Chapter 4, Problem 10E

Consider the following date for two products of Gitano Manufacturing.

	Overhead Cost	Product A	Product B
Number of units produced………………….		10,000 units	2,000 units
Direct labor cost (@$24 per DLH)………………..		0.20 DLH per unit	0.25 DLH per unit
Direct materials cost…		$2 per unit	$3 per unit
Activity
Machine setup………….	$121,000
Materials handling…..	48,000
Quality control inspections……….	80,000
	$249,000

Required

1. Using direct labor hours as the basis for assigning overhead costs, determine the total production cost per unit for each product line.
2. If the market price for Product A is $20 and the market price for Product B is $60, determine the profit or loss per unit for each product. Comment on the results.
3. Consider the following additional information about these two product lines. If ABC is used for assigning overhead costs to products, what is the cost per unit for Product A and for Product B?

	Product A	Product B
Number of setups required for production……………..	10 setups	12 setups
Number of parts required…….	1 part/ unit	3 part/unit
Inspection hours required	40 hours	210 hours

4. Determine the profit or loss per unit for each product. Should this information influence company strategy? Explain.

To determine

Concept introduction:

Activity based costing:

Activity based costing is the method of cost allocation of overhead expenses by first identifying the costs pool for any specific overhead and then identifying the costs related to a particular product.

Manufacturing overheads allocation:

Manufacturing overheads are the overheads incurred in manufacturing plants for manufacturing a product. Enterprises use several methods of allocating these factory overheads like on direct labor hours, activity based method etc. In overhead cost allocation using direct labour hours, the total direct labor hours incurred are identified and the costs are allocated between products using the direct labor hours incurred in manufacturing the particular product. The formula for cost allocation for a particular product based on direct labor hours would be as follows

$\frac{Totaloverheadcosttobeallocated}{Totaldirectlaborhours}*Directlaborhoursusedformanufacturingaparticularproduct$

Requirement 1:

The total per unit production cost of given product lines using direct labor hours as the basis for allocating overhead costs.

Answer to Problem 10E

Per unit total product cost for Product A is $ 26.72 and of product B is $ 33.90

Explanation of Solution

	Product A	Product B	Total
Total Direct material cost (a)	$10,000units*\$2=\$20,000$	$\begin{array}{l}2,000units*\$3=\$6,000\hfill \end{array}$	$26, 000
Total Labor hours	$0.20DLH*10,000units=2,000hours$	$\begin{array}{l}0.25DLH*2,000units=500hours\hfill \end{array}$	2, 500 hours
Total Labor cost (b)	$0.20DLH*\$24*10,000units=\$48,000$	$0.25DLH*\$24*2,000=\$12,000$	$60, 000
Total overhead cost (c )	$\frac{\$249,000}{2500}*2,000=\$199,200$	$\frac{\$249,000}{2500}*500=\$49,800$	249, 000
Total production cost (a+b+c)	267, 200	67, 800	$335, 000
Number of units (d)	10, 000	2, 000	16, 000
Per unit total production cost	$26.72	$33.90

Thus, per unit cost of each product using direct labor hours as the basis of overhead allocation have been computed.

To determine

Concept introduction:

Activity based costing:

Activity based costing is the method of cost allocation of overhead expenses by first identifying the costs pool for any specific overhead and then identifying the costs related to a particular product.

Manufacturing overheads allocation:

Manufacturing overheads are the overheads incurred in manufacturing plants for manufacturing a product. Enterprises use several methods of allocating these factory overheads like on direct labor hours, activity based method etc. In overhead cost allocation using direct labour hours, the total direct labor hours incurred are identified and the costs are allocated between products using the direct labor hours incurred in manufacturing the particular product. The formula for cost allocation for a particular product based on direct labor hours would be as follows

$\frac{Totaloverheadcosttobeallocated}{Totaldirectlaborhours}*Directlaborhoursusedformanufacturingaparticularproduct$

Requirement 2:

To compute:

The profit or loss on sale of the given two products.

Answer to Problem 10E

The loss on sale of Product A is $ 6.72 per unit and profit on sale of product B is $26.10 per unit.

As, the overheads have been allocated based on direct labor hours and product A has major production units 10, 000 units as compared to 2, 000 units of Product B, so more overheads have been allocated to Product A than product B. Product A uses less direct labor hours per unit 0.20 DLH as compared to 0.25 DLH of product

Explanation of Solution

	Product A	Product B
Sale Price per unit	$20	$60
Less. Total cost of production per unit	$26.72	$33.90
Profit /(Loss) per unit	$(6.72)	$26.10

Thus, the profit or loss per unit on the sale of both the products has been computed.

To determine

Concept introduction:

Activity based costing:

Activity based costing is the method of cost allocation of overhead expenses by first identifying the costs pool for any specific overhead and then identifying the costs related to a particular product.

Manufacturing overheads allocation:

Manufacturing overheads are the overheads incurred in manufacturing plants for manufacturing a product. Enterprises use several methods of allocating these factory overheads like on direct labor hours, activity based method etc. In overhead cost allocation using direct labor hours, the total direct labor hours incurred are identified and the costs are allocated between products using the direct labor hours incurred in manufacturing the particular product. The formula for cost allocation for a particular product based on direct labor hours would be as follows

$\frac{Totaloverheadcosttobeallocated}{Totaldirectlaborhours}*Directlaborhoursusedformanufacturingaparticularproduct$

Requirement 3:

The unit cost of the given products using ABC method for overhead cost allocation.

Answer to Problem 10E

Per unit total product cost for Product A is $16.58 and of product B is $ 84.60

Explanation of Solution

Overhead cost allocation using ABC

	Product A	Product B	Total
Machine Set up	$55, 000	$66, 000	$121, 000
Materials handling	$30, 000	$18, 000	$48, 000
Quality control inspection	$12, 800	$67, 200	$80, 000
Total overhead cost	$97, 800	$151, 200	$249, 000
Overhead cost per unit	9.78	$75.6

Machine set up cost has been allocated based on number of setups required for production. Total setup numbers = 10+12=22

So, total machine set up cost of Product A = $121, 000/22*10=$55, 000

So, total machine set up cost of Product B = $121, 000/22*12=$66, 000

Materials handling cost has been allocated based on number of parts required for production. Total numbers of parts required = 10, 000+6, 000=16, 000

So, total machine set up cost of Product A = $48, 000/16, 000*10, 000=$30, 000

So, total machine set up cost of Product B = $48, 000/16, 000*6, 000=$18, 000

Quality control inspection cost has been allocated based on number of inspection hours required. Total numbers of parts required = 40+210=250

So, total machine set up cost of Product A = $80, 000/250*40=$12, 800

So, total machine set up cost of Product B = $80, 000/250*210=$67, 200

Computation of per unit total cost

	Product A per unit	Product B
Direct material cost (a)	$2	$3
Total Labor cost (b)	$0.20DLH*\$24=\$4.8$	$0.25DLH*\$24=\$6$
Total per unit overhead cost (c )	$9.78	$75.6
Total per unit production cost (a+b+c)	$16.58	$84.6

To determine

Concept introduction:

Activity based costing:

Activity based costing is the method of cost allocation of overhead expenses by first identifying the costs pool for any specific overhead and then identifying the costs related to a particular product.

Manufacturing overheads allocation:

Manufacturing overheads are the overheads incurred in manufacturing plants for manufacturing a product. Enterprises use several methods of allocating these factory overheads like on direct labor hours, activity based method etc. In overhead cost allocation using direct labour hours, the total direct labor hours incurred are identified and the costs are allocated between products using the direct labor hours incurred in manufacturing the particular product. The formula for cost allocation for a particular product based on direct labor hours would be as follows

$\frac{Totaloverheadcosttobeallocated}{Totaldirectlaborhours}*Directlaborhoursusedformanufacturingaparticularproduct$

Requirement 4:

The profit or loss on sale of the given two products and the company strategy in view of the profit or loss.

Answer to Problem 10E

The profit on sale of Product A is $ 3.42 per unit and loss on sale of product B is $24.60 per unit.

Since, the company is incurring loss on sale of Product B, it should consider increasing the sale price of the product B to prevent losses and have profits.

Explanation of Solution

	Product A	Product B
Sale Price per unit	$20	$60
Less. Total cost of production per unit	$16.58	$84.60
Profit /(Loss) per unit	$3.42	($24.60)