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CHAPTER 5

ACTIVITY-BASED COSTING AND ACTIVITY-BASED MANAGEMENT


5-1 Broad averaging (or peanut-butter costing) describes a costing approach that uses broad
averages for assigning (or spreading, as in spreading peanut butter) the cost of resources
uniformly to cost objects when the individual products or services, in fact, use those resources in
non-uniform ways.
Broad averaging, by ignoring the variation in the consumption of resources by different
cost objects, can lead to inaccurate and misleading cost data, which in turn can negatively impact
the mareting and operating decisions made based on that information.
5-2 !vercosting may result in overpricing and competitors entering a maret and taing
maret share for products that a company erroneously believes are low-margin or even
unprofitable.
"ndercosting may result in companies selling products on which they are in fact losing
money, when they erroneously believe them to be profitable.
5-3 #osting system refinement means maing changes to a simple costing system that
reduces the use of broad averages for assigning the cost of resources to cost objects and provides
better measurement of the costs of overhead resources used by different cost objects.
$hree guidelines for refinement are
%. #lassify as many of the total costs as direct costs as is economically feasible.
&. '(pand the number of indirect cost pools until each of these pools is more
homogenous.
). "se the cause-and-effect criterion, when possible, to identify the cost-allocation base
for each indirect-cost pool.
5-4 *n activity-based approach refines a costing system by focusing on individual activities
(events, tass, or units of wor with a specified purpose) as the fundamental cost objects. +t uses
the cost of these activities as the basis for assigning costs to other cost objects such as products
or services.
5-5 ,our levels of a cost hierarchy are
(i) !utput unit-level costs- costs of activities performed on each individual unit of a
product or service.
(ii) Batch-level costs- costs of activities related to a group of units of products or
services rather than to each individual unit of product or service.
(iii) .roduct-sustaining costs or service-sustaining costs- costs of activities undertaen to
support individual products or services regardless of the number of units or batches
in which the units are produced.
(iv) ,acility-sustaining costs- costs of activities that cannot be traced to individual
products or services but support the organi/ation as a whole.
5-6 +t is important to classify costs into a cost hierarchy because costs in different cost pools
relate to different cost-allocation bases and not all cost-allocation bases are unit-level. ,or
e(ample, an allocation base lie setup hours is a batch-level allocation base, and design hours is
a product-sustaining base, both insensitive to the number of units in a batch or the number of
units of product produced. +f costs were not classified into a cost hierarchy, the alternative would
0-%
be to consider all costs as unit-level costs, leading to misallocation of those costs that are not
unit-level costs.
5-7 *n *B# approach focuses on activities as the fundamental cost objects. $he costs of
these activities are built up to compute the costs of products, and services, and so on. 1imple
costing systems have one or a few indirect cost pools, irrespective of the heterogeneity in the
facility while *B# systems have multiple indirect cost pools. *n *B# approach attempts to use
cost drivers as the allocation base for indirect costs, whereas a simple costing system generally
does not. $he *B# approach classifies as many indirect costs as direct costs as possible. *
simple costing system has more indirect costs.
5-8 ,our decisions for which *B# information is useful are
%. pricing and product mi( decisions,
&. cost reduction and process improvement decisions,
). product design decisions, and
2. decisions for planning and managing activities.
5-9 3o. 4epartment indirect-cost rates are similar to activity-cost rates if (%) a single activity
accounts for a si/able fraction of the department5s costs, or (&) significant costs are incurred on
different activities within a department but each activity has the same cost-allocation base, or ())
significant costs are incurred on different activities with different cost-allocation bases within a
department but different products use resources from the different activity areas in the same
proportions.
5-10 $ell-tale signs that indicate when *B# systems are liely to provide the most benefits
are as follows-
%. 1ignificant amounts of indirect costs are allocated using only one or two cost pools.
&. *ll or most indirect costs are identified as output-unit-level costs (i.e., few indirect
costs are described as batch-level, product-sustaining, or facility-sustaining costs).
). .roducts mae diverse demands on resources because of differences in volume,
process steps, batch si/e, or comple(ity.
2. .roducts that a company is well suited to mae and sell show small profits, whereas
products that a company is less suited to produce and sell show large profits.
0. !perations staff has significant disagreements with the accounting staff about the
costs of manufacturing and mareting products and services.
5-11 $he main costs and limitations of *B# are the measurements necessary to implement the
systems. 'ven basic *B# systems re6uire many calculations to determine costs of products and
services. *ctivity-cost rates often need to be updated regularly. 7ery detailed *B# systems are
costly to operate and difficult to understand. 1ometimes the allocations necessary to calculate
activity costs often result in activity-cost pools and 6uantities of cost-allocation bases being
measured with error. 8hen measurement errors are large, activity-cost information can be
misleading.
5-12 3o, *B# systems apply e6ually well to service companies such as bans, railroads,
hospitals, and accounting firms, as well merchandising companies such as retailers and
distributors.
0-&
5-13 3o. *n activity-based approach should be adopted only if its e(pected benefits e(ceed its
e(pected costs. +t is not always a wise investment. +f the jobs, products or services are alie in
the way they consume indirect costs of a company, then a simple costing system will suffice.
5-14 +ncreasing the number of indirect-cost pools does 3!$ guarantee increased accuracy of
product or service costs. +f the e(isting cost pool is already homogeneous, increasing the number
of cost pools will not increase accuracy. +f the e(isting cost pool is not homogeneous, accuracy
will increase only if the increased cost pools themselves increase in homogeneity vis-9-vis the
single cost pool.
5-15 $he controller faces a difficult challenge. $he benefits of a better accounting system
show up in improved decisions by managers. +t is important that the controller have the support
of these managers when seeing increased investments in accounting systems. 1tatements by
these managers showing how their decisions will be improved by a better accounting system are
the controller5s best arguments when seeing increased funding. ,or e(ample, the new system
will result in more accurate product costs which will influence pricing and product mi(
decisions. $he new system can also be used to reduce product costs which will lower selling
prices. *s a result, the customer will benefit from the new system.
0-)
5-16 (20 min.) Cost hierarchy.
%. a. +ndirect manufacturing labor costs of :%,20;,;;; support direct manufacturing labor
and are output unit-level costs. 4irect manufacturing labor generally increases with
output units, and so will the indirect costs to support it.
b. Batch-level costs are costs of activities that are related to a group of units of a product
rather than each individual unit of a product. .urchase order-related costs (including
costs of receiving materials and paying suppliers) of :<0;,;;; relate to a group of
units of product and are batch-level costs.
c. #ost of indirect materials of :&=0,;;; generally changes with labor hours or machine
hours which are unit-level costs. $herefore, indirect material costs are output unit-
level costs.
d. 1etup costs of :>);,;;; are batch-level costs because they relate to a group of units
of product produced after the machines are set up.
e. #osts of designing processes, drawing process charts, and maing engineering
changes for individual products, :==0,;;;, are product-sustaining because they relate
to the costs of activities undertaen to support individual products regardless of the
number of units or batches in which the product is produced.
f. ?achine-related overhead costs (depreciation and maintenance) of :%,0;;,;;; are
output unit-level costs because they change with the number of units produced.
g. .lant management, plant rent, and insurance costs of :@&0,;;; are facility-sustaining
costs because the costs of these activities cannot be traced to individual products or
services but support the organi/ation as a whole.
&. $he comple( boom bo( made in many batches will use significantly more batch-level
overhead resources compared to the simple boom bo( that is made in a few batches. +n addition,
the comple( boom bo( will use more product-sustaining overhead resources because it is
comple(. Because each boom bo( re6uires the same amount of machine-hours, both the simple
and the comple( boom bo( will be allocated the same amount of overhead costs per boom bo( if
Aamilton uses only machine-hours to allocate overhead costs to boom bo(es. *s a result, the
comple( boom bo( will be undercosted (it consumes a relatively high level of resources but is
reported to have a relatively low cost) and the simple boom bo( will be overcosted (it consumes
a relatively low level of resources but is reported to have a relatively high cost).
). "sing the cost hierarchy to calculate activity-based costs can help Aamilton to identify
both the costs of individual activities and the cost of activities demanded by individual products.
Aamilton can use this information to manage its business in several ways-
a. .ricing and product mi( decisions. Bnowing the resources needed to manufacture and
sell different types of boom bo(es can help Aamilton to price the different boom
bo(es and also identify which boom bo(es are more profitable. +t can then emphasi/e
its more profitable products.
b. Aamilton can use information about the costs of different activities to improve
processes and reduce costs of the different activities. Aamilton could have a target of
reducing costs of activities (setups, order processing, etc.) by, say, )C and constantly
see to eliminate activities and costs (such as engineering changes) that its customers
perceive as not adding value.
c. Aamilton management can identify and evaluate new designs to improve performance
by analy/ing how product and process designs affect activities and costs.
d. Aamilton can use its *B# systems and cost hierarchy information to plan and
manage activities. 8hat activities should be performed in the period and at what costD
0-2
5-17 (&0 min.) ABC, c!" #$%&'&c#(, !%&)$c%*
%. !utput unit-level costs
a. 4irect-labor costs, :%2>,;;;
b. '6uipment-related costs (rent, maintenance, energy, and so on), :)0;,;;;
$hese costs are output unit-level costs because they are incurred on each unit of materials
tested, that is, for every hour of testing.
Batch-level costs
c. 1etup costs, :2);,;;;
$hese costs are batch-level costs because they are incurred each time a batch of materials
is set up for either A$ or 1$, regardless of the number of hours for which the tests are
subse6uently run.
1ervice-sustaining costs
d. #osts of designing tests, :&>2,;;;.
$hese costs are service-sustaining costs because they are incurred to design the A$ and
1$ tests, regardless of the number of batches tested or the number of hours of test time.
&.
Heat Testing (HT) Stress Testing (ST)
Total
(1)
Per Hour
(2) = (1) 40,000
Total
(3)
Per Hour
(4) = (3) 30,000
Direct labor costs (given) $100,000 $ 2.50 $ 46,000 $ 1.53
Equipment-related costs
$5 per hour* 40,000 hours 200,000 5.00
$5 per hour* 30,000 hours 150,000 5.00
Setup costs
$25 per setup-hour

13,600 setup-hours 340,000 8.50


$25 per setup-hour

3,600 setup-hours 90,000 3.00


Costs of designing tests
$60 per hour** 3,000 hours 180,000 4.50
$60 per hour** 1,400 hours 84,000 2 .80
Total costs $820,000 $20 .50 $370,000 $12 .33
E:)0;,;;; (2;,;;; F );,;;;) hours G :0 per test-hour
H
:2);,;;; (%),>;; F ),>;;) setup hours G :&0 per setup-hour
EE:&>2,;;; (),;;; F %,2;;) hours G :>; per hour
*t a cost per test-hour of :%=, the simple costing system undercosts heat testing (:&;.0;) and
overcosts stress testing (:%&.))). $he reason is that heat testing uses direct labor, setup, and
design resources per hour more intensively than stress testing. Aeat tests are more comple(, tae
longer to set up, and are more difficult to design. $he simple costing system assumes that testing
costs per hour are the same for heat testing and stress testing.
0-0
). $he *B# system better captures the resources needed for heat testing and stress testing
because it identifies all the various activities undertaen when performing the tests and
recogni/es the levels of the cost hierarchy at which costs vary. Aence, the *B# system generates
more accurate product costs.
7ineyard5s management can use the information from the *B# system to mae better
pricing and product mi( decisions. ,or e(ample, it might decide to increase the prices charged
for the more costly heat testing and consider reducing prices on the less costly stress testing.
7ineyard should watch if competitors are underbidding 7ineyard in stress testing, and causing it
to lose business. 7ineyard can also use *B# information to reduce costs by eliminating
processes and activities that do not add value, identifying and evaluating new methods to do
testing that reduce the activities needed to do the tests, reducing the costs of doing various
activities, and planning and managing activities.
0->
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1an *ntonio 4ominion :&<,%)& :&>,<@;
*msterdam 'nterprises %2,;@& %>,;@;
:2&,&&2 :2&,@<;
Both clients use =; hours of professional labor time. Aowever, 1an *ntonio 4ominion uses a
higher proportion of 8alliston5s time (&> hours), which is more costly. $his attracts the highest
support-services charge when allocated on the basis of direct professional labor costs.
0-=
). *ssume that the 8alliston Jroup uses a cause-and-effect criterion when choosing the
allocation base for support services. Kou could use several pieces of evidence to determine
whether professional labor costs or hours is the driver of support-service costs-
a. Interviews with personnel. ,or e(ample, staff in the major cost categories in support
services could be interviewed to determine whether 8alliston re6uires more support
per hour than, say, *bbington. $he professional labor costs allocation base implies
that an hour of 8alliston5s time re6uires >.2; (:>2; L :%;;) times more support-
service dollars than does an hour of *bbington5s time.
b. Analysis of tasks undertaken for selected clients. ,or e(ample, if computer-related
costs are a si/able part of support costs, you could determine if there was a systematic
relationship between the percentage involvement of professionals with high billing
rates on cases and the computer resources consumed for those cases.
0-<
5-19 (&; min.) P+',"8$2%, 2%/'&"0%," ',2 ABC $,2$&%c" c!" &'"%!*
%.
*ctual plant-wide variable
?!A rate based on machine
hours, :);<,>;;

2,;;; :==.%0 per machine hour



9,$"%2
M"&!
H+2%,
M"&!
:%+',2
V%#$c+% T"'+
7ariable manufacturing overhead, allocated
based on machine hours
(:==.%0

%&;M :==.%0

&,<;;M :==.%0

%,;<;) :@,&0<
:&%>,;&
;
:<),)&
& :);<,>;;
&.
D%/'&"0%,"
V'&$'-+% MOH
$, 2011
T"'+
D&$)%& 9,$"! R'"%
4esign :)@,;;; )@; :%;; per #*4-design hour
.roduction &@,>;; )=; : <;
per engineering hour
'ngineering &2;,;;; 2,;;; : >;
per machine hour
9,$"%2
M"&!
H+2%,
M"&!
:%+',2
V%#$c+% T"'+
4esign-related overhead, allocated on #*4-design hours
(%%; :%;;M &;; :%;;M <; :%;;)
:%%,;;; : &;,;;;
:
<,;;; : )@,;;;
.roduction-related overhead, allocated on engineering hours
(=; :<;M >; :<;M &2; :<;)
0,>;; 2,<;; %@,&;; &@,>;;
'ngineering-related overhead, allocated on machine hours
(%&; :>;M &,<;; :>;M %,;<; :>;) =,&;; %><,;;;
>2,<;
; &2;,;;;
$otal
:&),<;; :%@&,<;;
:@&,;;
; :);<,>;;
).
9,$"%2
M"&!
H+2%,
M"&!
:%+',2
V%#$c+%
a. 4epartment rates
(Ie6uirement &)
b. .lantwide rate
(Ie6uirement %)
:&),<;;
: @,&0<
:%@&,<;;
:&%>,;&;
:@&,;;;
:<),)&&
Iatio of (a) L (b) &.0= ;.<@ %.%;
$he variable manufacturing overhead allocated to "nited ?otors increases by %0=C under the
department rates, the overhead allocated to Aolden decreases by about %%C and the overhead
allocated to Neland increases by about %;C.
$he three contracts differ si/ably in the way they use the resources of the three
departments.
0-@
$he percentage of total driver units in each department used by the companies is-
D%/'&"0%,"
C!"
D&$)%&
9,$"%2
M"&!
H+2%,
M"&!
:%+',2
V%#$c+%
4esign
'ngineering
.roduction
#*4-design hours
'ngineering hours
?achine hours
&<C
%@
)
0%C
%>
=;
&%C
>0
&=
$he "nited ?otors contract uses only )C of total machines hours in &;%%, yet uses &<C
of #*4 design-hours and %@C of engineering hours. $he result is that the plantwide rate, based
on machine hours, will greatly underestimate the cost of resources used on the "nited ?otors
contract. $his e(plains the %0=C increase in indirect costs assigned to the "nited ?otors
contract when department rates are used. $he Neland 7ehicle contract also uses far fewer
machine-hours than engineering-hours and is also undercosted.
+n contrast, the Aolden ?otors contract uses less of design (0%C) and engineering (%>C)
than of machine-hours (=;C). Aence, the use of department rates will report lower indirect costs
for Aolden ?otors than does a plantwide rate.
Aolden ?otors was probably complaining under the use of the simple system because its
contract was being overcosted relative to its consumption of ?!A resources. "nited and Neland,
on the other hand, were having their contracts undercosted and underpriced by the simple
system. *ssuming that *. is an efficient and competitive supplier, if the new department-based
rates are used to price contracts, "nited and Neland will be unhappy. *. should e(plain to
"nited and Neland how the calculation was done, and point out "nited5s high use of design and
engineering resources and Neland5s high use of engineering resources relative to production
machine hours. 4iscuss ways of reducing the consumption of those resources, if possible, and
show willingness to partner with them to do so. +f the price rise is going to be steep, perhaps
offer to phase in the new prices.
2. !ther than for pricing, *. can also use the information from the department-based
system to e(amine and streamline its own operations so that there is ma(imum value-added from
all indirect resources. +t might set targets over time to reduce both the consumption of each
indirect resource and the unit costs of the resources. $he department-based system gives *.
more opportunities for targeted cost management.
0. +t would not be worthwhile to further refine the cost system into an *B# system if (%) a
single activity accounts for a si/able proportion of the department5s costs or (&) significant costs
are incurred on different activities within a department, but each activity has the same cost driver
or ()) there wasn5t much variation among contracts in the consumption of activities within a
department. +f, for e(ample, most activities within the design department were, in fact, driven by
#*4-design hours, then the more refined system would be more costly and no more accurate
than the department-based cost system. 'ven if there was sufficient variation, considering the
relative si/es of the ) department cost pools, it may only be cost-effective to further analy/e the
engineering cost pool, which consumes =<C (:&2;,;;;

:);<,>;;) of the manufacturing


overhead.
0-%;
5-20 (0; min.) P+',"8$2%, 2%/'&"0%,", ',2 'c"$)$"(-c!" &'"%!*
%.
T&/#$%! P+'71%! T"'+
4irect materials
,orming :%),;;; :%%,&0;
*ssembly &,>;; @,)=0
$otal %0,>;; &;,>&0
4irect Nabor
,orming %0,>;; @,;;;
*ssembly =,<;; %;,0;;
$otal &),2;; %@,0;;
$otal direct costs :)@,;;; :2;,%&0 :=@,%&0
Budgeted
overhead rate
G
(:%&, ;;; :%;, )<> :&), ;;; :%;, @>;) :0>, )2>
:=@,%&0 :=@,%&0
+ + +
=
G
:;.=%&%%2
per dollar of direct cost
T&/#$%! P+'71%! T"'+
4irect materials :%0,>;; :&;,>&0 : )>,&&0
4irect labor &),2;; %@,0;; 2&,@;;
$otal direct cost )@,;;; 2;,%&0 =@,%&0
*llocated overheadE &=,==& &<,0=2 0>,)2>
$otal costs :>>,==& :><,>@@ :%)0,2=%
E*llocated overhead G $otal direct cost Budgeted overhead rate (;.=%&%%2).
&.
Budgeted
overhead rate
,orming 4ept.

G
Budgeted ,orming 4epartment overhead costs
Budgeted ,orming 4epartment direct-labor costs
G
:%&, ;;; :%;, )<>
:%0, >;; :@, ;;;
+
+
G
:&&, )<>
:&2, >;;
=
:;.@% per ,orming 4epartment direct-labor dollar
Budgeted
overhead rate
*ssembly 4ept.

G
Budgeted *ssembly 4epartment overhead costs
Budgeted *ssembly 4epartment direct costs
G
:&), ;;; :%;, @>;
(:&, >;; :@, )=0 :=,<;; :%;, 0;;)
+
+ + +
G
:)), @>;
:);, &=0
=
:%.%&%=%< per *ssembly 4epartment direct cost dollar
0-%%
T&/#$%! P+'71%! T"'+
4irect materials :%0,>;; :&;,>&0 : )>,&&0
4irect labor &),2;; %@,0;; 2&,@;;
$otal direct cost )@,;;; 2;,%&0 =@,%&0
*llocated overhead
,orming 4ept.
a
%2,%@> <,%@; &&,)<>
*ssembly 4ept.
b
%%,>>> &&,&@2 )),@>;
$otal costs :>2,<>& :=;,>;@ :%)0,2=%
).
T&/#$%! P+'71%! T"'+
a
;&0$,< D%/"*
4irect labor costs :%0,>;; : @,;;; :&2,>;;
*llocated overhead
(;.@% O :%0,>;;M :@,;;;) :%2,%@> : <,%@; :&&,)<>
b
A!!%0-+( D%/"*
$otal direct costs
(:&,>;; F :=,<;;M :@,)=0 F :%;,0;;) :%;,2;; :%@,<=0 :);,&=0
*llocated overhead
(%.%&%=%< :%;,2;;M :%@,<=0) :%%,>>> :&&,&@2 :)),@>;
;&0$,< D%/'&"0%,"
Budgeted setup rate
G
:%&, ;;;
%0> batches
G :=>.@&);< per batch
Budgeted supervision rate
G
:%;, )<>
:&2, >;;
G :;.2&&%@0 per direct-labor dollar
A!!%0-+( D%/'&"0%,"
Budgeted set up rate
G
:&), ;;;
%2> batches
G :%0=.0)2& per batch
Budgeted supervision rate
G
:%;, @>;
:%<, );;
G :;.0@<@;= per direct-labor dollar
0-%&
T&/#$%! P+'71%! T"'+
4irect material costs :%0,>;; :&;,>&0 :)>,&&0
4irect labor costs &),2;; %@,0;; 2&,@;;
$otal direct costs )@,;;; 2;,%&0 =@,%&0
,orming 4ept. overhead
1et up
:=>.@&);< 2;M %%> ),;== <,@&) %&,;;;
1upervision
;.2&&%@0 :%0,>;;M :@,;;; >,0<> ),<;; %;,)<>
*ssembly 4epartment overhead
1et up
:%0=.0)2& 2)M %;) >,==2 %>,&&> &),;;;
1upervision
;.0@<@;= :=,<;;M :%;,0;; 2,>=% >,&<@ %;,@>;
$otal costs :>;,%;< :=0,)>) :%)0,2=%
2. $ar6uin uses more refined cost pools the costs of trophies decreases and costs of
pla6ues increases. $his is because pla6ues use a higher proportion of cost drivers (batches of
set ups and direct manufacturing labor costs) than trophies whereas the direct costs (the
allocation base used in the simple costing system) are slightly smaller for pla6ues compared
to trophies. $his results in pla6ues being undercosted and trophies overcosted in the simple
costing system.
4epartment costing systems increases the costs of pla6ues relative to trophies because
the forming department costs are allocated based on direct manufacturing labor costs in the
forming department and pla6ues use more direct manufacturing labor in this department
compared to trophies.
4isaggregated information can improve decisions by allowing managers to see the
details which helps them understand how different aspects of cost influence total cost per
unit. ?anagers can also understand the drivers of different cost categories and use this
information for pricing and product-mi( decisions, cost reduction and process-improvement
decisions, design decisions, and to plan and manage activities. Aowever, too much detail can
overload managers who don5t understand the data or what it means. *lso, managers looing
at per-unit data may be misled when considering costs that aren5t unit-level costs.
0-%)
5-21 (%;P%0 min.) ABC, /&c%!! c!"$,<*
%. Iates per unit cost driver.
Ac"$)$"( C!" D&$)%& R'"%
?achining ?achine-hours :)=0,;;; L (&0,;;; F 0;,;;;)
G :0 per machine-hour
1et up .roduction runs :%&;,;;; L (0; F 0;)
G :%,&;; per production run
+nspection +nspection-hours :%;0,;;; L (%,;;; F 0;;)
G :=; per inspection-hour
!verhead cost per unit-
M'"#%0'"$c'+ ;$,',c$'+
?achining- :0 O &0,;;;M 0;,;;; :%&0,;;; :&0;,;;;
1et up- :%,&;; O 0;M :%,&;; O 0; >;,;;; >;,;;;
+nspection- :=; O %,;;;M :=; O 0;; =;,;;; )0,;;;
$otal manufacturing overhead costs :&00,;;; :)20,;;;
4ivide by number of units L 0;,;;; L%;;,;;;
?anufacturing overhead cost per unit : 0.%; : ).20
&.
M'"#%0'"$c'+ ;$,',c$'+
?anufacturing cost per unit-
4irect materials
:%0;,;;; L 0;,;;; :).;;
:);;,;;; L %;;,;;; :).;;
4irect manufacturing labor
:0;,;;; L 0;,;;; %.;;
:%;;,;;; L %;;,;;; %.;;
?anufacturing overhead (from re6uirement %) 0.%; ).20
?anufacturing cost per unit :@.%; :=.20
0-%2
5-22 (); min.) Ac"$)$"(--'!%2 c!"$,<, !%&)$c% c0/',(*
%. $otal indirect costs G :%0;,;;; F :@;,;;; F :)>,;;; F :2;,;;; F :)@,;;; F :2<,;;;
G :2;),;;;
$otal machine-hours G (2;; %;) F (&;; %;) G >,;;;
+ndirect cost rate per machine-hour G :2;),;;; >,;;;
G :>=.%= per machine-hour
S$0/+% C!"$,< S(!"%0
S"',2'&2
=-
S/%c$'+
=-
#ost of supplies per job : &;;.;; : &0;.;;
4irect manufacturing labor cost per job %<;.;; &;;.;;
+ndirect cost allocated to each job
(%; machine hours

:>=.%= per machine hour)


>=%.=
; >=%.=;
$otal costs
:%,;0%.=
; :%,%&%.=;
&. Ac"$)$"(--'!%2 C!"$,< S(!"%0
>1',"$"( . C!"
D&$)%& C,!10%2
21&$,< 2011
3!%% c+10, 3144
Ac"$)$"( C!" D&$)%&
S"',2'&2
=-
S/%c$'+
=-
T"'+ C!"
. Ac"$)$"(
3<$)%,4
A++c'"$,
R'"%
314 324 334 344 354 364 5 354 3334 6 3444, & <$)%,
?achine operations
(2;; jobs %; mach. hrs.
per jobM &;; jobs

%;
mach. hrs. per job)
machine hours 2,;;; &,;;; :%0;,;;; : &0.;; per machine hour
1etups (2

2;;M =

&;;) setup hours %,>;; %,2;; : @;,;;; : );.;; per setup hour
.urchase orders (given) no. of purchase orders 2;; 0;; : )>,;;; : 2;.;; per purchase order
4esign : 2;,;;;
?areting selling price : )@,;;; : ;.;0 per dollar of sales
*dministration
(:%<; 2;;M :&;; &;;)
dir. labor costs :=&,;;; :2;,;;; : 2<,;;; :;.2&<0= per dollar of direct
manuf. labor cost
T"'+ C!"!
S"',2'&2
=-
S/%c$'+
=-
#ost of supplies (:&;;

2;;M :&0;

&;;) : <;,;;; : 0;,;;;


4irect manuf. labor costs (:%<;

2;;M :&;;

&;;) =&,;;; 2;,;;;


+ndirect costs allocated-
?achine operations (:&0 per mach. hr.

2,;;;M &,;;;) %;;,;;; 0;,;;;


1etups (:); per setup hr.

%,>;;M %,2;;) 2<,;;; 2&,;;;


.urchase orders (:2; per order

2;;M 0;;) %>,;;; &;,;;;


4esign <,;;; )&,;;;
?areting (;.;0

:%,&;;

2;;M ;.;0

:%,0;;

&;;) &2,;;; %0,;;;


*dministration (;.2&<0=

:=&,;;;M :2;,;;;) );,<0= %=,%2)


$otal costs :)=<,<0= : &>>,%2)
#ost of each job (:)=<,<0=

2;;M :&>>,%2)

&;;) : @2=.%2 :%,));.=&


0-%0
0-%>
).
C!" /%& ?-
S"',2'&2
=-
S/%c$'+
=-
1imple #osting 1ystem :%,;0%.=; :%,%&%.=;
*ctivity-based #osting 1ystem : @2=.%2 :%,));.=&
4ifference (1imple P *B#) : %;2.0> : (&;@.;&)
Ielative to the *B# system, the simple costing system overcosts standard jobs and undercosts
special jobs. Both types of jobs need %; machine hours per job, so in the simple system, they are
each allocated :>=%.=; in indirect costs. But, the *B# study reveals that each standard job
consumes less of the indirect resources such as setups, purchase orders, and design costs than a
special job, and this is reflected in the higher indirect costs allocated to special jobs in the *B#
system.
2. Quiprint can use the information revealed by the *B# system to change its pricing
based on the *B# costs. "nder the simple system, Quiprint was maing a gross margin of %&C
on each standard job ((:%,&;; P :%,;0%.=;)

:%,&;;) and &0C on each special job ((:%,0;; P


:%,%&%.=;)

:%,0;;). But, the *B# system reveals that it is actually maing a gross margin of
about &%C ((:%,&;; P :@2=)

:%,&;;) on each standard job and about %%C ((:%,0;; P :%,))%)


:%,0;;) on each special job. 4epending on the maret competitiveness, Quiprint may either
want to reprice the different types of jobs, or, it may choose to maret standard jobs more
aggressively than before.
Quiprint can also use the *B# information to improve its own operations. +t could
e(amine each of the indirect cost categories and analy/e whether it would be possible to deliver
the same level of service, but consume fewer indirect resources, or find a way to reduce the per-
unit-cost-driver cost of some of those indirect resources.
0-%=
5-23 (); min.) Ac"$)$"(--'!%2 c!"$,<, 0',1.'c"1&$,<*
%. 1imple costing system-
$otal indirect costs G :@0,;;; F :20,;;; F :&0,;;; F :>;,;;; F :<,;;; F )CR(:%&0 ),&;;) F
(:&;; %,<;;)S
G :&00,<;;
$otal machine-hours G 0,0;; F 2,0;; G %;,;;;
+ndirect cost rate per machine-hour G :&00,<;;

%;,;;;
G :&0.0< per machine-hour
S$0/+% C!"$,< S(!"%0 I,"%&$& E@"%&$&
4irect materials
a
: @>,;;; : <%,;;;
4irect manufacturing labor
b
=>,<;; >2,<;;
+ndirect cost allocated to each job
(:&0.0< O 0,0;;M 2,0;; machine hours) %2;,>@; %%0,%%;
$otal costs :)%),2@; :&>;,@%;
$otal cost per unit
(:)%),2@; ),&;;M :&>;,@%; %,<;;) : @= .@= : %22 .@0
a
:); O ),&;; unitsM :20 %,<;; units
b
:%> O %.0 O ),&;; unitsM :%> &.&0 %,<;; units
&. Ac"$)$"(--'!%2 C!"$,< S(!"%0
Ac"$)$"(
314
T"'+ C!" .
Ac"$)$"(
324
C!" D&$)%&
334
C!" D&$)%&
>1',"$"(
344
A++c'"$, R'"%
354 5 324 344
.roduct scheduling : @0,;;; production runs %&0
c
: =>;.;; per production run
?aterial handling : 20,;;; material moves
&2;
d
: %<=.0;
per material move
?achine setup : &0,;;; machine setups &;;
e
: %&0.;; per setup
*ssembly : >;,;;; machine hours
%;,;;; : >.;;
per machine hour
+nspection : <,;;; inspections
2;;
f
: &;.;;
per inspection
?areting selling price : ;.;) per dollar of sales
c
2; F <0 G %&0M
d
=& F %>< G &2;M
e
20 F %00 G &;;M
f
&0; F %0; G 2;;
0-%<
ABC S(!"%0 I,"%&$& E@"%&$&
4irect materials : @>,;;; : <%,;;;
4irect manufacturing labor =>,<;; >2,<;;
+ndirect costs allocated-
.roduct scheduling (:=>; per run 2;M <0) );,2;; >2,>;;
?aterial handling (:%<=.0; per move =&M %><) %),0;; )%,0;;
?achine setup (:%&0 per setup 20M %00) 0,>&0 %@,)=0
*ssembly (:> per ?A O 0,0;;M 2,0;;) )),;;; &=,;;;
+nspection (:&; per inspection O &0;M %0;) 0,;;; ),;;;
?areting (;.;) :%&0 ),&;;M ;.;) :&;; %,<;;) %&,;;; %;,<;;
$otal costs :&=&,)&0 :);&,;=0
$otal cost per unit
(:&=&,)&0 L ),&;; unitsM :);&,;=0 L %,<;; units) : <0 .%; : %>= .<&
).
C!" /%& 1,$" I,"%&$& E@"%&$&
1imple #osting 1ystem :@=.@= :%22.@0
*ctivity-based #osting 1ystem :<0.%; :%>=.<&
4ifference (1imple P *B#) :%&.<= :(&&.<=)
Ielative to the *B# system, the simple costing system overcosts interior doors and undercosts
e(terior doors. "nder the simple costing system, the doors re6uire a similar number of total
machine hours (0,0;; for interior and 2,0;; for e(terior), even though interior doors tae fewer
machine hours per unit. "nder the simple costing system, the volume of the production of
interior doors is driving the amount of overhead allocated to that product. $he *B# study
reveals that each e(terior door re6uires more production runs, material moves, and setups. $his
is reflected in the higher indirect costs allocated to e(terior doors in the *B# system.
2. !pen 4oors, +nc. can use the information revealed by the *B# system to change its
pricing based on the *B# costs. "nder the simple system, !pen 4oors was maing an operating
margin of &%.>C on each interior door ((:%&0 P :@=.@=)

:%&0) and &=.0C on each e(terior


door ((:&;; P :%22.@0)

:&;;). But, the *B# system reveals that it is actually maing an


operating margin of about )&C ((:%&0 P :<0.%;)

:%&0) on each interior door and about %>C


((:&;; P :%>=.<&)

:&;;) on each e(terior door. !pen 4oors, +nc. should consider decreasing
the price of its interior doors to be more competitive. !pen 4oors should also consider
increasing the price of its e(terior doors, depending on the competition it faces in this maret.
!pen 4oors can also use the *B# information to improve its own operations. +t could
e(amine each of the indirect cost categories and analy/e whether it would be possible to deliver
the same level of service, but consume fewer indirect resources, or find a way to reduce the per-
unit-cost-driver cost of some of those indirect resources. ?aing these operational improvements
can help !pen 4oors to reduce costs, become more competitive, and reduce prices to gain
further maret share while increasing its profits.
0-%@
5-24 (); min.) ABC, &%"'$+ /&21c"-+$,% /&.$"'-$+$"(*
%. $he simple costing system (.anel * of 1olution '(hibit 0-&2) reports the following-
B'A%2
G2!
M$+A B
;&1$" =1$c%
;&C%,
P&21c"! T"'+
Ievenues
#osts
#ost of goods sold
1tore support ();C of #!J1)
$otal costs
!perating income
!perating income L Ievenues
:0=,;;;
)<,;;;
%%,2;;
2@,2;;
: =,>;;
%).))C
:>),;;;
2=,;;;
%2,%;;
>%,%;;
: %,@;;
).;&C
:0&,;;;
)0,;;;
%;,0;;
20,0;;
: >,0;;
%&.0;C
:%=&,;;;
%&;,;;;
)>,;;;
%0>,;;;
: %>,;;;
@.);C
&. $he *B# system (.anel B of 1olution '(hibit 0-&2) reports the following-
B'A%2
G2!
M$+A B
;&1$" =1$c%
;&C%,
P&21c"! T"'+
Ievenues
#osts
#ost of goods sold
!rdering (:%;; O );M &0M %))
4elivery (:<; O @<M )>M &<)
1helf-stocing (:&; O %<)M %>>M &2)
#ustomer support
(:;.&; O %0,0;;M &;,0;;M =,@;;)
$otal costs
!perating income
!perating income L Ievenues
:0=,;;;
)<,;;;
),;;;
=,<2;
),>>;
),%;;
00,>;;
: %,2;;
&.2>C
:>),;;;
2=,;;;
&,0;;
&,<<;
),)&;
2,%;;
0@,<;;
: ),&;;
0.;<C
:0&,;;;
)0,;;;
%,);;
&,&2;
2<;
%,0<;
2;,>;;
:%%,2;;
&%.@&C
:%=&,;;;
%&;,;;;
>,<;;
%&,@>;
=,2>;
<,=<;
%0>,;;;
: %>,;;;
@.);C
$hese activity costs are based on the following-
Ac"$)$"( C!" A++c'"$, R'"%
B'A%2
G2!
M$+A B
;&1$" =1$c%
;&C%,
P&21c"!
!rdering
4elivery
1helf-stocing
#ustomer
support
:%;; per purchase order
:<; per delivery
:&; per hour
:;.&; per item sold
);
@<
%<)
%0,0;;
&0
)>
%>>
&;,0;;
%)
&<
&2
=,@;;
0-&;
). $he ranings of products in terms of relative profitability are-
S$0/+% C!"$,< S(!"%0 ABC S(!"%0
%. Baed goods %).))C
&. ,ro/en products %&.0;
). ?il T fruit juice ).;&
,ro/en products &%.@&C
?il T fruit juice 0.;<
Baed goods &.2>
$he percentage revenue, #!J1, and activity costs for each product line are-
B'A%2
G2!
M$+A B
;&1$" =1$c%
;&C%,
P&21c"! T"'+
Ievenues
#!J1
*ctivity areas-
!rdering
4elivery
1helf-stocing
#ustomer support
)).%2
)%.>=
22.%&
>;.2@
2@.;>
)0.)%
)>.>)
)@.%=
)>.=>
&&.&&
22.0;
2>.=;
);.&)
&@.%>
%@.%&
%=.&@
>.22
%=.@@
%;;.;;
%;;.;;
%;;.;;
%;;.;;
%;;.;;
%;;.;;
$he baed goods line drops si/ably in profitability when *B# is used. *lthough it constitutes
)%.>=C of #!J1, it uses a higher percentage of total resources in each activity area, especially
the high cost delivery activity area. +n contrast, fro/en products draws a much lower percentage
of total resources used in each activity area than its percentage of total #!J1. Aence, under
*B#, fro/en products is much more profitable.
,amily 1upermarets may want to e(plore ways to increase sales of fro/en products. +t
may also want to e(plore price increases on baed goods.
0-&%
SO:9TION EDHIBIT 5-24
.roduct-#osting !verviews of ,amily 1upermarets
.*3'N *- 1+?.N' #!1$+3J 1K1$'?
COST OBJECT:
PRODUCT LINE
Indirect Costs
Direct Costs
Store
Support
COGS
COGS
INDIRECT
COST
POOL
COST
ALLOCATION
BASE
}
}
}
}
DIRECT
COST
.*3'N B- *B# 1K1$'?
0-&&
Ordering Delivery
Shelf-
Stocking
Customer
Support
Number of
Purchase Order
Number of
Deliveries
Hours of
Shelf-Stocking
Number of
Items Sold
Indirect Costs
Direct Costs
COGS
+34+I'#$
#!1$
.!!N
#!1$
*NN!#*$+!3
B*1'
#!1$ !BU'#$-
.I!4"#$ N+3'
4+I'#$
#!1$
5-25 (%0P&; min.) ABC, 8#+%!'+%, c1!"0%& /&.$"'-$+$"(*
C#'$,
1 2 3 4
Jross sales :00,;;; :&0,;;; :%;;,;;; :=0,;;;
1ales returns %%,;;; ),0;; =,;;; >,0;;
3et sales 22,;;; &%,0;; @),;;; ><,0;;
#ost of goods sold (=;C) );,<;; %0,;0; >0,%;; 2=,@0;
Jross margin %),&;; >,20; &=,@;; &;,00;
#ustomer-related costs-
Iegular orders
:&0 O 20M %=0M 0&M =0 %,%&0 2,)=0 %,);; %,<=0
Iush orders
:%&0 O %%M 2<M %%M )& %,)=0 >,;;; %,)=0 2,;;;
Ieturned items
:%0 O %;%M &0M >0M )0 %,0%0 )=0 @=0 0&0
#atalogs and customer support %,%;; %,%;; %,%;; %,%;;
#ustomer related costs 0,%%0 %%,<0; 2,=0; =,0;;
#ontribution (loss) margin : <,;<0 :(0,2;;) : &),%0; :%),;0;
#ontribution (loss) margin as
percentage of gross sales %2.=C (&%.>C) &).%0C %=.2C
$he analysis indicates that customers5 profitability (loss) contribution varies widely from
(&%.>C) to &).%0C. +mmediate attention to #hain & is re6uired which is currently showing a loss
contribution. $he chain has a disproportionate number of both regular orders and rush orders.
Iamire/ should wor with the management of #hain & to find ways to reduce the number of
orders, while maintaining or increasing the sales volume. +f this is not possible, Iamire/ should
consider dropping #hain &, if it can save the customer-related costs.
#hain % has a disproportionate number of the items returned as well as sale returns. $he
causes of these should be investigated so that the profitability contribution of #hain % could be
improved.
0-&)
5-26 (0; min.) ABC, 'c"$)$"( '&%' c!"-2&$)%& &'"%!, /&21c" c&!!-!1-!$2$C'"$,*
%. 4irect costs
4irect materials : %0;,;;;
+ndirect costs
.roduct support @<),;;;
$otal costs :%,%)),;;;
#ost per pound of potato cuts G
;;; , ;;; , %
;;; , %)) , % :
G :%.%))
&. C!" C!"! $, N10-%& . C!"! /%&
P+ P+ D&$)%& 9,$"! D&$)%& 9,$"
#leaning :%&;,;;; %,&;;,;;; raw pounds
: ;.%;
#utting :&)%,;;; ),<0; hoursE:>;.;;
.acaging :222,;;; )=,;;; hoursEE :%&.;;
E(@;;,;;; L &0;) F (%;;,;;; L 2;;) G ),>;; F &0; G ),<0;
EE(@;;,;;; L &0) F (%;;,;;; L %;;) G )>,;;; F %,;;; G )=,;;;
). R%"'$+ P"'" C1"! I,!"$"1"$,'+ P"'" C1"!
4irect costs
4irect materials :%)0,;;; :%0,;;;
.acaging %<;,;;; : )%0,;;; <,;;; :&),;;;
+ndirect costs
#leaning
:;.%; O @;C O %,&;;,;;; %;<,;;;
:;.%; O %;C O %,&;;,;;; %&,;;;
#utting
:>; O ),>;; hours &%>,;;;
:>; O &0; hours %0,;;;
.acaging
:%& O )>,;;;M :%& O %,;;; 2)&,;;; =0>,;;; %&,;;; )@,;;;
$otal costs :%,;=%,;;; :>&,;;;
.ounds produced @;;,;;; %;;,;;;
#osts per pound : %.%@ : ;.>&
Note: $he total costs of :%,%)),;;; (:%,;=%,;;; F :>&,;;;) are the same as those in Ie6uirement
%.
0-&2
2. $here is much evidence of product-cost cross-subsidi/ation.
C!" /%& P1,2 R%"'$+ I,!"$"1"$,'+
1imple costing system :%.%)) :%.%))
*B# system :%.%@; :;.>&;
*ssuming the *B# numbers are more accurate, potato cuts sold to the retail maret are
undercosted while potato cuts sold to the institutional maret are overcosted.
$he simple costing system assumes each product uses all the activity areas in a
homogeneous way. $his is not the case. +nstitutional sales use si/ably less resources in the
cutting area and the pacaging area. $he percentages of total costs for each cost category are as
follows-
R%"'$+ I,!"$"1"$,'+ T"'+
4irect costs
4irect materials @;.;C %;.;C %;;.;C
.acaging @0.= 2.) %;;.;
+ndirect costs
#leaning @;.; %;.; %;;.;
#utting @).0 >.0 %;;.;
.acaging @=.) &.= %;;.;
"nits produced @;.;C %;.;C %;;.;C
+daho can use the revised cost information for a variety of purposes-
a. Pricing/product emphasis decisions. $he si/able drop in the reported cost of potatoes
sold in the institutional maret maes it possible that +daho was overpricing potato
products in this maret. +t lost the bid for a large institutional contract with a bid );C
above the winning bid. 8ith its revised product cost dropping from :%.%)) to :;.>&;,
+daho could have bid much lower and still made a profit. *n increased emphasis on
the institutional maret appears warranted.
b. Product design decisions. *B# provides a road map as to how to reduce the costs of
individual products. $he relative components of costs are-
R%"'$+ I,!"$"1"$,'+
4irect costs
4irect materials %&.>C &2.&;C
.acaging %>.< %&.@;
+ndirect costs
#leaning %;.% %@.)0
#utting &;.& &2.&;
.acaging 2; .) %@ .)0
$otal costs %;; .; C %;; .;; C
.acaging-related costs constitute 0=.%C (%>.<C F 2;.)C) of total costs of the retail product
line. 4esign efforts that reduce pacaging costs can have a big impact on reducing total unit
costs for retail.
c. Process improvements. 'ach activity area is now highlighted as a separate cost. $he
three indirect cost areas comprise over >;C of total costs for each product, indicating
the upside from improvements in the efficiency of processes in these activity areas.
0-&0
5-27 (&;P&0 min.) Ac"$)$"(--'!%2 c!"$,<, ?--c!"$,< !(!"%0*
%. !verhead allocation using a simple job-costing system, where overhead is allocated based
on machine hours-
!verhead allocation rate G :20),>;; %;,0;; machine-hours G :2).&; per machine-hour
=- 215 =- 325
!verhead allocated
a
:%,=&< :&,0@&
a
:2).&; per machine-hour O 2; hoursM >; hours
&. !verhead allocation using an activity-based job-costing system-
B12<%"%2
O)%&#%'2
314
Ac"$)$"( D&$)%&
324
B12<%"%2
Ac"$)$"( D&$)%&
334
Ac"$)$"( R'"%
344 5 314 334
.urchasing : =;,;;; .urchase orders
processed
&,;;; :)0.;;
?aterial handling : <=,0;; ?aterial moves 0,;;; :%=.0;
?achine maintenance : &)=,);; ?achine hours %;,0;; :&&.>;
.roduct inspection : %<,@;; +nspections %,&;; :%0.=0
.acaging : )@,@;; "nits produced ),<;; :%;.0;
: 20),>;;
=- 215 =- 325
!verhead allocated
.urchasing (:)0 &0M < orders) : <=0.;; : &<;.;;
?aterial handling (:%=.0; %;M 2 moves) %=0.;; =;.;;
?achine maintenance (:&&.>; 2;M >; hours) @;2.;; %,)0>.;;
.roduct inspection (:%0.=0 @M ) inspections) %2%.=0 2=.&0
.acaging (:%;.0; %0M > units) %0=.0; >).;;
$otal :&,&0).&0 :%,<%>.&0
). $he manufacturing manager liely would find the *B# job-costing system more useful in
cost management. "nlie direct manufacturing labor costs, the five indirect cost pools are
systematically lined to the activity areas at the plant. $he result is more accurate product
costing. $he manufacturing manager can see to reduce both the level of activity (fewer
purchase orders, less material handling) and the cost of each activity (such as the cost per
inspection).
?areting managers can use *B# information to bid for jobs more competitively because
*B# provides managers with a more accurate reflection of the resources used for and the costs
of each job.
0-&>
5-28 (); min.) ABC, /&21c"-c!"$,< '" -',A!, c&!!-!1-!$2$C'"$,*
%.
H+" T1&,%& G&'#'0 T"'+
Ievenues
1pread revenue on annual basis
()C M :%,%;;, :=;;, :&2,>;;)
?onthly fee charges
(:&& M ;, %&, ;)
$otal revenues
: )).;;
; .;;
)) .;;
: &%.;;
&>2 .;;
&<0 .;;
:=)<.;;
; .;;
=)< .;;
: =@&.;;
&>2 .;;
%,;0> .;;
#osts
4epositVwithdrawal with teller
:&.);

2&M 2<M 0
4epositVwithdrawal with *$?
:;.=;

=M %@M %=
4epositVwithdrawal on prearranged basis
:;.2;

;M %)M >&
Ban checs written
:<.2;

%%M %M )
,oreign currency drafts
:%&.2;

2M &M >
+n6uiries
:%.2;

%&M &;M @
$otal costs
!perating income (loss)
@>.>;
2.@;
;.;;
@&.2;
2@.>;
%> .<;
&>; .);
:(&&= .); )
%%;.2;
%).);
0.&;
<.2;
&2.<;
&< .;;
%@; .%;
: @2 .@;
%%.0;
%%.@;
&2.<;
&0.&;
=2.2;
%& .>;
%>; .2;
:0== .>;
&%<.0;
);.%;
);.;;
%&>.;;
%2<.<;
0= .2;
>%; .<;
: 220 .&;
$he assumption that the Aolt and Jraham accounts e(ceed :%,;;; every month and the
$urner account is less than :%,;;; each month means the monthly charges apply only to $urner.
!ne student with a baning bacground noted that in this solution %;;C of the spread is
attributed to the depositor side of the ban. Ae noted that often the spread is divided between
the depositor side and the lending side of the ban.
&. #ross-subsidi/ation across individual .remier *ccounts occurs when profits made on
some accounts are offset by losses on other accounts. $he aggregate profitability on the three
customers is :220.&;. $he Jraham account is highly profitable, :0==.>;, while the Aolt account
is si/ably unprofitable. $he $urner account shows a small profit but only because of the :&>2
monthly fees. +t is unliely that $urner will eep paying these high fees and that 31B would
want $urner to pay such high fees from a customer relationship standpoint.
$he facts also suggest that the customers do not use the ban services uniformly. ,or
e(ample, Aolt and $urner have a lot of transactions with the teller, and also in6uire about their
account balances more often than Jraham. $his suggests cross-subsidi/ation. 31B should be
very concerned about the cross-subsidi/ation. #ompetition liely would understand that high-
balance low-activity type accounts (such as Jraham) are highly profitable. !ffering free services
to these customers is not liely to retain these accounts if other bans offer higher interest rates.
#ompetition liely will reduce the interest rate spread 31B can earn on the high-balance low-
activity accounts they are able to retain.
0-&=
). .ossible changes 31B could mae are-
a. !ffer higher interest rates on high-balance accounts to increase 31B5s
competitiveness in attracting and retaining these accounts.
b. +ntroduce charges for individual services. $he *B# study reports the cost of each
service. 31B has to decide if it wants to price each service at cost, below cost, or
above cost. +f it prices above cost, it may use advertising and other means to
encourage additional use of those services by customers. !f course, in determining its
pricing strategy, 31B would need to consider how other competing bans are pricing
their products and services.
5-29 (%0 min.) =- c!"$,< 8$"# !$,<+% 2$&%c"-c!" c'"%<&(, !$,<+% $,2$&%c"-c!" /+, +'8
.$&0*
%. .ricing decisions at 8igan *ssociates are heavily influenced by reported cost numbers.
1uppose 8igan is bidding against another firm for a client with a job similar to that of 8idnes
#oal. +f the costing system overstates the costs of these jobs, 8igan may bid too high and fail to
land the client. +f the costing system understates the costs of these jobs, 8igan may bid low, land
the client, and then lose money in handling the case.
&. E$2,%! S"* H%+%,F!
C'+ G+'!! T"'+
4irect professional labor,
:=; O %;2M :=; O @> : =,&<; : >,=&; :%2,;;;
+ndirect costs allocated,
:%;0 O %;2M :%;0 O @> %;,@&; %;,;<; &%,;;;
$otal costs to be billed :%<,&;; :%>,<;; :)0,;;;
0-&<
5-30 (&;P&0 min.) =- c!"$,< 8$"# 01+"$/+% 2$&%c"-c!" c'"%<&$%!, !$,<+% $,2$&%c"-c!"
/+, +'8 .$&0 3c,"$,1'"$, . 5-294*
%. +ndirect costs G :=,;;;
$otal professional labor-hours G &;; hours (%;2 hours on 8idnes #oal
F @> hours on 1t. Aelen5s Jlass)
+ndirect cost allocated per professional labor-hour (revised) G :=,;;; L &;; G :)0 per hour
&. E$2,%! S"* H%+%,F!
C'+ G+'!! T"'+
4irect costs-
4irect professional labor,
:=; O %;2M :=; O @> : =,&<; : >,=&; :%2,;;;
Iesearch support labor %,>;; ),2;; 0,;;;
#omputer time 0;; %,);; %,<;;
$ravel and allowances >;; 2,2;; 0,;;;
$elephonesVfa(es &;; %,;;; %,&;;
.hotocopying &0; =0; %,;;;
$otal direct costs %;,2); %=,0=; &<,;;;
+ndirect costs allocated,
:)0 O %;2M :)0 O @> ),>2; ),)>; =,;;;
$otal costs to be billed :%2,;=; :&;,@); :) 0,;;;
).
E$2,%! S"* H%+%,F!
C'+ G+'!! T"'+
.roblem 0-&@ :%<,&;; :%>,<;; :)0,;;;
.roblem 0-); %2,;=; &;,@); )0,;;;
$he .roblem 0-); approach directly traces :%2,;;; of general support costs to the individual
jobs. +n .roblem 0-&@, these costs are allocated on the basis of direct professional labor-hours.
$he averaging assumption implicit in the .roblem 0-&@ approach appears incorrectWfor
e(ample, the 1t. Aelen5s Jlass job has travel costs over seven times higher than the 8idnes #oal
case despite having lower direct professional labor-hours.
0-&@
5-31 (); min.) =- c!"$,< 8$"# 01+"$/+% 2$&%c"-c!" c'"%<&$%!,
01+"$/+% $,2$&%c"-c!" /+!, +'8 .$&0 3c,"$,1'"$, . 5-29 ',2 5-304*
%. E$2,%! S"* H%+%,F!
C'+ G+'!! T"'+
4irect costs-
.artner professional labor,
:%;; O &2M :%;; O 0> : &,2;; : 0,>;; : <,;;;
*ssociate professional labor,
:0; O <;M :0; O 2; 2,;;; &,;;; >,;;;
Iesearch support labor %,>;; ),2;; 0,;;;
#omputer time 0;; %,);; %,<;;
$ravel and allowances >;; 2,2;; 0,;;;
$elephonesVfa(es &;; %,;;; %,&;;
.hotocopying &0; =0; %,;;;
$otal direct costs @,00; %<,20; &<,;;;
+ndirect costs allocated-
+ndirect costs for partners,
:0=.0; O &2M :0=.0; O 0> %,)<; ),&&; 2,>;;
+ndirect costs for associates,
:&; O <;M :&; O 2; %,>;; <;; &,2;;
$otal indirect costs &,@<; 2,;&; =,;;;
$otal costs to be billed :%&,0); :&&,2=; :)0,;;;
E$2,%! S"* H%+%,F!
C0/'&$!, C'+ G+'!! T"'+
1ingle direct costV
1ingle indirect cost pool :%<,&;; :%>,<;; :)0,;;;
?ultiple direct costsV
1ingle indirect cost pool :%2,;=; :&;,@); :)0,;;;
?ultiple direct costsV
?ultiple indirect cost pools :%&,0); :&&,2=; :)0,;;;
$he higher the percentage of costs directly traced to each case, and the greater the number of
homogeneous indirect cost pools lined to the cost drivers of indirect costs, the more accurate the
product cost of each individual case.
$he 8idnes and 1t. Aelen5s cases differ in how they use resource areas of 8igan *ssociates-
E$2,%! S"* H%+%,F!
C'+ G+'!!
.artner professional labor );.;C =;.;C
*ssociate professional labor >>.= )).)
Iesearch support labor )&.; ><.;
#omputer time &=.< =&.&
$ravel and allowances %&.; <<.;
$elephonesVfa(es %>.= <).)
.hotocopying &0.; =0.;
0-);
$he 8idnes #oal case maes relatively low use of the higher-cost partners but relatively higher
use of the lower-cost associates than does 1t. Aelen5s Jlass. *s a result, it also uses less of the
higher indirect costs re6uired to support partners compared to associates. $he 8idnes #oal case
also maes relatively lower use of the support labor, computer time, travel, phonesVfa(es, and
photocopying resource areas than does the 1t. Aelen5s Jlass case.
&. $he specific areas where the multiple directVmultiple indirect (?4V?+) approach can
provide better information for decisions at 8igan *ssociates include-
Pricing and product (case) emphasis decisions. +n a bidding situation using single directVsingle
indirect (14V1+) or multiple directVsingle indirect (?4V1+) data, 8igan may win bids for legal
cases on which it will subse6uently lose money. +t may also not win bids on which it would
mae money with a lower-priced bid.
,rom a strategic viewpoint, 14V1+ or ?4V1+ e(poses 8igan *ssociates to cherry-picing
by competitors. !ther law firms may focus e(clusively on 8idnes #oal-type cases and tae
si/able amounts of profitable business from 8igan *ssociates. ?4V?+ reduces the lielihood
of 8igan *ssociates losing cases on which it would have made money.
lient relationships. ?4V?+ provides a better road map for clients to understand how costs are
accumulated at 8igan *ssociates. 8igan can use this road map when meeting with clients to
plan the wor to be done on a case !efore it commences. #lients can negotiate ways to get a
lower-cost case from 8igan, given the information in ?4V?+Wfor e(ample, (a) use a higher
proportion of associate labor time and a lower proportion of a partner time, and (b) use fa(
machines more and air travel less. +f clients are informed in advance how costs will be
accumulated, there is less lielihood of disputes about bills submitted to them after the wor is
done.
ost control. $he ?4V?+ approach better highlights the individual cost areas at 8igan
*ssociates than does the 14V1+ or ?4V1+ approaches-
?4V?+ 14V1+ ?4V1+
3umber of direct cost categories = % =
3umber of indirect cost categories & % %
$otal @ & <
?4V?+ is liely to promote better cost-control practices than 14V1+ or ?4V1+, as the nine cost
categories in ?4V?+ give 8igan a better handle on how to effectively manage different
categories of both direct and indirect costs.
0-)%
5-32 (0; min.) P+',"8$2%, 2%/'&"0%,", ',2 'c"$)$"(-c!" &'"%!*
%. .lant-wide costing rate
;$<#"%&! C'&< T"'+
4irect materials
*ssembly :&.0; :).=0 :>.&0
.ainting ; .0; % .;; % .0;
$otal :) .;; :2 .=0 := .=0
4irect Nabor
*ssembly :).0; :&.;; :0.0;
.ainting & .&0 % .0; ) .=0
$otal :0 .=0 :) .0; :@ .&0
;$<#"%&! C'&< T"'+
4irect materials
(:).;; O <;; unitsM :2.=0 O =2; units) :&,2;; :),0%0 : 0,@%0
4irect manufacturing labor
(:0.=0 O <;; unitsM :).0; O =2; units) 2,>;; &,0@; =,%@;
$otal direct costs :=,;;; :>,%;0 :%),%;0
.lant- wide overhead rate G :%%,%<; :%),%;0 G :;.<0)%% per direct cost dollar
;$<#"%&! C'&<
$otal direct costs : =,;;;.;; : >,%;0.;;
!verhead allocated (;.<0)%% O :=,;;;M :>,%;0) 0,@=% .== 0,&;< .&2
$otal costs :%&,@=%.== :%%,)%).&2
4ivided by number of units <;; =2;
$otal cost per unit : %> .&% : %0 .&@
&. 4epartmental costing
Budgeted
overhead rate
*ssembly 4ept.
Budgeted *ssembly 4epartment overhead costs
Budgeted *ssembly 4epartment direct manufacturing labor costs
=
:=,;);
:).0; <;; units F :& =2; units
=

:=,;); :=, ;);
:%.>2&0& per direct manuf. labor dollar
:&, <;; F :%,2<; :2, &<;
= = =
0-)&
Budgeted
overhead rate
.ainting 4ept.
Budgeted .ainting 4epartment overhead costs
Budgeted .ainting 4epartment direct costs
=
:2,%0;
:&.=0 O <;; units F :&.0; =2; units
=

:2,%0; :2,%0;
:%.;&2>@ per direct cost dollar
:&, &;; :%,<0; :2, ;0;
= = =
+
;$<#"%&! C'&< T"'+
4irect materials : &,2;; : ),0%0 : 0,@%0
4irect manufacturing labor 2,>;; &,0@; =,%@;
$otal direct costs =,;;; >,%;0 %),%;0
*llocated overhead-
*ssembly 4epartment
(%.>2&0& :&,<;;
a
M :%,2<;
a
) 2,0@@ &,2)% =,;);
.ainting 4epartment
(%.;&2>@ :&,&;;
b
M :%,<0;
b
) &,&02 %,<@> 2,%0;
$otal costs :%),<0) :%;,2)& :&2,&<0
4ivided by number of units <;; =2;
: %= .)& : %2 .%;
a
4irect manufacturing labor costs in *ssembly 4epartment calculated previously-
,ighters, :).0; O <;; units G :&,<;;M #argo, :& O =2; units G :%,2<;
b
4irect costs of .ainting 4epartment calculated previously-
,ighters, :&.=0 O <;; units G :&,&;;M #argo, :&.0; O =2; units G :%,<0;
). *ctivity-based #osting
A!!%0-+( D%/'&"0%,"
Budgeted
materials
handling rate
:%,=;;
:<.0<0<> per batch
%@< batches
= =
Budgeted
6uality
inspection rate
:&,=0;
:%).<<<<@ per batch
%@< batches
= =
Budgeted
utilities rate
:&,0<;
:;.>;&<;2 per direct manuf. labor dollar
:2,&<;
= =
0-))
P'$,"$,< D%/'&"0%,"
Budgeted
materials
handling rate
:@;;
:>.<%<%< per batch
%)& batches
= =
Budgeted
6uality
inspection rate
:%,%0;
:<.=%&%& per batch
%)& batches
= =
Budgeted
utilities rate
:&,%;;
:&.&0 <;; units F :%.0; =2; units
=

:&,%;; :&,%;;
:;.=&%>0 per direct manuf. labor dollar
:%,<;; :%,%%; :&, @%;
= = =
+
;$<#"%&! C'&< T"'+
4irect materials : &,2;; :),0%0 : 0,@%0
4irect manufacturing labor 2,>;; &,0@; =,%@;
$otal direct costs =,;;; >,%;0 %),%;0
*llocated *ssembly 4epartment !verhead-
?aterials handling
(:<.0<0<> %0;M 2<) %,&<< 2%& %,=;;
+nspection
(:%).<<<<@ %0;M 2<) &,;<) >>= &,=0;
"tilities
(;.>;&<;2 :&,<;;M :%,2<;) %,><< <@& &,0<;
*llocated .ainting 4epartment !verhead-
?aterials handling
(:>.<%<%< %;;M )&) ><& &%< @;;
+nspection
(:<.=%&%& %;;M )&) <=% &=@ %,%0;
"tilities
(;.=&%>0 :%,<;;
c
M :%,%%;
c
) %,&@@ <;% &,%;;
$otal costs :%2,@%% :@,)=2 :&2,&<0
4ivided by number of units <;; =2;
: %< .>2 :%& .>=
c
4irect manufacturing labor costs in .ainting 4epartment calculated previously-
,ighters, :&.&0 O <;; units G :%,<;;M #argo, :%.0; O =2; units G :%,%%;
2. *ctivity-based cost information can improve decisions by allowing managers to understand
how different aspects of cost influence total cost per unit. "sing *B# and determining the
drivers of overhead costs help *llen5s *ero $oys understand that cargo planes were overcosted
and fighter jets were undercosted.
?anagers can also understand the drivers of different cost categories and use this information for
pricing and product-mi( decisions, cost reduction and process-improvement decisions, design
decisions, and to plan and manage activities. Aowever, too much detail can overload managers
0-)2
who don5t understand the data or what it means. *lso, managers looing at per-unit data may be
misled when considering costs that aren5t unit-level costs.
5-33 ();-2; min.) D%/'&"0%," ',2 'c"$)$"(-c!" &'"%! !%&)$c% !%c"&*
%. !verhead costs G :%@,;;; F :&>;,;;; F :&>=,@;; F :%&%,&;; G :>><,%;;
Budgeted overhead rate
G
:>><,%;;
:%.=; per direct labor dollar
:)@), ;;;
=
D-&'(! 9+"&'!1,2 CT !c', MRI T"'+
$echnician labor : >2,;;; :%;2,;;; :%%@,;;; : %;>,;;; : )@),;;;
4epreciation %)>,<;; &)%,;;; 2;;,&;; =@&,;;; %,0>;,;;;
?aterials &&,2;; %>,0;; &),@;; );,<;; @),>;;
*llocated overheadE %;<,<;; %=>,<;; &;&,);; %<;,&;; >><,%;;
$otal budgeted costs :))&,;;; :0&<,);; :=20,2;; :%,%;@,;;; :&,=%2,=;;
Budgeted number of procedures L &,000 L 2,=>; L ),&@; L&,>@0
Budgeted cost per service : %&@ .@2 : %%; .@@ : &&> .0= : 2%% .0;
E *llocated overhead G Budgeted overhead rate O $echnician labor costs
G :%.=; O $echnician labor costs
&. Budgeted +nformation
D-&'(! 9+"&'!1,2 CT !c', MRI T"'+
3umber of procedures &,000 2,=>; ),&@; &,>@0 %),);;
#leaning minutes per procedure O%; %; O&; O2;
$otal cleaning minutes &0,00; 2=,>;; >0,<;; %;=,<;; &2>,=0;
3umber of procedures &,000 2,=>; ),&@; &,>@0 %),);;
?inutes for each procedure O0 O&; O%0 O2;
$otal procedure minutes %&,==0 @0,&;; 2@,)0; %;=,<;; &>0,%&0
Ac"$)$"(
B12<%"%2 C!"
314
C!" D&$)%&
324
9,$"! .
C!" D&$)%&
334
Ac"$)$"( R'"%
344 5 314 G 334
*dministration : %@,;;; $otal number
of procedures
%),);; :%.2&<0= per procedure
?aintenance :&>;,;;; $otal dollars
of depreciation
:%,0>;,;;; :;.%>>>>= per dollar of depreciation
1anitation :&>=,@;; $otal cleaning
minutes
&2>,=0; :%.;<0=% per cleaning minute
"tilities :%&%,&;; $otal procedure
minutes
&>0,%&0 :;.20=%2 per procedure minute
0-)0
D-&'(! 9+"&'!1,2 CT Sc', MRI T"'+
$echnician labor : >2,;;; :%;2,;;; :%%@,;;; : %;>,;;; : )@),;;;
4epreciation %)>,<;; &)%,;;; 2;;,&;; =@&,;;; %,0>;,;;;
?aterials &&,2;; %>,0;; &),@;; );,<;; @),>;;
*llocated activity costs-
*dministration
(:%.2&<0= O &,000M 2,=>;M ),&@;M
&,>@0) ),>0; >,<;; 2,=;; ),<0; %@,;;;
?aintenance
:;.%>>>>= O :%)>,<;;M :&)%,;;;M
:2;;, &;;M :=@&,;;;) &&,<;; )<,0;; >>,=;; %)&,;;; &>;,;;;
1anitation
(:%.;<0=% O &0,00;M 2=,>;;M >0,<;;M
%;=,<;;) &=,=2; 0%,><; =%,22; %%=,;2; &>=,@;;
"tilities
(:;.20=%2 O %&,==0M @0,&;;M 2@,)0;M
%;=,<;;) 0,<2; 2),0&; &&,0>; 2@,&<; %&%,&;;
$otal budgeted cost :&<),&); :2@&,;;; :=;<,0;; :%,&);,@=; :&,=%2,=;;
Budgeted number of procedures L &,000 L 2,=>; L ),&@; L &,>@0
Budgeted cost per service : %%; .<0 : %;) .)> : &%0 .)0 : 20> .=>
). "sing the disaggregated activity-based costing data, managers can see that the ?I+ actually
costs substantially more and (-rays and ultrasounds substantially less than the traditional system
indicated. +n particular, the ?I+ activity generates a lot of maintenance activity and sanitation
activity. ?anagers should e(amine the use of these two activities to search for ways to reduce
the activity consumption and ultimately its cost.
0-)>
5-34 (); min.) C#!$,< c!" 2&$)%&!, 'c"$)$"(--'!%2 c!"$,<, 'c"$)$"(--'!%2 0','<%0%,".
%. 4irect costs G 4ance teacher salaries, #hild care teacher salaries, ,itness instructor salaries
+ndirect costs G 1uppliesM Ient, maintenance, and utilitiesM *dministration salariesM
?areting e(penses
&.
I,2$&%c" C!" C!" D&$)%& B12<%"%2 C!" D&$)%& R'"%
1upplies 3umber of participants :&%,@<2 L &,&;0 G :@.@= per participant
Ient, maintenance, and utilities 16uare footage :@=,0%%L %%,>0; G :<.)= per s6uare foot
*dministration salaries 3umber of participants :0;,;=0 L &,&;0 G :&&.=% per participant
?areting e(penses 3umber of advertisements :&%,;;; L =; G :);; per advertisement
1upplies P Narger programs with more participants will re6uire more supplies. ,or e(ample, as
the number of dance participants increases, so will the cost of dance accessories.
Ient, maintenance and utilities are all building-related costs. 16uare-footage is the only space-
oriented cost driver available.
*dministration salaries P Narger programs re6uire more time to enroll students and collect fees.
#onse6uently, the number of participants appears to be a reasonable cost driver.
?areting e(penses P ?areting e(penses include the cost of advertising the studio. *s the
number of ads increases so do total mareting costs.
).
D',c% C#$+2c'&% ;$",%!! T"'+
1alaries : >&,%;; : &2,);; : )@,;>; : %&0,2>;
*llocated costs-
1upplies
(:@.@=O%,2<0M 20;M &=;) %2,<;0 2,2<= &,>@& &%,@<2
Ient, maintenance, and utilities
(:<.)=O>,;;;M ),%0;M &,0;;) 0;,&&; &>,)>> &;,@&0 @=,0%%
*dministration salaries
(:&&.=%O%,2<0M 20;M &=;) )),=&2 %;,&%@ >,%)& 0;,;=0
?areting e(penses
(:);;O&>M &2M &;) =,<;; =,&;; >,;;; &%,;;;
Budgeted total costs : %><,>2@ : =&,0=& : =2,<;@ : )%>,;);
L 3umber of participants L %,2<0 L20; L&=;
Budgeted cost per participant : %%).0= : %>%.&= : &==.;=
2. By dividing the full cost of each service line by the number of participants, *nnie can see that
fitness classes should be charged a higher price. ?ost of the higher unit cost is attributable to the
cost of *erobic instructors.
Besides cost data, *nnie should also consider a variety of other factors before setting the price
for each service. '(amples of other issues she should consider include the actions of competitors
in her maret, and the 6uality of her facilities and instructors.
0-)=
5-35 ();P2; min.) Ac"$)$"(--'!%2 c!"$,<, 0%&c#',2$!$,<*
%. G%,%&'+
S1/%&0'&A%"
C#'$,!
D&1<!"&%
C#'$,!
M0-',2-P/
S$,<+%
S"&%! T"'+
Ievenues :),=;<,;;; :),%0;,;;; :%,@<;,;;; :<,<)<,;;;
#ost of goods sold ),>;;,;;; ),;;;,;;; %,<;;,;;; <,2;;,;;;
Jross margin : %;<,;;; : %0;,;;; : %<;,;;; : 2)<,;;;
!ther operating costs );%,;<;
!perating income : %)>,@&;
Jross margin C &.@%C 2.=>C @.;@C
$he gross margin of .harmacare, +nc., was 2.@>C (:2)<,;;; L :<,<)<,;;;). $he
operating income margin of .harmacare, +nc., was %.00C (:%)>,@&; L :<,<)<,;;;).
&. $he per-unit cost driver rates are-
%. #ustomer purchase order processing,
:<;,;;; L &,;;; (%2; F )>; F %,0;;) orders G :2; per order
&. Nine item ordering,
:>),<2; L &%,&<; (%,@>; F 2,)&; F %0,;;;) line items G : ) per line item
). 1tore delivery,
:=%,;;; L %,2<; (%&; F )>; F %,;;;) deliveries G :2=.@=) per delivery
2. #artons shipped,
:=>,;;; L =>,;;; ()>,;;; F &2,;;; F %>,;;;) cartons G : % per carton
0. 1helf-stocing,
:%;,&2; L >2; ()>; F %<; F %;;) hours G :%> per hour
). $he activity-based costing of each distribution maret for &;%% is-
G%,%&'+
S1/%&0'&A%"
C#'$,!
D&1<!"&%
C#'$,!
M0-',2-
P/
S$,<+% S"&%! T"'+
%. #ustomer purchase order processing
(:2; %2;M )>;M %,0;;) : 0,>;; :%2,2;; : >;,;;; : <;,;;;
&. Nine item ordering
(:) %,@>;M 2,)&;M %0,;;;) 0,<<; %&,@>; 20,;;; >) ,<2;
). 1tore delivery,
(:2=.@=) %&;M )>;M %,;;;) 0,=0= %=,&=; 2=,@=) =%,;;;
2. #artons shipped
(:% )>,;;;M &2,;;;M %>,;;;) )>,;;; &2,;;; %>,;;; =>,;;;
0. 1helf-stocing
(:%> )>;M %<;M %;;) 0,=>; &,<<; %,>;; %;,&2;
:0<,@@= :=%,0%; :%=;,0=) :);%,;<;
0-)<
$he revised operating income statement is-
G%,%&'+ M0-',2-P/
S1/%&0'&A%" D&1<!"&% S$,<+%
C#'$,! C#'$,! S"&%! T"'+
Ievenues :),=;<,;;; :),%0;,;;; :%,@<;,;;; :<,<)<,;;;
#ost of goods sold ),>;;,;;; ),;;;,;;; %,<;;,;;; <,2;;,;;;
Jross margin %;<,;;; %0;,;;; %<;,;;; 2)<,;;;
!perating costs 0<,@@= =%,0%; %=;,0=) );%,;<;
!perating income : 2@,;;) : =<,2@; : @,2&= : %)>,@&;
!perating income margin %.)&C &.2@C ;.2<C %.00C
2. $he raning of the three marets are-
9!$,< G&!! M'&<$, 9!$,< O/%&'"$,< I,c0%
%. ?om-and-.op 1ingle 1tores @.;@C %. 4rugstore #hains &.2@C
&. 4rugstore #hains 2.=>C &. Jeneral 1upermaret #hains %.)&C
). Jeneral 1upermaret #hains &.@%C ). ?om-and-.op 1ingle 1tores ;.2<C
$he activity-based analysis of costs highlights how the ?om-and-.op 1ingle 1tores use a larger
amount of .harmacare5s resources per revenue dollar than do the other two marets. $he ratio of
the operating costs to revenues across the three marets is-
Jeneral 1upermaret #hains %.0@C (:0<,@@= L :),=;<,;;;)
4rugstore #hains &.&=C (:=%,0%; L :),%0;,;;;)
?om-and-.op 1ingle 1tores <.>%C (:%=;,0=) L :%,@<;,;;;)
$his is a classic illustration of the ma(im that all revenue dollars are not created e6ual. $he
analysis indicates that the ?om-and-.op 1ingle 1tores are the least profitable maret.
.harmacare should wor to increase profits in this maret through- (%) a possible surcharge, (&)
decreasing the number of orders, ()) offering discounts for 6uantity purchases, etc.
0-)@
!ther issues for .harmacare to consider include
a. hoosing the appropriate cost drivers for each area. $he problem gives a cost driver
for each chosen activity area. Aowever, it is liely that over time further refinements
in cost drivers would be necessary. ,or e(ample, not all store deliveries are e6ually
easy to mae, depending on paring availability, accessibility of the storageVshelf
space to the delivery point, etc. 1imilarly, not all cartons are e6ually easy to deliverPP
their weight, si/e, or liely breaage component are factors that can vary across
carton types.
b. "eveloping a relia!le data !ase on the chosen cost drivers. ,or some items, such as
the number of orders and the number of line items, this information liely would be
available in machine readable form at a high level of accuracy. "nless the delivery
personnel have hand-held computers that they use in a systematic way, estimates of
shelf-stocing time are liely to be unreliable. *dvances in information technology
liely will reduce problems in this area over time.
c. "eciding how to handle costs that may !e common across several activities. ,or
e(ample, ()) store delivery and (2) cartons shipped to stores have the common cost of
the same trip. 1ome organi/ations may treat ()) as the primary activity and attribute
only incremental costs to (2). 1imilarly, (%) order processing and (&) line item
ordering may have common costs.
d. #ehavioral factors are likely to !e a challenge to $lair. Ae must now tell those
salespeople who speciali/e in ?om-and-.op accounts that they have been less
profitable than previously thought.
0-2;
5-36 ();-2; min.) C#!$,< c!" 2&$)%&!, 'c"$)$"(--'!%2 c!"$,<, 'c"$)$"(--'!%2
0','<%0%,".
%.
4irect materialsWpurses !utput unit-level costs
4irect materialsWbacpacs !utput unit-level costs
4irect manufacturing laborWpurses !utput unit-level costs
4irect manufacturing laborWbacpacs !utput unit-level costs
1etup Batch-level costs
1hipping Batch-level costs
4esign .roduct-sustaining costs
.lant utilities and administration ,acility-sustaining costs
&.
4irect materialsWpurses 3umber of purses
4irect materialsWbacpacs 3umber of bacpacs
4irect manufacturing laborWpurses 3umber of purses
4irect manufacturing laborWbacpacs 3umber of bacpacs
1etup 3umber of batches
1hipping 3umber of batches
4esign 3umber of designs
.lant utilities and administration Aours of production
4irect material and direct manufacturing labor are costs that can be easily traced to output, which
in this case is the number of purses or bacpacs produced.
1etup and shipping are both a function of the number of batches produced.
4esign is related to the number of designs created for each product.
.lant utilities and administration result from general activity level in the plant. $hus, hours of
production seems to be an appropriate cost driver.
).
4irect materialsWpurses :)=@,&@; L ),)0; purses G :%%).&& per purse
4irect materialsWbacpacs :2%&,@&; L >,;0; bacpacs G :><.&0 per bacpac
4irect manufacturing laborWpurses :@<,;;; L ),)0; purses G :&@.&0 per purse
4irect manufacturing laborWbacpacs :%&;,;;; L >,;0; bacpacs G :%@.<) per bacpac
1etup :>0,@); %@; batches G :)2= per batch
1hipping :=),@%; %@; batches G :)<@ per batch
4esign :%>>,;;; L 2 designs G :2%,0;; per design
.lant utilities and administration :&2),;;; L 2,;0; hours G :>; per hour
0-2%
2.
B'cA/'cA! P1&!%! T"'+
4irect materials :2%&,@&; :)=@,&@; : =@&,&%;
4irect manufacturing labor %&;,;;; @<,;;; &%<,;;;
1etup
(:)2= O %);M >; batches) 20,%%; &;,<&; >0,@);
1hipping
(:)<@ O %);M >; batches) 0;,0=; &),)2; =),@%;
4esign
(:2%,0;; O &M & designs) <),;;; <),;;; %>>,;;;
.lant utilities and administration
(:>; O %,20;M &,>;; hours) <=,;;; %0>,;;; &2),;;;
Budgeted total costs :=@<,>;; :=>;,20; :%,00@,;0;
4ivided by number of bacpacsVpurses L >,;0; L ),)0;
Budgeted cost per bacpacVpurse : %)&.;; : &&=.;;
0. Based on this analysis, over 0;C of product cost relates to direct material. ?anagers should
determine whether the material costs can be reduced. .roducing in small lots increases the setup
and shipping costs. 8hile both are relatively small components of product cost, management
may want to evaluate ways to reduce the number of setups and the cost per setup. !f the indirect
costs, the product- and facility-sustaining costs are the highest. ?anagement should review the
design process for cost savings and e(amine why it taes so long to produce purses relative to
bacpacs.
0-2&
5-37 (2; min.) ABC, #%'+"# c'&%*
%a. ?edical supplies rate G
years - patient of number $otal
costs supplies ?edical
G
:&&;,;;;
%%;

G :&,;;; per patient-year
G
space of feet s6uare of amount $otal
costs maint. clinic and Ient
G
:%&>,;;;
&%,;;;

G :> per s6uare foot
G
years - patient of number $otal
laundry food, charts,
patient manage to costs *dmin.
G
:22;,;;;
%%;

G :2,;;; per patient-year
Naboratory services rate G
tests laboratory of number $otal
costs services Naboratory
G
:<2,;;;
&,%;;

G :2; per test
$hese cost drivers are chosen as the ones that best match the descriptions of why the costs arise.
!ther answers are acceptable, provided that clear e(planations are given.
%b. *ctivity-based costs for each program and cost per patient-year of the alcohol and drug
program follow-
D&1< A."%&-C'&% T"'+
4irect labor
.hysicians at :%0;,;;; O 2M ; : >;;,;;; PPP : >;;,;;;
.sychologists at :=0,;;; O 2M < );;,;;; : >;;,;;; @;;,;;;
3urses at :);,;;; O >M %; %<;,;;; );;,;;; 2<;,;;;
4irect labor costs %,;<;,;;; @;;,;;; %,@<;,;;;
?edical supplies
%
:&,;;; O 0;M >; %;;,;;; %&;,;;; &&;,;;;
Ient and clinic maintenance
&
:> O @,;;;M %&,;;; 02,;;; =&,;;; %&>,;;;
*dministrative costs to manage
patient charts, food, and laundry
)
:2,;;; O 0;M >; &;;,;;; &2;,;;; 22;,;;;
Naboratory services
2

:2; O %,2;;M =;; 0>,;;; &<,;;; <2,;;;
$otal costs :%,2@;,;;; :%,)>;,;;; :&,<0;,;;;
#ost per patient-year
:%, 2@;, ;;;
:&@, <;;
0;
=
%
*llocated using patient-years
&
*llocated using s6uare feet of space
)
*llocated using patient-years
2
*llocated using number of laboratory tests
0-2)
%c. $he *B# system more accurately allocates costs because it identifies better cost drivers.
$he *B# system chooses cost drivers for overhead costs that have a cause-and-effect
relationship between the cost drivers and the costs. !f course, #layton should continue to
evaluate if better cost drivers can be found than the ones they have identified so far.
By implementing the *B# system, #layton can gain a more detailed understanding of
costs and cost drivers. $his is valuable information from a cost management perspective. $he
system can yield insight into the efficiencies with which various activities are performed.
#layton can then e(amine if redundant activities can be eliminated. #layton can study trends and
wor toward improving the efficiency of the activities.
+n addition, the *B# system will help #layton determine which programs are the most
costly to operate. $his will be useful in maing long-run decisions as to which programs to offer
or emphasi/e. $he *B# system will also assist #layton in setting prices for the programs that
more accurately reflect the costs of each program.
&. $he concern with using costs per patient-year as the rule to allocate resources among its
programs is that it emphasi/es input to the e(clusion of outputs or effectiveness of the
programs. *fter-all, #layton5s goal is to cure patients while controlling costs, not minimi/e costs
per-patient year. $he problem, of course, is measuring outputs.
"nlie many manufacturing companies, where the outputs are obvious because they are
tangible and measurable, the outputs of service organi/ations are more difficult to measure.
'(amples are cured patients as distinguished from processed or discharged patients,
educated as distinguished from partially educated students, and so on.
0-22
5-38 (&0 min.) 9,1!%2 c'/'c$"(, 'c"$)$"(--'!%2 c!"$,<, 'c"$)$"(--'!%2 0','<%0%,".
%.
B'!A%"-'++! V++%(-'++! T"'+
3umber of batches );; 2;; =;;
?achine-hours %%,;;; %&,0;; &),0;;
1etup cost per batch G :%2),0;; L =;; batches G :&;0 per batch.

'6uipment and maintenance G :%;@,@;; L &),0;; machine-hours G :2.>=>> per machine-hour.
Nease rent, insurance, utilities G :&%>,;;; L %&,;;; s6. ft. of capacity G :%< per s6. ft.
#apacity used for #apacity used for
&. "nused capacity $otal capacity =
basetball production volleyball production



%&, ;;; ), )>; 0, ;2; ), >;; s6. ft. = =

#ost of unused capacity G :%< per s6. ft O ),>;; s6. ft. G :>2,<;;
).
B'!A%"-'++! V++%(-'++! T"'+
4irect materials :&;@,=0; :)0<,&@; : 0><,;2;
4irect manufacturing labor %;=,))) %;&,@>@ &%;,);&
1etup
(:&;0 O );;M 2;;) >%,0;; <&,;;; %2),0;;
'6uipment and maintenance
(:2.>=>> O %%,;;;M %&,0;;) 0%,22) 0<,20= %;@,@;;
Nease rent, etc.
(:%< O ),)>;M 0,;2;) >;,2<; @;,=&; %0%,&;;
Budgeted total costs :2@;,0;> :>@&,2)> :%,%<&,@2&
4ivided by number of units L >>,;;; L%;;,;;;
Budgeted cost per unit : =.2) : >.@&
2. #urrently, 3ivag only utili/es =;C of its available capacity. ?anagers should consider
whether the e(cess capacity is sufficient to produce footballs. !ther issues to consider include
demand for the proposed product, the competition, capital investment needed to start and support
this product line, and the availability of silled and unsilled labor needed to manufacture
footballs.
0-20
5-39 (2;0; min.) Ac"$)$"(--'!%2 ?- c!"$,<, 1,$"-c!" c0/'&$!,!*
*n overview of the product-costing system is-
INDIRECT
COST
POOL
COST
ALLOCATION
BASE
DIRECT
COST
}
}
}
Materials
Handling
Number of
Parts
Direct
Materials
}
COST OBJECT:
COMPONENTS
Indirect Costs
Direct Costs
Direct
Manufacturing
Labor
Lathe
Work
Number of
Turns
Milling
Number of
Machine-Hours
Grinding
Number of
Parts
Testing
Number of
Units
Tested
%.
=- O&2%& 410 =- O&2%& 411
4irect manufacturing cost
4irect materials
4irect manufacturing labor
:); &0M :); )=0
+ndirect manufacturing cost
:%%0 &0M :%%0 )=0
$otal manufacturing cost
4ivided by number of units
?anufacturing cost per unit
:@,=;;
=0; : %;,20;
&,<=0
: %),)&0
L %;
: %,))& .0;
:0@,@;;
%%,&0; : =%,%0;
2),%&0
:%%2,&=0
L &;;
:0=% .)=0
0-2>
&. =- O&2%& 410 =- O&2%& 411
4irect manufacturing cost
4irect materials
4irect manufacturing labor
:); &0M :); )=0
+ndirect manufacturing cost
?aterials handling
:;.2; 0;;M :;.2; &,;;;
Nathe wor
:;.&; &;,;;;M :;.&; 0@,&0;
?illing
:&;.;; %0;M :&;.;; %,;0;
Jrinding
:;.<; 0;;M :;.<; &,;;;
$esting
:%0.;; %;M :%0.;; &;;
$otal manufacturing cost
4ivided by number of units
?anufacturing cost per unit
:@,=;;
=0; :%;,20;
&;;
2,;;;
),;;;
2;;
%0; =,=0;
:%<,&;;
L %;
: %,<&;
:0@,@;;
%%,&0; : =%,%0;
<;;
%%,<0;
&%,;;;
%,>;;
),;;; )<,&0;
:%;@,2;;
L &;;
: 02=
). =- O&2%& 410 =- O&2%& 411
3umber of units in job %; &;;
#osts per unit with prior costing system :%,))&.0; :0=%.)=0
#osts per unit with activity-based costing %,<&;.;; 02=
Uob order 2%; has an increase in reported unit cost of )>.>C R(:%,<&; P :%,))&.0;) L
:%,))&.0;S, while job order 2%% has a decrease in reported unit cost of 2.)C R(:02= P :0=%.)=0)
L :0=%.)=0S.
* common finding when activity-based costing is implemented is that low-volume
products have increases in their reported costs while high-volume products have decreases in
their reported cost. $his result is also found in re6uirements % and & of this problem. #osts such
as materials-handling costs vary with the number of parts handled (a function of batches and
comple(ity of products) rather than with direct manufacturing labor-hours, an output-unit level
cost driver, which was the only cost driver in the previous job-costing system.
$he product cost figures computed in re6uirements % and & differ because
a. the job orders differ in the way they use each of five activity areas, and
b. the activity areas differ in their indirect cost allocation bases (specifically, each area
does not use the direct manufacturing labor-hours indirect cost allocation base).
0-2=
$he following table documents how the two job orders differ in the way they use each of the five
activity areas included in indirect manufacturing costs-
9!'<% B'!%2 , A,'+(!$! .
Ac"$)$"( A&%' C!" D&$)%&!
9!'<% A!!10%2 8$"# D$&%c" M',1.*
:'-&-H1&! '! A//+$c'"$, B'!%
Ac"$)$"( A&%'
=- O&2%&
410
=- O&2%&
411
=- O&2%&
410
=- O&2%&
411
?aterials handling &;.;C <;.;C >.&0C @).=0C
Nathe wor &0.& =2.< >.&0 @).=0
?illing %&.0 <=.0 >.&0 @).=0
Jrinding &;.; <;.; >.&0 @).=0
$esting 2.< @0.& >.&0 @).=0
$he differences in product cost figures might be important to $racy #orporation for
product pricing and product emphasis decisions. $he activity-based accounting approach
indicates that job order 2%; is being undercosted while job order 2%% is being overcosted. $racy
#orporation may erroneously push job order 2%; and deemphasi/e job order 2%%. ?oreover, by
its actions, $racy #orporation may encourage a competitor to enter the maret for job order 2%%
and tae maret share away from it.
2. +nformation from the *B# system can also help $racy manage its business better in
several ways.
a. Product design. .roduct designers at $racy #orporation liely will find the numbers
in the activity-based costing approach more believable and credible than those in the
simple system. +n a machine-paced manufacturing environment, it is unliely that
direct labor-hours would be the major cost driver. *ctivity-based costing provides
more credible signals to product designers about the ways the costs of a product can
be reducedPPfor e(ample, use fewer parts, re6uire fewer turns on the lathe, and
reduce the number of machine-hours in the milling area.
b. ost management. $racy can reduce the cost of jobs both by maing process
improvements that reduce the activities that need to be done to complete jobs and by
reducing the costs of doing the activities.
c. ost planning. *B# provides a more refined model to forecast costs and to e(plain
why actual costs differ from budgeted costs.
0-2<
5-40 (0; min.) ABC, $0/+%0%,"'"$,, %"#$c!*
%. *pplewood 'lectronics should not emphasi/e the Iegal model and should not phase out
the ?onarch model. "nder activity-based costing, the Iegal model has an operating income
percentage of less than )C, while the ?onarch model has an operating income percentage of
nearly 2)C.
#ost driver rates for the various activities identified in the activity-based costing (*B#)
system are as follows-
1oldering : @2&,;;; %,0=;,;;; G : ;.>; per solder point
1hipments <>;,;;; &;,;;; G 2).;; per shipment
Quality control %,&2;,;;; ==,0;; G %>.;; per inspection
.urchase orders @0;,2;; %@;,;<; G 0.;; per order
?achine power 0=,>;; %@&,;;; G ;.); per machine-hour
?achine setups =0;,;;; );,;;; G &0.;; per setup
A//+%82 E+%c"&,$c!
C'+c1+'"$, . C!"! . E'c# M2%+
1,2%& Ac"$)$"(-B'!%2 C!"$,<
M,'&c# R%<'+
4irect costs
4irect materials (:&;< &&,;;;M :0<2 2,;;;) : 2,0=>,;;; :&,))>,;;;
4irect manufacturing labor (:%< &&,;;;M :2& 2,;;;) )@>,;;; %><,;;;
?achine costs (:%22 &&,;;;M :=& 2,;;;) ),%><,;;; &<<,;;;
$otal direct costs <,%2;,;;; &,=@&,;;;
+ndirect costs
1oldering (:;.>; %,%<0,;;;M :;.>; )<0,;;;) =%%,;;; &)%,;;;
1hipments (:2) %>,&;;M :2) ),<;;) >@>,>;; %>),2;;
Quality control (:%> 0>,&;;M :%> &%,);;) <@@,&;; )2;,<;;
.urchase orders (:0 <;,%;;M :0 %;@,@<;) 2;;,0;; 02@,@;;
?achine power (:;.); %=>,;;;M :;.); %>,;;;) 0&,<;; 2,<;;
?achine setups (:&0 %>,;;;M :&0 %2,;;;) 2;;,;;; )0;,;;;
$otal indirect costs ),%>;,%;; %,>)@,@;;
$otal costs :%%,);;,%;; :2,2)%,@;;
0-2@
P&.$"'-$+$"( ','+(!$!
M,'&c# R%<'+ T"'+
Ievenues :%@,<;;,;;; :2,0>;,;;; :&2,)>;,;;;
#ost of goods sold %%,);;,%;; 2,2)%,@;; %0,=)&,;;;
Jross margin : <,2@@,@;; : %&<,%;; : <,>&<,;;;
.er-unit calculations-
"nits sold &&,;;; 2,;;;
1elling price
(:%@,<;;,;;; &&,;;;M
:2,0>;,;;; 2,;;;) :@;;.;; :%,%2;.;;
#ost of goods sold
(:%%,);;,%;; &&,;;;M
:2,2)%,@;; 2,;;;) 0%).>2 %,%;=.@<
Jross margin :)<>.)> : )&.;&
Jross margin percentage2&.@C &.<C
&. *pplewood5s simple costing system allocates all manufacturing overhead other than
machine costs on the basis of machine-hours, an output unit-level cost driver. #onse6uently, the
more machine-hours per unit that a product needs, the greater the manufacturing overhead
allocated to it. Because ?onarch uses twice the number of machine-hours per unit compared to
Iegal, a large amount of manufacturing overhead is allocated to ?onarch.
$he *B# analysis recogni/es several batch-level cost drivers such as purchase orders,
shipments, and setups. Iegal uses these resources much more intensively than ?onarch. $he
*B# system recogni/es Iegal5s use of these overhead resources. #onsider, for e(ample,
purchase order costs. $he simple system allocates these costs on the basis of machine-hours. *s
a result, each unit of ?onarch is allocated twice the purchase order costs of each unit of Iegal.
$he *B# system allocates :2;;,0;; of purchase order costs to ?onarch (e6ual to :%<.&;
(:2;;,0;; &&,;;;) per unit) and :02@,@;; of purchase order costs to Iegal (e6ual to :%)=.2<
(:02@,@;; 2,;;;) per unit). 'ach unit of Iegal uses =.00 (:%)=.2< :%<.&;) times the
purchases order costs of each unit of ?onarch.
Iecogni/ing Iegal5s more intensive use of manufacturing overhead results in Iegal
showing a much lower profitability under the *B# system. By the same toen, the *B# analysis
shows that ?onarch is 6uite profitable. $he simple costing system overcosted ?onarch, and so
made it appear less profitable.
). 4uval5s comments about *B# implementation are valid. 8hen designing and
implementing *B# systems, managers and management accountants need to trade off the costs
of the system against its benefits. *dding more activities would mae the system harder to
understand and more costly to implement but it would probably improve the accuracy of cost
information, which, in turn, would help *pplewood mae better decisions. 1imilarly, using
inspection-hours and setup-hours as allocation bases would also probably lead to more accurate
cost information, but it would increase measurement costs.
0-0;
2. *ctivity-based management (*B?) is the use of information from activity-based costing
to mae improvements in a firm. ,or e(ample, a firm could revise product prices on the basis of
revised cost information. ,or the long term, activity-based costing can assist management in
maing decisions regarding the viability of product lines, distribution channels, mareting
strategies, etc. *B? highlights possible improvements, including reduction or elimination of
non-value-added activities, selecting lower cost activities, sharing activities with other products,
and eliminating waste. *B? is an integrated approach that focuses management5s attention on
activities with the ultimate aim of continuous improvement. *s a whole-company philosophy,
*B? focuses on strategic, as well as tactical and operational activities of the company.
0. +ncorrect reporting of *B# costs with the goal of retaining both the ?onarch and Iegal
product lines is unethical. +n assessing the situation, the specific 1tandards of 'thical #onduct
for ?anagement *ccountants (described in '(hibit %-=) that the management accountant should
consider are listed below.
ompetence
#lear reports using relevant and reliable information should be prepared. .reparing reports on
the basis of incorrect costs in order to retain product lines violates competence standards. +t is
unethical for Ben/o to change the *B# system with the specific goal of reporting different
product cost numbers that 4uval favors.
Integrity
$he management accountant has a responsibility to avoid actual or apparent conflicts of interest
and advise all appropriate parties of any potential conflict. Ben/o may be tempted to change the
product cost numbers to please 4uval, the division president. $his action, however, would
violate the responsibility for integrity. $he 1tandards of 'thical #onduct re6uire the management
accountant to communicate favorable as well as unfavorable information.
redi!ility
$he management accountant5s standards of ethical conduct re6uire that information should be
fairly and objectively communicated and that all relevant information should be disclosed. ,rom
a management accountant5s standpoint, adjusting the product cost numbers to mae both the
?onarch and Iegal lines loo profitable would violate the standard of objectivity.
Ben/o should indicate to 4uval that the product cost calculations are, indeed, appropriate.
+f 4uval still insists on modifying the product cost numbers, Ben/o should raise the matter with
one of 4uval5s superiors. +f, after taing all these steps, there is continued pressure to modify
product cost numbers, Ben/o should consider resigning from the company, rather than engage in
unethical behavior.
0-0%
5-41 ();-2; mins.) Ac"$)$"(--'!%2 c!"$,<, c!" #$%&'&c#(.
%.
S1/%& BA!"&%
I,c0% S"'"%0%,"
;& "#% Y%'& E,2%2 31 D%c%0-%&, 2010
BA! CD! C'.H T"'+
Ievenues :),=&;,2<; :&,)%0,)>; :=)>,&%> :>,==&,;0>
#ost of ?erchandise &,>0>,=&= %,=&&,)%% 00>,><0 2,@)0,=&)
#ost of #afX #leaning %<,&0; %<,&0;
*llocated 1elling, Jeneral and *dministration #osts
a
(;.);;@<> O :&,>0>,=&=M :%,=&&,)%%M :00>,><0) =@@,>)< 0%<,)@& %>=,002 %,2<0,0<2
!perating income : &>2,%%0 : =2,>0= : (>,&=)) : ))&,2@@
a
!verhead rate G :%,2<0,0<2 L :2,@)0,=&) G ;.);;@<> per cost of merchandise dollar
&. 1elling, general and administration (1,J T *) is comprised of a variety of costs that are
unliely to be consumed uniformly across product lines based on the cost of merchandise.
1uper Boostore should consider an activity-based costing system to clarify how each product
line uses these 1, J T * resources.
BA! CD! C'.H T"'+
3umber of purchase orders &,<;
;
&,0;
;
&,;;
;
=,);
;
3umber of deliveries received %,2;
;
%,=;
;
%,>;
;
2,=;
;
Aours of shelf-stocing time %0,;;
;
%2,;;
;
%;,;;
;
)@,;;
;
+tems sold %&2,;%
>
%%0,=>
<
)><,%;
<
>;=,<@
&
.urchasing :2=2,0;; L =,);; orders placed G :>0 per purchase order
Ieceiving :2)&,2;; L 2,=;; deliveries G :@& per delivery
1tocing :2<=,0;; L )@,;;; hours G :%&.0; per stocing hour
#ustomer support :@%, %<2 L >;=,<@& items sold G :;.%0 per item sold
BA! CD! C'.H T"'+
Ievenues :),=&;,2<; :&,)%0,)>; : =)>,&%> :>,==&,;0>
#ost of ?erchandise &,>0>,=&= %,=&&,)%% 00>,><0 2,@)0,=&)
Jross margin %,;>),=0) 0@),;2@ %=@,0)% %,<)>,)))
#ost of #afX #leaning %<,&0; %<,&0;
.urchasing
(:>0 O &,<;;M &,0;;M &,;;;) %<&,;;; %>&,0;; %);,;;; 2=2,0;;
Ieceiving
(:@& O %,2;;M %,=;;M %,>;;) %&<,<;; %0>,2;; %2=,&;; 2)&,2;;
1helf-stocing
(:%&.0; O %0,;;;M %2,;;;M %;,;;;) %<=,0;; %=0,;;; %&0,;;; 2<=,0;;
0-0&
#ustomer support
(:;.%0 O %&2,;%>M %%0,=><M )><,%;< %<,>;) %=,)>0 00,&%> @%,%<2
$otal 1, J T * costs 0%>,@;) 0%%,&>0 2=0,>>> %,0;),<)2
!perating income : 02>,<0; : <%,=<2 :(&@>,%)0) : ))&,2@@
#omparing product line income statements in re6uirements % and &, it appears that boos are
much more profitable and cafX loses a lot more money under the *B# system compared to the
simple system. $he reason is that boos use far fewer 1,J T * resources relative to its
merchandise costs and cafX uses far greater 1, J T * resources relative to its merchandise costs.
).
To: Super Bookstore Management Team
From: Cost Analyst
Re: Costing System
$he current accounting system allocates indirect costs (1,J T *) to product lines based on the
#ost of ?erchandise sold. "sing this method, the 1, J T * costs are assigned 02C, )0C, %%C,
to the Boos, #4s, and #afX product lines, respectively.
+ recommend that the organi/ation switch to an activity-based costing (*B#) method. 8ith
*B#, the product lines are assigned indirect costs based on their consumption of the activities
that give rise to the costs. *n *B# analysis reveals that the #afX consumes considerably more
than %%C of indirect costs. +nstead, the cafX generally re6uires &0-)0C of the purchasing,
receiving and stocing activity and >;C of the customer support.
$he current accounting techni6ue mass the losses being produced by the cafX because it
assumes all indirect costs are driven by the dollar amount of merchandise sold. By adopting
*B#, management can evaluate the costs of operating the three product lines and mae more
informed pricing and product mi( decisions. ,or e(ample, management may want to consider
increasing prices of the food and drins served in the cafX. Before deciding whether to increase
prices or to close the cafX, management must consider the beneficial effect that having a cafe has
on the other product lines.
*n *B# analysis can also help 1uper Boostore manage its costs by reducing the number of
activities that each product line demands and by reducing the cost of each activity. $hese actions
will improve the profitability of each product line. *B# analysis can also be used to plan and
manage the various activities.
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