Chapter 5, Problem 5.37P

Activity-based costing, merchandising. Pharmahelp, Inc., a distributor of special pharmaceutical products, operates at capacity and has three main market segments:

1. a. General supermarket chains
2. b. Drugstore chains
3. c. Mom-and-pop single-store pharmacies

Rick Flair, the new controller of Pharmahelp, reported the following data for 2017.

For many years, Pharmahelp has used gross margin percentage

[(Revenue– Cost of goods sold) ÷ Revenue] to evaluate the relative profitability of its market segments. But Flair recently attended a seminar on activity-based costing and is considering using it at Pharmahelp to analyze and allocate “other operating costs.” He meets with all the key managers and several of his operations and sales staff, and they agree that there are five key activities that drive other operating costs at Pharmahelp:

Activity Area	Cost Driver
Order processing	Number of customer purchase orders
Line-item processing	Number of line items ordered by customers
Delivering to stores	Number of store deliveries
Cartons shipped to store	Number of cartons shipped
Stocking of customer store shelves	Hours of shelf-stocking

Each customer order consists of one or more line items. A line item represents a single product (such as Extra-Strength Tylenol Tablets). Each product line item is delivered in one or more separate cartons. Each store delivery entails the delivery of one or more cartons of products to a customer. Pharmahelp’s staff stacks cartons directly onto display shelves in customers’ stores. Currently, there is no additional charge to the customer for shelf-stocking and not all customers use Pharmahelp for this activity. The level of each activity in the three market segments and the total cost incurred for each activity in 2017 is as follows:

1. 1. Compute the 2017 gross-margin percentage for each of Pharmahelp’s three market segments.

  Required

1. 2. Compute the cost driver rates for each of the five activity areas.
2. 3. Use the activity-based costing information to allocate the $301,080 of “other operating costs” to each of the market segments. Compute the operating income for each market segment.
3. 4. Comment on the results. What new insights are available with the activity-based costing information?