462 ACCOUNTING FOR MANAGERS
(scheduling) and deliveries. Contrary to the position in Table A3.6(b), Table A3.6(c)
shows that Cryod makes the highest gross profit, followed by Yogen, whereas
Genet makes a gross loss. Looking at the information in Table A3.6(c), we can
see that most of the overhead is allocated to the Cryod because, on a cost driver
basis, that product is consuming more of the four cost pools of overhead. The
activity-based approach provides a more accurate allocation of overheads to prod-
ucts because it looks at the causes of costs rather than allocating overheads on an
arbitrary basis, such as labour or machine hours.
Table A3.6(d) adopts a throughput accounting perspective, which treats materi-
als as the only variable cost and identifies the ‘value added’ per unit of the capacity
that limits the volume of production. Assuming that machine hours are the capac-
ity limitation, throughput accounting suggests that the maximum contribution can
be achieved from the Yogen, followed by the Genet and the Cryod. It is important
to remember that while this information is useful, it does not take into account the
overheads that are needed to support each product. Throughput accounting is a
valuable tool in making optimum use of capacity, but is not a substitute for the
other methods, unless overheads are either relatively insignificant or difficult to
allocate accurately to individual products.
Table A3.6(d) also shows the profitability using a target pricing approach.
Target pricing takes into consideration the capital investment needed to support
each product and the cost of capital of the business. Table A3.6(d) shows that the
main investments are in the Yogen and the Cryod, which are expected to generate
the highest return.
Each presentation of information provides different information. Assuming that
activity-based costing provides the most meaningful allocation of overhead costs,
then we should maximize sales of Cryods and Yogens. Genets consume more
overheads than they contribute. This requires investigation: either the selling price
is too low, or costs are too high to support that product. Continued sales of the
Genet are likely to reduce the overall profitability of the business. This is despite
the low capital investment in the Genet.
The maximum throughput contribution comes from the Yogen and the least
from the Cryod. This suggests a need to look at the manufacturing methods for
the Cryod to see if productivity can be improved to reduce the number of machine
hours needed to make this product.
In terms of target pricing, the gross profit made by the Cryod is almost twice
the required return of £300 (10% of £3,000), while the Yogen is a little below
target. However, in neither case have non-manufacturing overheads been taken
into consideration. This leads to the overall conclusion that overhead costs are
very high in the business, resulting in an overall contribution of 45.3% being
reduced to a net profit of 1.2% of sales (£110/£9,300). Overhead cost control
should be the over-riding consideration of Cryogene Corp. Subject to this and
to the above comment about the high number of hours required to produce
the Cryod, Cryogene needs seriously to consider dropping the Genet if costs
cannot be restructured and increase its sales of the Cryod and the Yogen. It is
important to note that if Cryogene used labour hours or machine hours to allocate