DFR operates a number of retail outlets selling a range of audio-visual products. These products range in size and value from small items such as portable radios that are easily displayed on shelves, to large and expensive equipment such as widescreen televisions. Some of these products take up considerable amounts of retail staff time advising customers at the point of sale. DFR has a warehouse that it uses for storage of its products before they are delivered to its retail outlets using its own transport fleet. The warehouse and the retail outlets are all based in one country, but some of the outlets are significantly closer to the warehouse than others. At present, warehousing costs are analysed between storage costs and distribution costs and these are then apportioned to retail outlets on the basis of the sales value of orders delivered. Retail outlet costs (including rent, heating and staff costs) are attributed to individual products based on their sales values. For some time, the management of DFR has been considering the introduction of an Activity Based Costing (ABC) system. The management team has heard that this is a more accurate system of costing than that which is currently used, particularly since some of DFR’s products require more involvement of staff in the retail outlets in advising customers of the meaning of the product specifications.

Required:
You have been appointed as a management accountant by DFR to introduce an ABC system. Prepare a report addressed to the Board of Directors of DFR that:
a) Explains the weaknesses of the present method used by DFR when attributing costs to products and its implications for cost control and product profitability. (9 marks)
b) States the principles of ABC. (4 marks)
c) Explains, with suitable examples, how DFR’s warehouse storage and distribution
costs and retail outlet costs could be attributed to individual products using an ABC system. (8 marks)
d) Explains how DFR will benefit from the introduction of an ABC system. (4 marks) (Total = 25 marks)