .1%
Competitive Analysis
Delaney Motors
No. 9 No. 6 No. 3
1 Sales, body shop $306,652 $363,662 $505,025 $681,201 3 Gross profit percent 29.7% 32.9% 30% 30.6% 14 Body shop, semivariable 9,867 9,547 13,913 18,177 19 Body shop, fixed 6,106 12,767 11,134 12,233 22 Body shop profit, unrevised 9,009 4,453 26,338 56,401 23 Body shop profit (loss) (324) (8,190) 19,386 36,650 24 Unrevised percent profit to sales 2.94% 1.22% 5.22% 8.28% 25 Revised percent profit to sales .1% (2.25)% 3.84% 5.38%
Questions
• Question 1 Comment on the consultant’s adjustments made in Exhibit 1. Do you agree with each of them? If not, can you
suggest better methods of making the adjustments for the stated purpose?
• Question 2 Assuming Mr. Delaney decides to keep the body shop, and the consultant reports that it is feasible to raise prices, should Mr. Delaney do so? If he does, what general guide can you suggest as to how much prices should be increased?
Answer to Question 1
Item Should be allocated Y/N? Agree to allocation method
Y/N?
Body shop should pay its proportionate share of legal and accounting fees.
YES YES. The method of allocation is based upon direct labor hours,
assuming that each
employee works the same number of hours per week. Owner's salary should not
be charged to the body shop's operations
department but
should be proportionately allocated accordingly
based on sales volume of the whole company.
Answer to Question 1
Item Should be allocated Y/N? Agree to allocation method Y/N?
Mr. Delaney have under allocated overhead to body shop manager, therefore, cost accounting system for this department has to be
changed.
YES NO. Since the body shop manager receives bonus based on a portion of his department's profit, unit overhead cost for this segment should be higher.
Fixed costs for the body shop and dealership
YES YES. Just like the rest of GM dealers, fixed cost should be allocated to the body shop based on the ratio of body shop square footage to dealer's total square footage.
-If can be applied to Delaney Motors, the Volkswagen approach should also apply to the body shop department. The company would then put "weights" on fixed costs then multiply this to the square footage used by the body shop deparment.
