Professional Documents
Culture Documents
QUESTIONS
5-1
Product costs are likely distorted when a firm uses a volume-based rate if the
plant has more than one activity in its operations and not all activities consume
overhead in the same proportion. The more diverse the product mixes of the
plant are in volume, sizes, manufacturing processes, or product complexities,
the greater the cost distortions are likely to be in using a volume-based rate.
5-2
Undercosting a product may appear to have increased the reported profit the
product earned (assuming the firm did not lower its selling price because of the
reported lower product cost). However, the increased profit is, at best, a twist in
truth. Costs of the product not charged to the product itself are borne by other
products of the firm.
Worse, undercosting a product may result in managers erroneously believing the
product to be more profitable than other products and shifting the limited
resource the firm has into manufacturing, promotion, and sales of the product
when, in fact, other products are more profitable to the firm. Severe cost
distortions may lead firms not to drop unprofitable products because the cost
data show these products are profitable.
5-3
Overcosting does not increase revenues. A firm can increase the selling price of
a product, thereby increasing the total revenue from the product only if the
market allows. Increases in the selling price of a product without experiencing
noticeable decrease in the sales quantity of the product is likely an indication
that the product was not priced properly, which might be a result of undercosting
of the product.
Furthermore, overcosting a product is likely accompanied by undercosting of the
firms other products and, as a result, underpricing of one or more of the firms
other products.
When a firm sets a high selling price that is a result of overcosting, competitors
also are likely to enter the market and take away the firms market share. A firm
also may drop or de-emphasize an erroneously overcosted product when it
erroneously believes the product is either unprofitable or having a low-margin.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-1
5-4
Activity-based costing recognizes that resources are spent on activities and the
cost of a product or service is the sum of the costs of activities performed in
manufacturing the product or providing the service.
An activity-based costing system traces costs to the activity that consumes
resources. Costs are determined based on the activities performed for cost
objects and their underlying cost drivers that consume resources. Product or
service costs determined using activity-based costing reflect costs of resources
consumed for activities performed in manufacturing products or providing
services. In contrast, a volume-based costing system uses cost allocations to
channel indirect costs to products or services. As a result, the cost of a product
or service often bears little or no relationship to activities performed in the
manufacturing of the product or service.
5-5
Based on the activities of most manufacturing firms, the general levels of cost
hierarchy of an activity-based costing system are:
Unit-level cost;
Batch-level cost;
Product-level cost; and
Facility-level cost.
5-6
5-7
All firms should use an ABC system when the benefits of such a system exceed
the costs of implementing it. It is especially beneficial to firms with product
diversity and/or process complexity.
5-8
5-9
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-2
5-12 A product-costing system that uses a single volume-based cost driver is likely to
overcost high-volume products because high-volume products do not consume
support resources in proportion to their production volumes. As a result, a
product-costing system that uses a single volume-based cost driver often
overcosts high-volume products or services and undercosts low-volume products
or services.
The cross-subsidizations of low-volume products by high-volume products is
likely to lead the firm not to price its products properly. This may also decrease
the profits of the firm and reduce managements confidence in the product cost
predictions. Poor pricing can lead a firm to promote less profitable products
while not spending sufficient resources on more profitable items.
5-13 Activity-based management is the use of an activity-based costing system to
improve operations, increase customer value, and enhance profitability.
5.14
5.15
5.16
5.17
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-3
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-4
BRIEF EXERCISES
5-18 Total Cost per Batch = $50 + (.1 x 5,000)
= $550
Cost to produce 100,000 cans
= (50 x (100,000/5,000)) + (.1 x 100,000)
= $11,000
5-19
5-20
= $21
5-24
Direct Labor
Copying
Total Job Cost
= $8 x 5 = $40
= $0.05 x 1,000 = $50
= $50 + $40 = $90
5-25
Data Entry = $2,000,000 / 100,000 = $20 per hour
Data Analysis
= $3,000,000 / 30,000 = $100 per hour
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-5
5-26
Volume Based Rate = 2 x $10 = $20 overhead per mattress
Activity Based Rate:
Materials Handling = 30 x $.10
= $3 materials handling cost per mattress
Setup Cost
= $5 x 2
= $10 per mattress
Total ABC
= $3 + $10
= $13 per mattress
Overstatement
= $20 $13 = $7 per mattress
5-27
$150 x .2 = $30 million
500,000 x 20 = 10 million
$30/10 = $3 per part
Total inspection cost:
$3 x 20 = $60 for 20 parts
$3 x 50 = $150 for 50 parts
5-28
6 x 10,000 x $.50 = $30,000
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-6
EXERCISES
5-29 Activity Levels (5 min)
1. Cost Hierarchy
a.
Unit-level
f.
Product-level
b.
Unit-level
g.
Facility-level
c.
Facility-level
h.
Facility-level
d.
Unit-level
i.
Batch-level
e.
Unit-level
j.
2. Cost Driver
a.
Number of hamburgers
b.
Number of hours
c.
Square feet
d.
e.
Number of hamburgers
f.
g.
h.
Square feet
i.
j.
Number of customers
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-7
Unit-level
f.
Facility-level
b.
Batch-level
g.
Product-level
c.
Batch-level
h.
Product-level
d.
Batch-level; Product-level
i.
Unit-level; Batch-level
e.
Product-level
j.
Batch-level.
2. Cost Drivers
a. Machine hours
b. Number of setups or setup hours
c. Number of production orders
d. Number of material receipts; Number of purchase orders
e. Number of products
f. Number of machine hours
g. Number of engineering change notices; number of modifications;
Number of products
h. Number of parts; Number of products; Number of purchase orders
i. Number of inspection hours; Number of units; Number of batches
j. Number of loads; Number of material moves; Material weights
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-8
Product-level
f.
Batch-level
b.
Product-level
g.
Unit-level
c.
Product-level
h.
Facility-level
d.
Product-level
i.
Product-level
e.
Batch-level
j.
Facility-level
2. Cost Drivers
a. Number of products
b. Number of products
c. Number of products
d. Number of products
e. Number of batches or setups
f. Number of batches
g. Number of units
h. Purchase costs; Replacement costs; Book values
i. Number of purchase orders; Number of products; Number of suppliers
j. Square feet
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-9
5-32 Activity Levels and Cost Drivers - Service Company (15 min)
1. Output unit-level costs:
a. Salaries and wages of lab technicians
b. Equipment-related costs
$1,200,000
$ 300,000
These costs are likely to vary with the number of test-hours, which are
functions of the output units (test).
Batch-level costs:
c. setup costs
$240,000
Setup costs are incurred each time a batch of tests is setup for either
ST or PRT, regardless of the number of hours of the tests.
Product-level costs:
d. Costs of test designs
$360,000
These costs are incurred in designing ST and PRT tests, regardless of
the number of test-hours or number of batches tested.
2. As shown in the calculation below, the current costing system of
charging $70 per test-hour for overhead undercosts the soil test (ST)
and overcosts the pesticide residues test (PRT). One reason is that ST
uses more setup costs and test design costs than PRT does, while ST
has lower test hours than PRT. On average, ST tests take longer to
setup (0.85 versus 0.575 setup hour per test hour) and it is more
difficult to design the test (0.58 versus 0.21 setup hours per test hour)
ST
PRT
Setup Hours
Test-Hours Total
Per Test-Hour
10,000
8,500
0.850
20,000
11,500
Blocher,Stout,Cokins,Chen:Cost Management, 4e
0.575
5-10
0.21
5-32 (continued)
3.
Test hours
Salaries and Wages
Equipment-related
costs*
ST
PRT
Setup costs#
ST
PRT
Test design costs&
ST
PRT
TOTAL
*Equipment-related
costs
Test hours
Per test hour
Total
#
Setup costs:
Setup hours
Per hour
Total
&
Test design costs:
Test design hours
Per hour
Total
ST
Total Per Hour
10,000
$540,000 $54.00
100,000
102,000
208,800
________
$950,800
PRT
Total
Per Hour TOTAL
20,000
30,000
$660,000 $33.00 $1,200,000
$10.00
200,000
$10.00
138,000
$6.90
$20.88
______
151,200
$95.08 $1,149,200
7.56
$57.46
$10.20
10,000
20,000
100,000
200,000
8,500
11,500
102,000
138,000
5,800
4,200
208,800
151,200
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-11
$300,000
30,000
$10
$240,000
20,000
$12.00
$360,000
10,000
$36.00
5-32 (continued-2)
4.
ST
Total
Per Hour
2,500
$135,000 $54.00
PRT
Total
Per Hour TOTAL
5,000
7,500
$165,000
$33.00 $300,000
Test hours
Salaries and Wages
Equipment-related costs*
ST
100,000 $40.00
PRT
200,000
#
Setup costs
ST
255,000 $102.00
PRT
$345,000
&
Test design costs
ST
522,000 $208.80
PRT
_________ _______
378,000
TOTAL
$1,012,000 $404.80 $1,088,000
*Equipment-related costs:
Test hours
Per test hour
Total
#
Setup costs:
Setup hours
Per hour
Total
&
Test design costs:
Test design hours
Per hour
Total
2,500
5,000
100,000
$240,000 $360,000
8,500
200,000
255,000
$360,000 $540,000
5,800
345,000
522,000
11,500
4,200
$40.00
$69.00
$75.60
$217.60
$300,000
7,500
$40
$600,000
20,000
$30.00
$900,000
10,000
$90.00
378,000
The cost per test-hour increased from $95.08 to $404.80 for ST and from
$57.46 to $217.60 for PRT. Platte Valley needs to reexamine the
appropriateness for using test-hours as the basis for costing. The bulk of the
cost is for setup and test-design and the direct cost related to test-hour is
only a fraction of the setup and test-design costs. A costing system based on
the direct test-hour is likely to distort the true cost of testing.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-12
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-13
5-33 (continued)
3. The benefits that management can expect from activity-based costing
include these:
a. Leads to a more competitive position by evaluating cost drivers,
i.e., costs associated with the complexity of the transaction rather
than the production volume.
b. Streamlines production processes by reducing low-value-added
activities, e.g., reduced set-up times, optional plant layout, and
improved quality.
c. Provides management with a more thorough understanding of
product costs and product profitability for strategies and pricing
decisions.
4. The steps that a company, using a volume-based cost system, would
take to implement activity-based costing include:
a. evaluation of the existing system to assess how well the system
supports the objective of an activity-based cost system.
b. identification of the activities for which cost information is needed
with differentiation between high-value added and low-valueadded activities.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-14
Activity Costs
Machine setup
$360,000
Cost Drivers
Overhead Rate
$120
25,000 pounds
Electric power
40,000
A
Direct materials
$40,000
Direct labor
Factory overhead:
Machine setup
$50,000
24,000
$120 x 200 =
24,000
.
40,000
$120 x 240 =
28,800
Materials handling
$4 x 1,000= 4,000
$4 x 3,000 =
12,000
Electric power
$1 x 2,000 =
$1 x 4,000 =
4,000
2,000
$94,000
$134,800
Production units
20,000
Blocher,Stout,Cokins,Chen:Cost Management, 4e
4,000
$23.50
5-15
$6.74
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-16
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-17
The results suggest that the trouser line is more profitable than previously
thought (using volume-based costing). This is likely due to the common
situation in which the high-volume products are overcosted using volumebased costing.
5-18
$69,120,000 /1,152,000 =
$60
$2,000
Budgeted
Cost
$810,000
Activity
900
Budgeted
OH Rate
$900.00
Total
Applied
Activity Overhead
900
$810,000
Equipment
422,500
845
500.00
870
435,000
Personnel
457,500
6,000
76.25
5,900
449,875
$1,694,875
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-19
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-20
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-21
f. High-value-added
b. High-value-added
g. High-value-added
c. High-value-added
h. Low-value-added
d. Low-value-added
i. High-value-added
e. Low-value-added
e. Low-value-added
b. Low-value-added
f. High-value-added
c. Low-value-added
g. Low-value-added
d. Low-value-added
h. High-value-added
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-22
$0.15 x 30 =
$ 4.50
B:
$37 / 1.85 =
$20.00
C:
$35.50 / 5 =
$ 7.10
D:
$0.08 x 100 =
$ 8.00
$240.00
Rejection rate
50%
$120.00
Direct materials
$25.00
Direct labor
5.00
$ 4.50
Hardware insertion37.00
Hand load
35.50
Masking
8.00
85.00
$5.00
10
Blocher,Stout,Cokins,Chen:Cost Management, 4e
115.00
5-23
$0.50
(5 min)
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-24
$120,000
$90,000
$158,125
105,000
67,000
110,000
$ 15,000
$23,000
$ 48,125
24,000
18,000
31,625
($ 9,000)
$ 5,000
$ 16,500
-7.50%
5.56%
10.43%
Fresh Produce
$120,000
$90,000
$158,125
105,000
67,000
110,000
$ 15,000
$23,000
$ 48,125
800
4,400
7,200
1,100
7,700
13,200
300
525
7,200
6,000
8,000
17,200
8,200
20,625
44,800
$ 6,800
$ 2,375
5.67%
2.64%
Store support:
Order processing
Receiving
Shelf-stocking
Customer support
Total store support cost
Operating income
Operating margin (OI/S)
3,325
2.10%
3. Both baked goods and fresh produce have a drop in profitability when
ABC is used. The decrease in profitability of fresh produce is most
noticeable. The profitability of fresh produce decreases from 10.43
percent of the sales revenues under the current system, the highest of
the three products, to 2.10 percent under ABC, the lowest of the three.
This is because fresh produce requires more support activities than the
other two products.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-25
Requirement 1
Jerry Inc.
Donald Co.
$200
$875
$1,500
200
2,500
$9,000
500
15,000
12,000
$16,400
4,000
$29,375
Requirement 2
Jerry Inc.
Sales(5x1000x200;200x30x200)
Sales return(40x200;175x200)
Net Sales
Cost of goods sold(75%)
Gross margin(25%)
Sales support cost (from req. 1)
Operating income
Operating margin %
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-26
Donald Co.
$1,000,000
8,000
$1,200,000
35,000
$992,000
744,000
$248,000
16,400
$231,600
$1,165,000
873,750
$291,250
29,375
$261,875
23.35%
22.48%
Blocher,Stout,Cokins,Chen:Cost Management, 4e
60
670
x $60,000
$ 40,200,000
40,200
x $1,500
+
60,300,000
$100,500,000
1,000,000
$100.50
5-27
5-47 (continued)
2. Order filling cost per unit sold to PC:
Total number of orders
Number of orders per block
Total number of blocks
Cost per block
Total block cost
Total number of orders
Order-filling cost per order
Total cost per order
Total order-filling cost
Total units sold
Order-filling cost per unit
2
60
1/30
x $60,000
$2,000
2
x $1,500
+ 3,000
$5,000
5,000
$1.00
Net profit per unit at $700 selling price per unit to preferred customers:
Selling price per unit
Manufacturing cost
Order-filling cost/unit
Total cost per unit
Net Profit per unit
Preferred Customer
$700.00
$600.00
+
1.00
601.00
$ 99.00
14.14%
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-28
5-47 (continued-2)
3. Order filling cost per order by SC:
Cost per block
$60,000
60
$1,000
10
$10,000
$1,500
x
10
+ 15,000
$25,000
125
Order-filling cost/unit
$200
$800.00
Manufacturing cost
$600.00
Order-filling cost/unit
800.00
Profit margin
Blocher,Stout,Cokins,Chen:Cost Management, 4e
200.00
0
0
5-29
PROBLEMS
5-48 Activity-Based Costing; Customer Group Cost Analysis (30
minutes)
1. First, obtain the total levels for activity cost drivers:
Product Lines
Units Produced
Direct Materials cost per unit
Total Direct Materials Cost
Number of Parts per unit
Total parts
Direct Labor Hours per unit
Total Labor hours
Machine Hours per unit
Total Machine Hours
Production Orders
Production Setups
Orders Shipped
Value
15,000
$
80
Quality
5,000
$
50
Luxury
500
$
110
Total
20,500
$
240
$
30
50
120
200
16
15
25
50
20
1,000
70
50
2,000
200
50
300
320
120
3,300
1,505,000
760,000
88,500
87,500
Materials handling
Product Scheduling
Setup Labor
Automated Machinery
Finishing
Pack and Ship
Budgeted
Cost
$ 349,600
160,000
216,000
1,750,000
619,500
285,000
Cost
Activity
Driver
Rate
Number of Parts
$ 0.460 =$349,600/760,000
Number of Production orders
500.00 =160,000/320
Number of setups
1,800.00 =216,000/120
Machine hours
20.00 =1,750,000/87,500
Direct labor hours
7.00 =619,500/88,500
Number of orders shipped
86.364 =285,000/3,300
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-30
5-48 (continued)
The activity-based unit and total cost is as follows:
2.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-31
5-48 (continued)
3. The new activity rates based on practical capacity are as follows.
Materials handling
Product Scheduling
Setup Labor
Automated Machinery
Finishing
Pack and Ship
Budgeted
Cost
$ 349,600
160,000
216,000
1,750,000
619,500
285,000
$
Practical
Cost
Practical Capacity-Based
Driver
Capacity
Rates
Number of Parts
990,000 $
0.353
Number of Production orders
800
200.00
Number of setups
200
1,080.00
Machine hours
100,000
17.50
Direct labor hours
123,900
5.00
Number of orders shipped
5,000
57.00
3,380,100
Note that the rates have changed significantly from the calculations in part 1
above, because there is a significant level of unused capacity in many of the
activities. This information could be used by management to calculate unit
ABC-based costs using the practical capacity rates, and thereby identify the
cost of unused capacity. Moreover, the information about capacity
utilization can be used to help bring resource spending in line with resource
usage. As the firm plans to grow (particularly in the Luxury line), some
additional capacity will be needed, but careful planning will allow a balance
of planned future capacity needs versus current spending on these
resources, probably allowing some capacities to be reduced. The potential
for overcapacity appears to be greatest in product scheduling and pack and
ship.
4. The ABC costing shows clearly how expensive the Luxury line is to
produce. The volume-based approach fails to account for the activity usage
of the Luxury line, and undercosts it significantly. ABC allows HPI to better
understand how its costs will increase with the expected increased
production of the Luxury line, and how it will have to adapt its pricing
practices accordingly. Continued use of the volume-based approach at a
time when sales of the Luxury line are increasing would mean significantly
under-pricing the Luxury line, and undermining the profitability of the entire
firm.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-32
$20,000
$40,000
30,000
11,000
9,000
$90,000
$ 50,000
6,000
20,000
15,000
8,000
51,000
$150,000
Note: However, the problem indicated that the firm uses machine
hours as the base for assigning facility-level costs. An
alternative solution is to combine cost pools 3 and 4.
Cost pool 5: Cost driver: production (in units)
Inspection of finished goods
Cost pool 6: Cost driver: engineering hours
Engineering design
Total
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-33
$7,000
$600,000
$600,000
5-49 (continued)
2.
Overhead Rates:
Cost pool 1:
Total cost
Number of purchase orders
Cost per purchase order
Total cost
Number of production runs
Cost per production run
$33,000
6
$5,500
Cost pool 2:
$20,000
40
$500
Cost pool 3:
$ 90,000
100,000
$0.90
Cost pool 4:
$150,000
100,000
$1.50
Cost pool 5:
$ 7,000
100,000
Cost pool 6:
$600,000
20,000
$30.00
Total cost
Number of machine hours
Cost per machine hour
Total cost
Number of machine hours
Cost per machine hour
Total cost
Number of units
Cost per unit $0.07
Total cost
Total engineering hours
Cost per engineering hour
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-34
5-49 (continued-2)
Manufacturing overheads:
Unit level:
Cost pool 3 Cost per machine hour
Number of machine hours
$ 0.90
x 4,250
$ 3,825
1,000
Product-level level:
Cost pool 1 Cost per purchase order
Number of purchase orders
$5,500
x
1
5,500
$ 30
100
3,000
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-35
$ 1.50
x 4,250
280
6,375
$19,980
4,000
$4.995
5-49 (continued-3)
* There are at least two alternative activity consumption drivers for
assigning facility-level cost:
Based on machine hours:
Total facility-level cost (Cost pool 4)
Number of machine hours
Cost per machine hour
$150,000
100,000
$1.50
$ 3,825
280
Batch level:
Cost pool 2
1,000
Product-level level:
Cost pool 1
Cost pool 6
5,500
3,000
Facility-level level:
Cost pool 4 Cost per unit
Number of units
x 4,000
Total manufacturing overhead
Number of units
Manufacturing overhead per unit
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-36
$ 1.50
6,000
$ 19,605
4,000
$4.90125
80 x $1,200 =
$ 96,000
80 x 105 x $0.45 =
80 x
3x
$51 =
80 x 105 x $2.85 =
80 x $30 =
3,780
12,240
23,940
2,400
$138,360
80
$1,729.50
2. Upstream activities
Manufacturing
Downstream activities
Full product cost per unit
$180.00
1,729.50
250.00
$2,159.50
8.33%
80.09%
11.58%
100%
Strategic implications:
(1) Knowing the full cost of a product including upstream and
downstream costs allows the firm to be aware of all costs
attributable to the product.
(2)
(3)
3. The total value chain cost provides the firm a long-term perspective of
the product cost, in addition to the short term manufacturing cost.
Different industries have different cost structures. For example, firms
in the computer software industry are likely to have high upstream
costs while firms in the retailing industry tend to have high
downstream costs.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-37
Barrel
OH per Barrel
P5
500
$96.00
G23
500
$96.00
2. Overhead Rates:
Overhead
Cost Pool
Budgeted
Overhead
Level of
Cost Driver
Predetermined
Overhead Rate
Machine set-ups
$100,000
100 setups
Material handling
80,000
8,000 barrels
Quality control
200,000
Other overheads
Rate
1,000 inspections
Quality control
Other overheads
$10 per MH
Manufacturing Overhead
P5
G23
Activity Overhead
Activity Overhead
$ 1,000
50
$50,000
$10
500
5,000
500
5,000
$200
400
20
4,000
$10
1,000
10,000
1,000
10,000
Total overhead
Number of barrels
Cost per barrel
$16,400
500
$ 32.80
$69,000
500
$138.00
5-51 (continued)
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-38
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-39
Product A Product B
Actual selling price
$280
$250
Product manufacturing cost
186
196
Gross margin
$ 94
$ 54
Gross margin ratio
33.57%
21.6%
Product C
$199.50
$133.00
- 75.00
$ 58.00
x
500
$29,000
Product C
$300
133
$167
55.67%
Based on the current cost data, it is true that product B is the least
profitable product with a gross margin per unit of $54.00 (21.6%) and
product C is the most profitable product with a gross margin per unit of
$167.00 (55.67%). However, the validity of this conclusion is based on
the accuracy of the reported product costs.
Product costs based on the activity-based costing system
Direct materials
Direct labor
Factory overhead:
Setups (a)
Materials handling (b)
Hazardous control (c)
Quality control (d)
Utilities (e)
Total
Product A
$ 50.00
20.00
1.60
40.00
62.50
22.50
12.00
$208.60
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-40
Product B
$114.40
12.00
Product C
$ 65.00
10.00
0.80
5.00
22.50
5.25
8.40
$168.35
4.80
70.00
150.00
52.50
12.00
$364.30
$250.00
168.35
$ 81.65
32.66%
$300.00
364.30
($64.30)
(21.43)%
5-52 (continued)
Notes:
(a) Setups:
Cost per setup: $8,000 / (2 + 5 + 3) =
$800 per setup
Product A = 2 x $800 = $1,600;
$1,600 /1,000 = $1.60 per unit
Product B = 5 x $800 = $4,000;
$4,000 /5,000 = $0.80 per unit
Product C = 3 x $800 = $2,400;
$2,400 /500 = $4.80 per unit
(b) Materials handling:
Cost per pound = $100,000 / (400 + 250 + 350) = $100 per pound
Product A = 400 x $100 = $40,000;
$40,000/1,000 = $40.00 per unit
Product B = 250 x $100 = $25,000; $25,000/5,000 = $ 5.00 per unit
Product C = 350 x $100 = $35,000; $35,000/500 = $70.00 per unit
(c) Waste and hazardous disposals:
Cost per disposal: $250,000/(25 + 45 + 30) = $2,500 per disposal
Product A = 25 x $2,500 = $ 62,500; $ 62,500/1,000 = $ 62.50/unit
Product B = 45 x $2,500 = $112,500; $112,500/5,000 = $ 22.50/unit
Product C = 30 x $2,500 = $ 75,000; $ 75,000/500 = $150.00/unit
(d) Quality inspections:
Cost per inspection = $75,000/(30 + 35 + 35) = $750 per inspection
Product A = 30 x $750 = $22,500; $22,500/1,000 = $22.50 per unit
Product B = 35 x $750 = $26,250; $26,250/5,000 = $ 5.25 per unit
Product C = 35 x $750 = $26,250; $26,250/500 = $52.50 per unit
(e) Utilities:
Cost per MH = $60,000 / (2,000 + 7,000 + 1,000) = $6.00 per MH
Product A = 2,000 x $6 = $12,000; $12,000/1,000 = $12.00 per unit
Product B = 7,000 x $6 = $42,000; $42,000/5,000 = $ 8.40 per unit
Product C = 1,000 x $6 = $ 6,000; $ 6,000/500 = $12.00 per unit
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-41
5-52 (continued-2)
3. Comparison of reported product costs, new target price, actual selling
price, and gross margin (loss):
Product A Product B Product C
Product costs:
1. Direct-labor based system
$186.00
$196.00
$133.00
2. Activity-based system
$208.60
$168.35
$364.30
ABC-based product costs:
Target price (150%)
Actual selling price
Difference in price
$312.90
$252.53
$280.00
$250.00
<$32.90> <$2.53>
33.57%
$71.40
25.50%
$ 54
21.6%
$81.65
32.66%
$546.45
$300.00
<$246.45>
$167
55.67%
$(64.30)
<21.43%>
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-42
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-43
5-54
Deluxe
$ 560,000
10,000,000
1,800,000
1,000,000
$13,360,000
$2,800 x
200 =
$100 x 100,000 =
$40 x 45,000 =
$20 x 50,000 =
Number of Units
Overhead per unit
$267.20
50,000
$2,800 x
100 =
$100 x 400,000 =
$40 x 120,000 =
$20 x 200,000 =
Speedy
$ 280,000
40,000,000
4,800,000
4,000,000
$49,080,000
400,000
$122.70
Deluxe %
$475.00100
Price
Cost
Prime cost
$180.00
Overhead
267.20
447.20 94
Unit gross profit
$27.80
6
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-44
$110.00
122.70
Speedy
$300.00
%
100
232.70
$67.30
78
22
5-54 (continued)
3. Using the activity-based costing, a much different picture on profitability
of the Deluxe and Speedy models emerges. The Speedy model is
actually more profitable than the Deluxe model. The revised cost data
suggests that shifting the emphasis to the Deluxe model may very well be
a mistake. The Deluxe printer is a much heavier user of overhead
resources as can be seen in the table below that compares uses of
overhead.
Overhead
Activity
Activity Consumption
Deluxe
Speedy
Setups
Machine costs
Engineering
Packing
2 MH per unit
1 MH per unit
Supporting calculations
Activity Consumption
Total
Units
Setups
Machine
costs
Deluxe
Per Activity Measure
50,000
400,000
2 MH per unit
50,000
Total
Speedy
Per Activity Measure
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-45
Cost Pool
Overhead Rate
Machine depr./maint.
$135,000
27,000
$5.00 per MH
Factory depr./util./insur.
$120,000
30,000
$4.00 per MH
Product design
$504,000
Materials purch./stor.
$147,000
Total overhead
$906,000
Men Shavers
$30,000 x 15% =$4,500
Product design
Women Shavers
$26,000 x 15% = $3,900
$12 x 15 =180
$12 x 37.5 =
450
Machine depreciation
$5.00 x 50 =
250
$5.00 x 40 =
200
Factory depreciation
$4.00 x 50 =
200
$4.00 x 40 =
160
$5,130
$4,710
15,000
20,000
$ 0.342
$ 0.2355
$300 x 24 =
$7,200
Women Shavers:
$300 x 12 =
$3,600
5. Men Shavers:
Women Shavers:
$7,200 / 15,000 =
$ 0.48
$3,600 / 20,000 =
$ 0.18
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-46
Salaries
Supplies
Factory Expense
Inspect &
Factory Costs Setup
Assembly
Finishing
Packaging
$
850,000 $ 127,500 $
467,500 $
170,000 $
85,000
150,000
30,000
90,000
30,000
550,000
440,000
110,000
$ 1,550,000 $ 157,500 $
997,500 $
310,000 $
85,000
Batches
Units
Finishing hours/unit
Packaging
Safe-V
250
60,000
0.2
0.1
Total Activity
Activity-based
Safe-T
Consumption Activity Costs
Rates
600
850 $
157,500 $
185.29
72,000
132,000
997,500
7.557
0.3
33,600
310,000
9.226
0.15
16,800
85,000
5.060
3. The per unit activity-based costs are $14.18 for Safe-V and $18.63 for
the Safe-T
Setup
Assembly
Inspect and Finish
Packaging
Materials per unit
Total Cost per unit
Activity Requirements
Activity-Based Costs/Unit
Safe-V
Safe-T
Safe-V
Safe-T
250
600 $
0.772 $
1.544
60,000
72,000
7.557
7.557
0.2
0.3
1.845
2.768
0.1
0.15
0.506
0.759
$
3.50 $
6.00
3.500
6.000
$
14.180
18.628
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-47
Resource
Rate
$
50,000
15,000
25
Setup
Assembly
$
50,000 $ 500,000
15,000
75,000
50,000
275,000
$ 115,000 $ 850,000
Inspect &
Finishing Packaging
$ 250,000 $ 50,000
60,000
125,000
100,000
$ 435,000 $ 150,000
2. The new activity consumption rates are shown in the right column, using
the same activity drivers as before, with the new activity cost pool amounts.
Safe-V
Batches
250
Units
60,000
Finishing hours, per unit 0.2
Packaging
0.1
Safe-T
600
72,000
0.3
0.15
Total Activity
Activity-based
Consumption Activity Costs
Rates
850 $
115,000 $
135.29
132,000
850,000
6.439
33,600
435,000
12.946
16,800
150,000
8.929
3. The new ABC product costs are shown below; there is very little change
from the solution in 5-56 above.
Setup
Assembly
Inspect and Finish
Packaging
Materials per unit
Total Cost per unit
Activity Requirements
Activity-Based Costs/Unit
Safe-V
Safe-T
Safe-V
Safe-T
250
600 $
0.564 $
1.127
60,000
72,000
6.439
6.439
0.2
0.3
2.589
3.884
0.1
0.15
0.893
1.339
$
3.50 $
6.00
3.500
6.000
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-48
13.985
18.790
Ceiling Fixture
Per Unit
Total
Per Unit
$ 80,000
$70.00
20.00
$ 400,000
$40.00
10.00
Direct Labor
32,000
8.00
200,000
5.00
Overhead*
64,000
16.00
400,000
10.00
$176,000
44.00
$1,000,000
25.00
Manufacturing Cost
Gross Margin
$26.00
$15.00
Overhead Rate
$160,000
81,200
10,000
232,000
$16.00
0.35
Machine Setup
68,000
2,500
27.20
Assembly
88,550
402,500
0.22
Inspection
66,250
4,000
16.5625
Total
$464,000
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-49
5-58 (continued-1)
Applied overheads
Luxury Pendants
Machine Operation
Support labor
Machine Setup
Ceiling Fixtures
1,000
27,200
1,500
40,800
Assembly
0.22
192,500
42,350
210,000
46,200
Inspection
16.5625
1,600
26,500
2,400
39,750
Total Overhead
$131,250
$332,750
Ceiling Fixtures
Total
Per Unit
40,000
$1,600,000
$40.00
$400,000
$10.00
$200,000
$ 5.00
136,000
70,000
40,800
46,200
39,750
$332,750 $ 8.3188
$932,750 $23.3188
$667,250 $16.6813
41.7%
3. The above profitability analysis indicates that the Luxury Pendant is not
as profitable as the vice president of marketing thinks it is.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-50
5-58 (continued-2)
4. Unit Cost Comparison between the current and ABC costing systems
Reported Overhead Costs
Current
ABC
Difference
Luxury Pendants
$16.00
$32.8125
+$16.8125
Ceiling Fixtures
$10.00
$ 8.3188
- $ 1.6822
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-51
Homycin
6,800
Addolin
2,000
Overhead rate
$12.50
$12.50
$12.50
Total overhead
$90,000
$85,000
$25,000
Diomycin
$205,000
Homycin
$265,000
Addolin
$258,000
250,000
234,000
263,000
Overhead:
90,000
85,000
25,000
Total Cost
$545,000
$584,000
$546,000
Packets produced
1,000,000
500,000
300,000
$0.545
$1.168
$1.820
Direct labor-hours
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-52
5-59 (continued-1)
2. Overhead rates for Activity-Based Costing:
Activity
Machine setup
Budgeted
Budgeted
Overhead Cost Driver Overhead
Cost
Volume
Rate
$ 16,000
1,600 $10.00
Cost Driver
Setup hours
36,000
Supervision of
Direct labordirect labor
hours
Quality inspection Inspectionhours
Expediting orders Customers
serviced
Total overhead
1,200
$30.00
1,150
$40.00
50,400
1,050
$48.00
51,600
645
$80.00
46,000
$200,000
$30
200
$6,000
400
$12,000
600
$18,000
$40
200
$8,000
300
$12,000
650
$26,000
$48
150
$7,200
200
$9,600
700
$33,600
$80
45
$3,600
100
$8,000
500
$40,000
$26,800
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-53
$47,600
$125,600
5-59 (continued-2)
Cost per capsule under Activity-Based Costing:
Direct Materials
Direct Labor
Overhead
Total Cost
Packets produced
Cost per capsule
Diomycin
Homycin
Addolin
$205,000.00 $265,000.00 $258,000.00
250,000.00
234,000.00
263,000.00
26,800.00
47,600.00
125,600.00
$481,800.00 $546,600.00 $646,600.00
1,000,000
500,000
300,000
$0.4818
$1.0932
$2.1553
Diomycin
Homycin
Addolin
$90,000
$0.5450
$85,000
$1.1680
$25,000
$1.8200
$26,800
$0.4818
$47,600
$1.0932
$125,600
$2.1553
5-59 (continued-3)
Activity-based costing provides ADA with more detailed and better
estimates of product costs. For example by using ABC, ADA becomes
aware that the cost of Diomycin is lower ($0.4818 per capsule
compared to $0.545 under current costing), meaning that it can set the
price of Diomycin lower and be more competitive. Also, ABC revealed
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-54
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-55
5-59 (continued-4)
4. Among major uses of ABC in the Pharmaceutical Industry are:
a. Strategic Use of ABC to Reduce Costs
One of the important ways companies develop competitive
advantages is to become a low-cost producer. Many companies in
the pharmaceutical industry have learned to use the information they
have gained from their costing systems to make substantial price
cuts to increase market share.
b. Use of ABC to Eliminate Low-Value-Added Costs
ABC can be used to identify and eliminate activities that add costs
but not value to the products in the pharmaceutical industry. A
company can eliminate low-value added activities and costs without
reducing quality or value. In the pharmaceutical industry, the
following activities typically do not add value to a product: storage,
moving items, and waiting for work. Analyses of activities facilitate
firms to identify low-value-added activities.
c. Use of ABC in Marketing and Distribution
In the pharmaceutical industry, ABC can be applied to marketing or
administrative activities. The cost of performing marketing services
such as distributing products through different distribution channels
can be computed and the information used in making informed
decisions. For example, some of the different channels of
distribution in the pharmaceutical industry are: grocery stores,
convenience stores, pharmacy shops, each having different
activities. The cost of alternative channels of distribution is useful to
marketing managers who make decisions about which channel to
use.
d. Use of ABC to Make Better Pricing Decisions
ABC enables managers to make better pricing decisions by
providing managers with more accurate product cost data for pricing
decisions.
e. Use of ABC to Make Better Product Mix Decisions
ABC provides a firm with more detailed and better estimation of
product costs. Thus, it allows a company the opportunity to decide
which products to make and which ones to eliminate.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-56
$150
$ 9,750,000
Direct materials
80
5,200,000
21
1,365,000
520,000
390,000
325,000
$120
$7,800,000
$ 30
$1,950,000
Total cost
Contribution margin
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-57
5-60 (continued-1)
1. b. Using traditional volume-based standard costs, the total contribution
expected in 2007 by Alaire Corporation from the PC Board is
$2,360,000, calculated as follows:
Per Unit Totals for 40,000 units
Revenue
$300
$ 12,000,000
140
5,600,000
56
2,240,000
14
560,000
16
640,000
15
600,000
Total cost
241
9,640,000
Contribution margin
$ 59
$ 2,360,000
Direct materials
Production scheduling:
Machine setups:
inspection
Machine insertion:
Manual insertion:
Wave soldering:
5-60 (continued-2)
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-58
$150.00
Direct materials
$ 9,750,000
80.00
5,200,000
2.50
162,500
Production scheduling
2.00
130,000
4.00
Materials overhead:
260,000
Variable overhead:
Machine set-ups ($1.60 x 2)
Waste disposal ($3 x .02)
3.20
.06
Quality control
208,000
3,900
3.50
227,500
.60
39,000
9.60
624,000
Manual insertion
4.00
260,000
Wave soldering
1.20
78,000
$110.66
$7,192,900
$ 39.34
$2,557,100
General supplies
Manufacturing overhead:
Total cost
Contribution margin
Note that the only cost that remains the same for both cost methods is
the cost of direct materials. Under the ABC method, direct labor cost
becomes part of the manufacturing manual insertion overhead cost.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-59
5-60 (continued-3)
b. Using activity-based costing, the total contribution expected in 2007 by
Alaire Corporation from the PC Board is $1,594,000 calculated as
follows.
Per Unit Totals for 40,000 units
Revenue
$300.00
$ 12,000,000
140.00
5,600,000
5.50
220,000
Production scheduling
2.00
80,000
4.00
160,000
4.80
192,000
1.05
42,000
7.00
280,000
.60
24,000
14.00
560,000
80.00
3,200,000
1.20
48,000
`Total cost
$260.15
$10,406,000
Contribution margin
$ 39.85
$ 1,594,000
Direct materials
Materials overhead:
Variable overhead:
General supplies
Manufacturing:
Wave soldering
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-60
5-60 (continued-4)
3. The analysis using volume-based standard costs shows that the
unit contribution of the PC Board is almost double that of the TV
Board. On this basis, Alaires management is likely to accept the
suggestion of the production manager and concentrate promotional
efforts on expanding the market for the PC Boards.
However, the analysis using activity-based costs does not
support this decision. This analysis shows that the unit dollar
contribution from each of the boards is almost equal, and the total
contribution from the TV Board exceeds that of the PC Board by
almost $1,000,000. As a percentage of selling price, the contribution
from the TV Board is double that of the PC Board, 26 percent versus
13 percent. Therefore, it may not be advisable to concentrate
promotional efforts only on expanding the market for the PC Board.
The analysis using ABC can help the company be more
competitive because it provides accurate cost information that allows
the company to make better decisions. As noted above, the ability to
correctly identify the most and least profitable products is critical to
building a successful company.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-61
= $3,000,000 / $600,000
Mona Loa
Malaysian
Direct costs:
Direct materials
$4.20
$3.20
Direct labor
.30
$4.50
.30
$3.50
1.50
1.50
Indirect costs:
Factory overhead (0.30 x $5.00)
Total costs
Mark-up
Budgeted selling prices per pound
2. The cost per driver unit is:
Activity
Purchasing
Budgeted
Cost Driver
Cost
Purchase orders $579,000
$6.00
$5.00
30%
30%
$7.80
$6.50
Budgeted
Activity
1,158
Cost per
Unit
$500
Material handling
Setups
720,000
1,800
400
Quality control
Batches
144,000
720
200
Roasting
Roasting hours
961,000
96,100
10
Blending
Blending hours
336,000
33,600
10
Packaging
Packaging hours
260,000
26,000
10
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-62
5-61 (continued-1)
The budgeted unit costs per pound are:
Mona Loa Coffee
Direct unit costs:
Direct materials
$4.20
Direct labor
0.30 $4.50
Indirect unit costs:
Purchasing
0.02
Material handling
Quality control
Roasting
Blending
Packaging
Total unit cost
Malaysian Coffee
$3.20
0.30 $3.50
1.00
0.12
2.40
0.02
0.10
0.40
0.10
0.05
0.01
0.05
0.01
$4.82
$7.46
Malaysian
Requirement 1
$6.00
$5.00
Requirement 2
4.82
7.46
The ABC system in requirement 2 reports a decreased cost for the highvolume Mona Loa and an increased cost for the low-volume Malaysian.
The current costing system leads to cross-subsidization between the two
products.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-63
5-61 (continued-2)
3. Three of the indirect cost items can be classified as output-unit driven:
Mona Loa Coffee
Malaysian Coffee
Roasting
$0.10
$0.10
Blending
0.05
0.05
Packaging
0.01
0.01
Total output-unit overhead
$0.16
$0.16
The other three indirect cost items are batch-level driven:
Mona Loa Coffee
Malaysian Coffee
Purchasing
$0.02
$1.00
Material handling
0.12
2.40
Quality control
0.02
0.40
Total batch-level overhead
$0.16
$3.80
Malaysian coffee has a greater number of setups per output unit than
does Mona Loa coffee. The result is that the unit cost of the lowervolume Malaysian coffee is much higher than that of the highervolume coffee, even though its cost of direct materials is lower.
With the current costing system, the high-volume Mona Loa is
overcosted, while the low-volume Malaysian is undercosted. Pricing
of Mona Loa can be reduced to make it more competitive. In
contrast, Malaysian should be priced at a much higher level if the
strategy is to cover the current periods cost. CBI may wish to have
lower margins with its low-volume products such as Malaysian in an
attempt to build up volume. The company can use the ABC cost
information to compare its two product costs with competitors, and
decide which product has a low cost competitive advantage. Then
the company can change its pricing and product mix strategies by
using the ABC cost information.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-64
5-61 (continued-3)
ABC cost data also point out that the reason for the Malaysian
Coffee to have a higher unit cost is not because of high-priced
ingredients. In fact, Malaysian Coffee has a lower cost of direct
materials than that of Mona Loa Coffee. The costs of roasting,
blending, and packaging are $0.16 per pound for both coffees. The
higher cost of Malaysian is because of the way in which it is
processed. The batch-level cost per pound is $0.16 for Mona Loa
and $3.80 for Malaysian. CBI can increase its profit margin or lower
its price on Malaysian Coffee if it can change the way in which it
handles purchasing, material handling, and quality control functions
of Malaysian coffee.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-65
Driver
Usage
Purchasing
1,158
Materials Handling
1,800
Quality Control
720
Roasting
96,100
Blending
33,600
Packaging
26,000
Cost
579,000
720,000
144,000
961,000
336,000
260,000
$ 3,000,000
$
Practical
Usage- Capacity
Based at Current Usage
Rate Spending Percent
$ 500
1,400
83%
400
2,400
75%
200
1,200
60%
10
100,000
96%
10
36,000
93%
10
30,000
87%
Practical
Cost of
Capacity Unused Unused
Rate
Capacity Capacity
$ 413.57
242 $ 100,084
$ 300.00
600
180,000
$ 120.00
480
57,600
$
9.610
3,900
37,479
$
9.333
2,400
22,400
$
8.667
4,000
34,667
$ 432,230
Driver
Usage
Cost
Purchasing
1,158 $ 579,000
Materials Handling
1,800
720,000
Quality Control
720
144,000
Roasting
96,100
961,000
Blending
33,600
336,000
Packaging
26,000
260,000
3
4
5
6
Capacity
Step: Number
Cost per
at Current of Employees Unused
Step
Spending or Machines Capacity =(2)/(4)
1,400
8
242 $ 72,375
2,400
20
600
36,000
1,200
4
480
36,000
100,000
10
3,900
96,100
36,000
10
2,400
33,600
30,000
3
4,000
86,667
7
8
Step
Size
Steps
=(3)/(4) Not Used
1.38
175
5.00
120
1.60
300
0.39
10,000
0.67
3,600
0.40
10,000
5-66
Activities
Requisition
Handling
Warehouse
Pick
Packing
Data Entry
Delivery
charge
2. Service Costs
Estimated
Annual
Expense
Cost Driver
Estimated
Annual Cost
Driver Units
Service
Cost
Per Unit
$3,000,000
$1,050,000
Requisitions
Cartons
300,000
70,000
$10.00
$15.00
$ 900,000
$ 600,000
(PP) Lines
(PP) Lines
600,000
600,000
$ 1.50
$ 1.00
Omega International
City of Albion
Requisition Handling
$3,000
$ 7,000
(300 requisitions x $10/requisition)
(700 requisitions x $10/requisition)
Warehouse Activity
750
7,500
(50 cartons x $15.00 per carton)
(500 cartons x $15.00 per carton)
Pick-Packing
1,350
3,150
(900 pick-pack lines x $1.50)
(2,100 pick-pack lines x $1.50)
Data Entry
900
2,100
(900 lines x $1.00/line)
(2,100 lines x $1.00/line)
Freight Out
3,450
8,260
($10 x 300) + ($0.30 x 5 x 300)
($10 x 700) + ($0.30 x 6 x 700)
Total Service Costs
$9,450
$28,010
3. Customer Profitability Analysis-Activity Based
Omega International
Sales
$ 80,000
City of Albion
$80,000
Product Cost
(50,000)
(48,000)
Service costs
( 9,450)
(28,010)
Gross Margin
Gross Margin %
$20,550
$ 3,990
25.69%
4.99%
5-63 (continued-1)
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-67
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-68
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-69
5-64 (continued-1)
Calculation for general administration allocated to branches:
Total direct labor dollar: $382,413 + $317,086 + $317,188 =
$1,016,687
Allocation of general administration based on direct labor dollar:
Proportion
Allocated Amount
Columbus
Cincinnati
Dayton
Cincinnati
Dayton
Total
$1,500
$1,419
$1,067
$3,986
382
317
317
1,016
281
421
185
887
180
270
177
627
$657
$411
$388
$1,456
Dayton
Total
$1,500
$1,419
$1,067
$3,986
382
317
317
1,016
Direct materials
281
421
185
887
180
270
177
627
$657
$411
$388
$1,456
529
$128
453
($42)
278
$110
1,261
$195
Direct overhead
Contribution margin
Activity-based overhead
Operating income
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-70
5-64 (continued-2)
4. Evaluating management concerns:
Overhead costs are usually aggregated in pools and allocated to
products and other cost objects based on volume measures such
as direct labor dollars or machine hours. The cost object,
therefore, supposedly shares proportionally in those costs
necessary for its production or existence. If however, overhead
varies in accordance with variables other than volume, then
product costs and other cost objects will be erroneously
determined.
As the solution indicates, the profitability of the Cincinnati and
Dayton offices is vastly different employing direct tracing and ABC
than under the current approach. The obvious benefit to the
company is a more equitable distribution of bonuses and
resources to these locations. In addition, existing marketing
strategy may be promoting the wrong location and strategic
planning may be based on spurious assumptions concerning
relative profitability.
This case also illustrates that ABC is applicable to service
organizations as well as to manufacturing and that cost objects
can consist of projects, locations, customers, etc., as well as
products. In essence, the better information we have about the
profitability of any cost object, the better chance of keeping
organizations profitable.
However, the process of identifying activities and allocating costs
from the general ledger to the activities is a difficult, time
consuming process. Extensive interviews with functional
managers and workers are normally required. This process is
time consuming and often costly.
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-71
Baldwin
$600,000
$750,000
$900,000
12,000
22,500
18,000
$588,000
$727,500
$882,000
11,760
7,275
26,460
$576,240
$720,225
$855,540
11,525
Finance charge
(7,530)
Net proceeds
$572,245
21,606
$698,619
$855,540
200
$ 125
$ 450
Order taking
500
250
2,500
Order processing
750
375
3,750
Sales return
600
800
2,000
Delivery
1,500
15,000
Expediting order
1,000
2,500
800
800
1,600
$2,850
$4,850
$27,800
$569,395
$693,769
$827,740
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-72
5-65 (continued)
1
Net proceeds:
$576,240 - $11,525 =
$564,715
$720,225 2 = $360,112.50
$7,530
$360,112.50 x 2% =
$720,225 2 = $360,112.50
$360,112.50 x 2% x 2 =
Restocking cost:
$ 7,202
14,404
$21,606
HS Inc:
10 x 100 x 2% x $10 =
$200
Adventix:
5 x 250 x 1% x $10 =
$125
Baldwin:
50 x 30 x 3% x $10 =
$450
Blocher,Stout,Cokins,Chen:Cost Management, 4e
5-73