Essay: The Wilkerson company

The Wilkerson company faces a huge financial deficit and though the company demonstrates leading quality, its leadership and product line are being opposed by its numerous competitors. The product lines for Wilkerson are pumps, valves and flow controllers that they supply to manufacturers of water purification equipment. Pumps are a major product line for Wilkerson and they are produced in high volumes for their specific market. Due to the high price competition, competitors have cut their costs leading to a 20% decline in gross margin for pump sales. To keep up with the prices of competitors, Wilkerson too, was forced to reduce its prices but doing so has lead to significant decline in company profits. Wilkerson Company believes that unlike them who use their product expenses as period expenses, the competitors are using overhead expenses. Wilkerson’s sales of other products, however, has remained untouched; Flow controllers, that are customized products, are sold in a less competitive market with inelastic demand at the same price range and Valves are conventional products, produced and shipped in large quantities with an unchanged gross margin of 35%.
The issues that persists with the company’s current standard pricing method is that the total cost of every product produced is not dependable; their current simple system presumes the overhead costs correlate with the labor costs at a 300% rate. The ratio of overhead costs, is 52.50% according to Exhibit 1, which is extremely high and as the overhead costs are not in proportion to the units produced, this number and method is ambiguous. It does not give a correct depiction of the product costs are the overhead costs have been distributed among the products, which should not have happened. Valves and pumps are standard products, unlike flow controllers that are customized and have double the components, which means that there should be higher unit cost attached to their production but that isn’t the case. Subsequently, it is in the company’s best interest to implement an activity-based costing system.
The ABC (activity-based costing) method determines the relationship between the volume of production of a product and its allocated overhead costs. In Exhibit # 2, it can be observed that there are numerous distinct activity costs and corresponding cost drivers that can precisely calculate costs per product. The ABC method also makes it easier to determine if there are any unprofitable products that the company should consider eliminating or mending. In Exhibit #4, it is obvious that flow controllers are not beneficial products for to Wilkerson to produce as their gross margin is -9.90%. Wilkerson’s existing cost systems shows that flow controllers have a 41% gross margin when in reality they are losing a lot money on every standard flow controller sold. The reasons for the huge gap can be seen in Exhibit # 3. The flow controllers have the highest total manufacturing overhead costs of $333,500 and the least total direct costs of $128,000 out of all three products. Wilkerson’s current system would not identify this huge overhead cost attached to flow controllers but the ABC method does. On the other hand, Valves and pumps have a higher gross margin of 46.3% and 33.1%. These two products are more profitable and beneficial to produce as their margins are higher than presumed by the company, 34.9% and 19.5%. Though it is costly to implement this system, it will provide the company with ore accurate and profitable opportunities in the long term.
In order for Wilkerson to succeed and be profitable, the first suggestion is for the company to change its simple volume-based costing to activity-based costing due to the high cost of overheads and nonexistence of a linear correlation between the volume of activity and production of products. Secondly, the company should reevaluate its production process of flow controllers due to its negative gross margin based on the data acquired by using the ABC method in Exhibits # 2-4. Wilkerson should also consider to raise its prices to a level where the demand of its products isn’t effected. The company should take advantage of their customized products that are sold in less competitive markets and also try to reduce the cost by reducing the many components it requires. The company should consider altering the incentive system in placed for salespersons as it is inefficient because it is based on volume. The salesperson can sell the product for a low cost in order to sell more units which will have a huge negative impact on the company and also ignore the expensive products that have a high demand.