Concept explainers
Activity-Based versus Traditional Costing
Maglie Company manufactures two video game consoles: handheld and home. The handheld consoles are smaller and less expensive than the home consoles. The company only recently began producing the home model. Since the introduction of the new product, profits have been steadily declining. Management believes that the accounting system is not accurately allocating costs to products, particularly because sales of the new product have been increasing.
Management has asked you to investigate the cost allocation problem. You find that manufacturing
Management has determined that overhead costs are caused by three cost drivers. These drivers and their costs for last year are as follows:
Required
- a. How much overhead will be assigned to each product if these three cost drivers are used to allocate overhead? What is the total cost per unit produced for each product?
- b. How much overhead will be assigned to each product if direct labor cost is used to allocate overhead? What is the total cost per unit produced for each product?
- c. How might the results from using activity-based costing in requirement (a) help management understand Maglie’s declining profits?
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Fundamentals Of Cost Accounting (6th Edition)
- Variable and Fixed Costs, Cost Formula, High-Low Method Li Ming Yuan and Tiffany Shaden are the department heads for the accounting department and human resources department, respectively, at a large textile firm in the southern United States. They have just returned from an executive meeting at which the necessity of cutting costs and gaining efficiency has been stressed. After talking with Tiffany and some of her staff members, as well as his own staff members, Li Ming discovered that there were a number of costs associated with the claims processing activity. These costs included the salaries of the two paralegals who worked full time on claims processing, the salary of the accountant who cut the checks, the cost of claims forms, checks, envelopes, and postage, and depreciation on the office equipment dedicated to the processing. Some of the paralegals time appears to vary with the routine processing of uncontested claims, but considerable time also appears to be spent on the claims that have incomplete documentation or are contested. The accountants time appears to vary with the number of claims processed. Li Ming was able to separate the costs of processing claims from the costs of running the departments of accounting and human resources. He gathered the data on claims processing cost and the number of claims processed per month for the past 6 months. These data are as follows: Required: 1. Classify the claims processing costs that Li Ming identified as variable and fixed. 2. What is the independent variable? The dependent variable? 3. Use the high-low method to find the fixed cost per month and the variable rate. What is the cost formula? 4. CONCEPTUAL CONNECTION Suppose that an outside company bids on the claims processing business. The bid price is 4.60 per claim. If Tiffany expects 75,600 claims next year, should she outsource the claims processing or continue to do it in-house?arrow_forwardActivity-based costing and product cost distortion The management of Four Finger Appliance Company in Exercise 14 has asked you to use activity-based costing instead of direct labor hours to allocate factory overhead costs to the two products. You have determined that 81,000 of factory overhead from each of the production departments can be associated with setup activity (162,000 in total). Company records indicate that blenders required 135 setups, while the toaster ovens required only 45 setups. Each product has a production volume of 7,500 units. Determine the three activity rates (assembly, test and pack, and setup). Determine the total factory overhead and factory overhead per unit allocated to each product using the activity rates in (A).arrow_forwardVariable and Fixed Costs What follows are a number of resources that are used by a manufacturer of futons. Assume that the output measure or cost driver is the number of futons produced. All direct labor is paid on an hourly basis, and hours worked can be easily changed by management. All other factory workers are salaried. a. Power to operate a drill (to drill holes in the wooden frames of the futons) b. Cloth to cover the futon mattress c. Salary of the factory receptionist d. Cost of food and decorations for the annual Fourth of July party for all factory employees e. Fuel for a forklift used to move materials in a factory f. Depreciation on the factory g. Depreciation on a forklift used to move partially completed goods h. Wages paid to workers who assemble the futon frame i. Wages paid to workers who maintain the factory equipment j. Cloth rags used to wipe the excess stain off the wooden frames Required: Classify the resource costs as variable or fixed.arrow_forward
- Southward Company has implemented a JIT flexible manufacturing system. John Richins, controller of the company, has decided to reduce the accounting requirements given the expectation of lower inventories. For one thing, he has decided to treat direct labor cost as a part of overhead and to discontinue the detailed direct labor accounting of the past. The company has created two manufacturing cells, each capable of producing a family of products: the radiator cell and the water pump cell. The output of both cells is sold to a sister division and to customers who use the radiators and water pumps for repair activity. Product-level overhead costs outside the cells are assigned to each cell using appropriate drivers. Facility-level costs are allocated to each cell on the basis of square footage. The budgeted direct labor and overhead costs are as follows: The predetermined conversion cost rate is based on available production hours in each cell. The radiator cell has 45,000 hours available for production, and the water pump cell has 27,000 hours. Conversion costs are applied to the units produced by multiplying the conversion rate by the actual time required to produce the units. The radiator cell produced 81,000 units, taking 0.5 hour to produce one unit of product (on average). The water pump cell produced 90,000 units, taking 0.25 hour to produce one unit of product (on average). Other actual results for the year are as follows: All units produced were sold. Any conversion cost variance is closed to Cost of Goods Sold. Required: 1. Calculate the predetermined conversion cost rates for each cell. 2. Prepare journal entries using backflush accounting. Assume two trigger points, with completion of goods as the second trigger point. 3. Repeat Requirement 2, assuming that the second trigger point is the sale of the goods. 4. Explain why there is no need to have a work-in-process inventory account. 5. Two variants of backflush costing were presented in which each used two trigger points, with the second trigger point differing. Suppose that the only trigger point for recognizing manufacturing costs occurs when the goods are sold. How would the entries be listed here? When would this backflush variant be considered appropriate?arrow_forwardEvaluating selling and administrative cost allocations Gordon Gecco Furniture Company has two major product lines with the following characteristics: Commercial office furniture: Few large orders, little advertising support, shipments in full truckloads, and low handling complexity Home office furniture: Many small orders, large advertising support, shipments in partial truckloads, and high handling complexity The company produced the following profitability report for management: The selling and administrative expenses are allocated to the products on the basis of relative sales dollars. Evaluate the accuracy of this report and recommend an alternative approach.arrow_forwardThe management of Hartman Company is trying to determine the amount of each of two products to produce over the coming planning period. The following information concerns labor availability, labor utilization, and product profitability: a. Develop a linear programming model of the Hartman Company problem. Solve the model to determine the optimal production quantities of products 1 and 2. b. In computing the profit contribution per unit, management does not deduct labor costs because they are considered fixed for the upcoming planning period. However, suppose that overtime can be scheduled in some of the departments. Which departments would you recommend scheduling for overtime? How much would you be willing to pay per hour of overtime in each department? c. Suppose that 10, 6, and 8 hours of overtime may be scheduled in departments A, B, and C, respectively. The cost per hour of overtime is 18 in department A, 22.50 in department B, and 12 in department C. Formulate a linear programming model that can be used to determine the optimal production quantities if overtime is made available. What are the optimal production quantities, and what is the revised total contribution to profit? How much overtime do you recommend using in each department? What is the increase in the total contribution to profit if overtime is used?arrow_forward
- Variable-Costing and Absorption-Costing Income Borques Company produces and sells wooden pallets that are used for moving and stacking materials. The operating costs for the past year were as follows: During the year, Borques produced 200,000 wooden pallets and sold 204,300 at 9 each. Borques had 8,200 pallets in beginning finished goods inventory; costs have not changed from last year to this year. An actual costing system is used for product costing. Required: 1. What is the per-unit inventory cost that is acceptable for reporting on Borquess balance sheet at the end of the year ? How many units are in ending inventory? What is the total cost of ending inventory? 2. Calculate absorption-costing operating income. 3. CONCEPTUAL CONNECTION What would the per-unit inventory cost be under variable costing? Does this differ from the unit cost computed in Requirement 1? Why? 4. Calculate variable-costing operating income. 5. Suppose that Borques Company had sold 196,700 pallets during the year. What would absorption-costing operating income have been? Variable-costing operating income?arrow_forwardKimball Company has developed the following cost formulas: Materialusage:Ym=80X;r=0.95Laborusage(direct):Yl=20X;r=0.96Overheadactivity:Yo=350,000+100X;r=0.75Sellingactivity:Ys=50,000+10X;r=0.93 where X=Directlaborhours The company has a policy of producing on demand and keeps very little, if any, finished goods inventory (thus, units produced equals units sold). Each unit uses one direct labor hour for production. The president of Kimball Company has recently implemented a policy that any special orders will be accepted if they cover the costs that the orders cause. This policy was implemented because Kimballs industry is in a recession and the company is producing well below capacity (and expects to continue doing so for the coming year). The president is willing to accept orders that minimally cover their variable costs so that the company can keep its employees and avoid layoffs. Also, any orders above variable costs will increase overall profitability of the company. Required: 1. Compute the total unit variable cost. Suppose that Kimball has an opportunity to accept an order for 20,000 units at 220 per unit. Should Kimball accept the order? (The order would not displace any of Kimballs regular orders.) 2. Explain the significance of the coefficient of correlation measures for the cost formulas. Did these measures have a bearing on your answer in Requirement 1? Should they have a bearing? Why or why not? 3. Suppose that a multiple regression equation is developed for overhead costs: Y = 100,000 + 100X1 + 5,000X2 + 300X3, where X1 = direct labor hours, X2 = number of setups, and X3 = engineering hours. The coefficient of determination for the equation is 0.94. Assume that the order of 20,000 units requires 12 setups and 600 engineering hours. Given this new information, should the company accept the special order referred to in Requirement 1? Is there any other information about cost behavior that you would like to have? Explain.arrow_forwardSegment variable costing income statement and effect on operating income of change in operations Valdespin Company manufactures three sizes of camping tentssmall (S), medium (M), and large (L). The income statement has consistently indicated a net loss for the M size, and management is considering three proposals: (1) continue Size M, (2) discontinue Size M and reduce total output accordingly, or (3) discontinue Size M and conduct an advertising campaign to expand the sales of Size S so that the entire plant capacity can continue to be used. If Proposal 2 is selected and Size M is discontinued and production curtailed, the annual fixed production costs and fixed operating expenses could be reduced by 46,080 and 32,240, respectively. If Proposal 3 is selected, it is anticipated that an additional annual expenditure of 34,560 for the rental of additional warehouse space would yield an additional 130% in Size S sales volume. It is also assumed that the increased production of Size S would utilize the plant facilities released by the discontinuance of Size M. The sales and costs have been relatively stable over the past few years, and they are expected to remain so for the foreseeable future. The income statement for the past year ended June 30, 20Y9, is as follows: Instructions 1. Prepare an income statement for the past year in the variable costing format. Use the following headings: Data for each size should be reported through contribution margin. The fixed costs should be deducted from the total contribution margin, as reported in the Total column, to determine operating income. 2. Based on the income statement prepared in (1) and the other data presented, determine the amount by which total annual operating income would be reduced below its present level if Proposal 2 is accepted. 3. Prepare an income statement in the variable costing format, indicating the projected annual operating income if Proposal 3 is accepted. Use the following headings: Data for each style should be reported through contribution margin. The fixed costs should be deducted from the total contribution margin as reported in the Total column. For purposes of this problem, the expenditure of 34,560 for the rental of additional warehouse space can be added to the fixed operating expenses. 4. By how much would total annual operating income increase above its present level if Proposal 3 is accepted? Explain.arrow_forward
- The Chocolate Baker specializes in chocolate baked goods. The firm has long assessed the profitability of a product line by comparing revenues to the cost of goods sold. However, Barry White, the firms new accountant, wants to use an activity-based costing system that takes into consideration the cost of the delivery person. Following are activity and cost information relating to two of Chocolate Bakers major products: Using activity-based costing, which of the following statements is correct? a. The muffins are 2,000 more profitable. b. The cheesecakes are 75 more profitable. c. The muffins are 1,925 more profitable. d. The muffins have a higher profitability as a percentage of sales and, therefore, are more advantageous.arrow_forwardJolene Askew, manager of Feagan Company, has committed her company to a strategically sound cost reduction program. Emphasizing life-cycle cost management is a major part of this effort. Jolene is convinced that production costs can be reduced by paying more attention to the relationships between design and manufacturing. Design engineers need to know what causes manufacturing costs. She instructed her controller to develop a manufacturing cost formula for a newly proposed product. Marketing had already projected sales of 25,000 units for the new product. (The life cycle was estimated to be 18 months. The company expected to have 50 percent of the market and priced its product to achieve this goal.) The projected selling price was 20 per unit. The following cost formula was developed: Y=200,000+10X1 where X1=Machinehours(Theproductisexpectedtouseonemachinehourforeveryunitproduced.) Upon seeing the cost formula, Jolene quickly calculated the projected gross profit to be 50,000. This produced a gross profit of 2 per unit, well below the targeted gross profit of 4 per unit. Jolene then sent a memo to the Engineering Department, instructing them to search for a new design that would lower the costs of production by at least 50,000 so that the target profit could be met. Within two days, the Engineering Department proposed a new design that would reduce unit-variable cost from 10 per machine hour to 8 per machine hour (Design Z). The chief engineer, upon reviewing the design, questioned the validity of the controllers cost formula. He suggested a more careful assessment of the proposed designs effect on activities other than machining. Based on this suggestion, the following revised cost formula was developed. This cost formula reflected the cost relationships of the most recent design (Design Z). Y=140,000+8X1+5,000X2+2,000X3 where X1=MachinehoursX2=NumberofbatchesX3=Numberofengineeringchangeorders Based on scheduling and inventory considerations, the product would be produced in batches of 1,000; thus, 25 batches would be needed over the products life cycle. Furthermore, based on past experience, the product would likely generate about 20 engineering change orders. This new insight into the linkage of the product with its underlying activities led to a different design (Design W). This second design also lowered the unit-level cost by 2 per unit but decreased the number of design support requirements from 20 orders to 10 orders. Attention was also given to the setup activity, and the design engineer assigned to the product created a design that reduced setup time and lowered variable setup costs from 5,000 to 3,000 per setup. Furthermore, Design W also creates excess activity capacity for the setup activity, and resource spending for setup activity capacity can be decreased by 40,000, reducing the fixed cost component in the equation by this amount. Design W was recommended and accepted. As prototypes of the design were tested, an additional benefit emerged. Based on test results, the post-purchase costs dropped from an estimated 0.70 per unit sold to 0.40 per unit sold. Using this information, the Marketing Department revised the projected market share upward from 50 percent to 60 percent (with no price decrease). Required: 1. Calculate the expected gross profit per unit for Design Z using the controllers original cost formula. According to this outcome, does Design Z reach the targeted unit profit? Repeat, using the engineers revised cost formula. Explain why Design Z failed to meet the targeted profit. What does this say about the use of unit-based costing for life-cycle cost management? 2. Calculate the expected profit per unit using Design W. Comment on the value of activity information for life-cycle cost management. 3. The benefit of the post-purchase cost reduction of Design W was discovered in testing. What direct benefit did it create for Feagan Company (in dollars)? Reducing post-purchase costs was not a specific design objective. Should it have been? Are there any other design objectives that should have been considered?arrow_forwardCommunication The controller of New Wave Sounds Inc. prepared the following product profitability report for management, using activity-based costing methods for allocating both the factory overhead and the marketing expenses. As such, the controller has confidence in the accuracy of this report. In addition, the controller interviewed the vice president of marketing, who provided the following insight into the companys three products: The home theater speakers are an older product that is highly recognized in the marketplace. The wireless speakers are a new product that was just recently launched. The wireless headphones are a new technology that has no competition in the marketplace, and it is hoped that they will become an important future addition to the companys product portfolio. Initial indications are that the product is well received by customers. The controller believes that the manufacturing costs for all three products are in line with expectations. Based on the information provided: 1. Calculate the ratio of gross profit to sales and the ratio of operating income to sales for each product. 2. Write a brief (one-page) memo using the product profitability report and the calculations in (a) to make recommendations to management with respect to strategies for the three products.arrow_forward
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