GG Toys WAC (Final)

G.G.
TOYS
Written Analysis of the Case
Prepared by: Adjarani, Alberto, Andalahao, Palma, Wee J., Yap
I. STATEMENT OF THE PROBLEM
In the light of increasing production costs and diminishing profit margins for its products, what
actions should G.G. Toys (The Company) take to improve its profitability over the next twelve
(12) months?
II. OBJECTIVES
The primary objective of this paper is to formulate a recommendation that is in the best interest
of The Company given existing and potential circumstances. Specifically, this paper aims to:
To recommend a costing system that would better reflect the contribution and profit
margin of The Companys products than the existing system.
To compare and contrast the profit margins computed using old costing system and the
proposed costing system.
To recommend marketing strategies (e.g. pricing matrix, advertising strategies) that

would help increase revenues and profits based on the new analysis of costs and profits
To address the issue of excess capacity from October to June due to the seasonality of
The Companys Holiday Reindeer doll
To provide an analysis that would help The Company decide on whether to produce the
Romaine Patch Doll
To identify potential problems that may arise from the recommended course of action
III. AREAS OF CONSIDERATION

SWOT Analysis The Company
STRENGTHS
Leading and established supplier of
high quality dolls
Unique and durable design of products
High demands for products from retail
outlets
Separate manufacturing plants (for the
dolls and its cradles) which contributes
to ease of managing production and
efficiency
Supplies of raw materials come from
accessible sources
WEAKNESSES
Misleading cost system which distorts
profit margins of each product
Separate manufacturing plants (for the
dolls and its cradles) which can be a
reason why overhead costs are high
Multiple set-ups required for each
product line
Failure to adjust prices in spite of
increasing production costs
Static marketing strategies
Idle capacity
OPPORTUNITIES
THREATS
New product lines (e.g. Holiday

reindeer dolls, Romaine dolls)
Production of dolls made from scrap
and recycled materials
Partnership with complementary
businesses
Innovation in product lines
Unutilized capacity that may be used
for current operations
Rising production costs (especially raw

materials)
Competition from other doll
manufacturers
Uncatered demand that may lead to
customer dissatisfaction and low
retention
ABC Costing
PHASE 1: Computation of OH Rate per Cost Driver
Overhead cost pool
Machine Related
Setup Labor Related
Production Order
Related
Packaging and Shipping
Plant Mgmt. & Facilities
Cost driver
Machine hours
No. of production set-ups
No. of production runs
No. of shipments
Production units
Total
cost* (A)
$112,000
$13,333
Capacity
Levels* (B)
11,200 hrs.
160 setups
Rate per unit of

cost driver (A/B)
$10
$83.33
$63,000
161 runs
$391.30
$53,000
$40,000
350 shipments
27,000 units
$151.43
$1.48
*total cost and capacity levels is obtained from the Exhibits (March 2000 Production Data)
PHASE 2: Allocation* of OH Costs to the Products

Overhead costs
Machine runs
Facilities
Setups
Production runs
Number of shipments
Total allocated OH
Divide: Units produced
Cost of OH per unit
Geoffrey Doll
$37,500
11,111.11
833.31
3,913.04
1,514.29
$54,871.75
7,500
$7.32
Specialty Branded # 106

$12,000
5,925.93
8,333.13
39,130.43
33,314.29
$98,703.77
4,000
$24.68
Cradles
$0
4,444.44
0
391.30
7,571.43
$12,407.17
3,000
$4.14
*allocation is done by multiplying the rate per cost driver (A/B, computed in Phase 1) by the level of activity for
each product (shown in Exhibit 4)
PHASE 3: Computation of Gross Margins using Unit Costs

Costs
Geoffrey Doll
Direct Labor cost

Direct Materials cost
Manufacturing Overhead (ABC Costing)
Standard Unit cost
Selling Price
Gross margin
Gross margin % (ABC Costing)
$3.00
5.00
7.32
$15.32
21.00
$5.68
Specialty Branded
#106
$3.75
6.00
24.68
$34.43
36.00
$1.57
27.05%
4.37%
Cradles
$7.50
12.00
4.14
$23.64
30.00
$6.36
21.20%
Comparative Analysis of Gross margins: Traditional vs. ABC Costing

Traditional
(Single-allocation
base)
Activity Based
Costing (ABC)
Analysis
Geoffrey Doll
Specialty Branded #106
Cradles
9.00%
34.00%
21.00%
27.05%
4.37%
21.20%
Traditional costing has

resulted to the overcosting of Geoffrey
dolls
Traditional costing has

resulted to the undercosting of Geoffrey dolls.
No significant
difference between the
two cost systems due to
the same allocation
bases
Rationale behind ABC Costing

In the Chicago plant, The Company should modify its existing cost accounting system from
traditional costing to activity-based costing (ABC). In allocating overhead as a percentage of
direct labor cost, the resulting margins for the product lines do not properly reflect the overhead
costs attributable to the same. Using one cost driver distorts the allocation of overhead costs. The
effects are pervasive since manufacturing overhead at the Chicago plant is very high (about 95%
of the overall GG Toys manufacturing overhead). Each doll requires different amounts of
machine hours and other variable costs. By using ABC Costing, each specific category of doll
would have a different manufacturing overhead (and consequently, a different contribution
margin) allocated to it. The more accurate allocation shall be used in measuring profitability and
in decision making for production levels. For the Springfield plant, there is no significant benefit
in changing the cost system since the traditional system yields almost the same cost allocation.
Therefore, the new system shall only be used for the Chicago plant to minimize implementation
costs.
Excess Capacity from October to June
The case stated that The Company acquired additional machines and leased space specifically for
the production of its seasonal product - Holiday Reindeer Doll, which is only saleable for three
months (July, August and September). This means that payments of rent and depreciation (which
are year-round expenses) do not generate any form of revenue for nine (9) months. The case is
silent as to whether these machines may be used for the production of other product lines and the
terms of the lease. Assuming the same, the Company can do the following to fully or partially
recover the costs resulting from the unused capacity:
a. Sublease the space to a third party
b. Use the excess capacity to produce other product lines in anticipation of high demand for
the same in the holiday season.
Romaine Patch Doll: To Produce or Not?
Based on the case, the computation of the Romaine Patch Dolls expected contribution margin is
as follows:
Contribution margin (CM) = Sales Price (SP) Labor Cost (DL) Materials Cost (DM)
CM = $8.00 3.00 6.00
CM = $(1.00)
The negative contribution margin attributed to this proposed product may be a result of an
erroneous estimate in price, cost or both. The case mentions that the Romaine Patch Doll will be
manufactured using scrap or leftover materials from the doll pajamas of the regular and
specialty dolls. The decision of what should be done for this product line depends on the
assumption on whether the scrap costs were accounted for in the computation of direct materials
cost for the existing product lines as shown in Exhibit 3.
Assumption #1: The costs of scrap materials have been included in the allocation of materials
cost per unit to the regular and specialty dolls
Implication: This means that the direct materials cost for Romaine Patch Dolls is essentially
zero, giving it a positive contribution margin of $5.00 (i.e. $8.00 3.00).
Assumption #2: The costs of scrap materials have NOT been included in the allocation of
materials cost per unit to the regular and specialty dolls
Implication: This simply means that the estimated selling price of the dolls should be increased
to recover the costs of manufacturing it.
IV. ALTERNATIVE COURSES OF ACTION (ACOAs)

Using the new costing system (ABC), the following are the alterative courses of action that the
proponents have come up with. Each course of action is a combination of decisions and
approaches that address the multiple issues and concerns identified in this paper:
ACOA #1:
Increase price of Specialty-Branded Doll #106 to earn a gross profit margin of at

least 15%
Retain price of Geoffrey Dolls
Use idle capacity to produce more regular dolls in anticipation of possible increase
in sales volume during holiday season
Pursue with the production and sale of Romaine Patch Doll using the original
sales price of $8.00
Assuming that there will be price increases for the Specialty-Branded Doll #106, the price that
increase that would have to be suggested would be:
Cost per unit (ABC Costing)
Divide: Target cost margin
Target sales price
Current unit sales price
Increase in unit sales price
$34.43
__85%__
$40.51
__36.00__
$4.51
Assuming that there will be no changes in cost structure and that the number of units sold and
produced is the same, this will increase total profits by $18,040 ($4.51 x 4,000 units).
ACOA #2:
Temporarily discontinue the production of Specialty-Branded Doll #106
Do not pursue with the production and sale of Romaine Patch Doll
Focus on the marketing and innovation of Geoffrey Dolls
Use idle capacity to produce more Geoffrey Dolls in anticipation of possible increase
in sales volume during holiday season
This course of action emphasizes on the development and marketing of The Companys flagship
product which is the Geoffrey Dolls. In spite of the strong competition, the case makes it clear
the G.G. Toys has better market positioning and branding. What needs to be done
ACOA #3:

least 20%
Decrease price of Geoffrey Dolls to complement the increase in the price of Doll
#106
in sales volume during holiday season;
Pursue with the production and sale of Romaine Patch Doll, with sales price
determined using a cost + mark-up approach instead of a predetermined sales
price
Limit the variety of Specialty Doll #106 and impose a minimum order in units
Improve efficiency in shipping to decrease shipping costs
V. RECOMMENDATION
ACOA #3:

least 20%
Decrease price of Geoffrey Dolls to complement the increase in the price of Doll
#106
in sales volume during holiday season;
Pursue with the production and sale of Romaine Patch Doll, with sales price
determined using a cost + mark-up approach instead of a predetermined sales
price
Limit the variety of Specialty Doll #106 and impose a minimum order of units
Improve efficiency in shipping to decrease shipping costs
Rationale:
In spite of the low profit margins, it would not be advisable to discontinue the Specialty Branded
Dolls #106 product line. The positive margin still suggest that the product helps recover fixed
overhead costs and is contributing in the profits of the Company. Discontinuing the product line
would only decrease operating profits further since attributable fixed costs will not be avoided
but only redistributed to other existing products.
VII. ACTION PLAN

Time frame
Activity
Department or
Person in-charge
Estimated Budget
Apply the use of ABC Costing in

the Chicago Plant while retaining
the use of traditional costing in the
Springfield Plant
Assess current machinery to
determine efficiency lapses that
lead to long production runs; repair
or replace if necessary
Market
VII. POTENTIAL PROBLEM ANALYSIS

a. Due to changing production levels and shifts in practical capacity, it would be difficult
and costly for management to implement ABC Costing for its products, especially now
that it is proposing to introduce new products in the market.
b. There is no assurance that the market will respond to changes in the price since demand
elasticity cannot be derived from the information in the case.
c. Further increases in manufacturing costs, especially raw materials, may pose problems in
standardizing unit product costs for each product line.

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G.G.

To recommend marketing strategies (e.g. pricing matrix, advertising strategies) that

III. AREAS OF CONSIDERATION

New product lines (e.g. Holiday

Rising production costs (especially raw

Rate per unit of

PHASE 2: Allocation* of OH Costs to the Products

Specialty Branded # 106

PHASE 3: Computation of Gross Margins using Unit Costs

Direct Labor cost

Comparative Analysis of Gross margins: Traditional vs. ABC Costing

Specialty Branded #106

Traditional costing has

Traditional costing has

Rationale behind ABC Costing

IV. ALTERNATIVE COURSES OF ACTION (ACOAs)

Increase price of Specialty-Branded Doll #106 to earn a gross profit margin of at

Retain price of Geoffrey Dolls

Temporarily discontinue the production of Specialty-Branded Doll #106

Focus on the marketing and innovation of Geoffrey Dolls

Increase price of Specialty-Branded Doll #106 to earn a gross profit margin of at

Improve efficiency in shipping to decrease shipping costs

Increase price of Specialty-Branded Doll #106 to earn a gross profit margin of at

Improve efficiency in shipping to decrease shipping costs

VII. ACTION PLAN

Apply the use of ABC Costing in

VII. POTENTIAL PROBLEM ANALYSIS

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