Question

Hi-Tek Manufacturing, Inc., makes two types of industrial component parts—the B300 and the T500. An absorption costing income statement for the most recent period is shown:

Hi-Tek Manufacturing Inc. Income Statement
Sales	$	1,747,500
Cost of goods sold		1,243,880
Gross margin		503,620
Selling and administrative expenses		550,000
Net operating loss	$	(46,380	)

Hi-Tek produced and sold 60,000 units of B300 at a price of $21 per unit and 12,500 units of T500 at a price of $39 per unit. The company’s traditional cost system allocates manufacturing overhead to products using a plantwide overhead rate and direct labor dollars as the allocation base. Additional information relating to the company’s two product lines is shown below:

	B300		T500		Total
Direct materials	$	400,900	$	163,000	$	563,900
Direct labor	$	120,700	$	42,200		162,900
Manufacturing overhead						517,080
Cost of goods sold					$	1,243,880

The company has created an activity-based costing system to evaluate the profitability of its products. Hi-Tek’s ABC implementation team concluded that $55,000 and $102,000 of the company’s advertising expenses could be directly traced to B300 and T500, respectively. The remainder of the selling and administrative expenses was organization-sustaining in nature. The ABC team also distributed the company’s manufacturing overhead to four activities as shown below:

	Manufacturing Overhead			Activity
Activity Cost Pool (and Activity Measure)				B300	T500	Total
Machining (machine-hours)	$	199,290		91,000	62,300	153,300
Setups (setup hours)		156,090		73	290	363
Product-sustaining (number of products)		101,000		1	1	2
Other (organization-sustaining costs)		60,700		NA	NA	NA
Total manufacturing overhead cost	$	517,080

Required:

1. Compute the product margins for the B300 and T500 under the company’s traditional costing system.

2. Compute the product margins for B300 and T500 under the activity-based costing system.

3. Prepare a quantitative comparison of the traditional and activity-based cost assignments.

Answer 1

1.

Predetermined overhead rate
Estimated Manufacturing overhead	517080
/Estimated direct material used	162900
Predetermined overhead rate	3.17
Computation of Product Margin - Traditional Costing System
Particulars	B300	T500	Total
Sales (B300 - 60,000*$21, T500 - 12500*$39)	$12,60,000	$4,87,500	$17,47,500
Direct material	$4,00,900	$1,63,000	$5,63,900
Direct labor	$1,20,700	$42,200	$1,62,900
Manufacturing overhead ($3.17 * Direct labor)	$3,82,619	$1,33,774	$5,16,393
Product Margin	$3,55,781	$1,48,526	$5,04,307

2.

Determination of activity rate for each activity & allocation of overhead
Activity	Estimated Overhead Cost	Activity Base	Usage of Activity Base	Activity Rate	B300	T500
Usage	Allocated Costs	Usage	Allocated Costs
Machining	$1,99,290.00	Machine hours	153300	$1.30	91000	$1,18,300.00	62300	$80,990.00
Setups	$1,56,090.00	Setup hours	363	$430.00	73	$31,390.00	290	$1,24,700.00
Product sustaining	$1,01,000.00	Number of products	2	$50,500.00	1	$50,500.00	1	$50,500.00
Other	$60,700.00	No allocation
Total	$5,17,080.00					$2,00,190.00		$2,56,190.00

Computation of Product Margin - Activity based Costing System
Particulars	B300	T500	Total
Sales (B300 - 60,000*$21, T500 - 12500*$39)	$12,60,000	$4,87,500	$17,47,500
Direct material	$4,00,900	$1,63,000	$5,63,900
Direct labor	$1,20,700	$42,200	$1,62,900
Allocated Manufacturing overhead	$2,00,190.00	$2,56,190.00	$4,56,380
Advertising Expense	$55,000.00	$1,02,000.00	$1,57,000.00
Product Margin	$4,83,210.00	-$75,890.00	$4,07,320.00

3.

Quantity comparison of traditional cost assignment
Particulars	B300		T500		Total
	Amount	% of total Amount	Amount	% of total Amount	Amount
Direct Material Cost	$4,00,900	71.1%	$1,63,000	28.9%	$5,63,900
Direct Labor Cost	$1,20,700	74.1%	$42,200	25.9%	$1,62,900
Manufacturing Overhead cost	$3,82,619	74.1%	$1,33,774	25.9%	$5,16,393
Total cost assigned to products	$9,04,219		$3,38,974		$12,43,193
Total cost not assigned to product:
Selling and adminstrative Expenses					$5,50,000.00
Total Cost					$17,93,193
Quantity comparison of Activity Based cost assignment
Particulars	B300		T500		Total
	Amount	% of total Amount	Amount	% of total Amount	Amount
Direct Cost:
Material Cost	$4,00,900	71.1%	$1,63,000	28.9%	$5,63,900
Labor Cost	$1,20,700	74.1%	$42,200	25.9%	$1,62,900
Advertising Expense	$55,000.00	35.0%	$1,02,000.00	65.0%	$1,57,000
Indirect Cost:
Machining	$1,18,300	59.4%	$80,990	40.6%	$1,99,290
Setups	$31,390	20.1%	$1,24,700	79.9%	$1,56,090
Product sustaining	$50,500	50.0%	$50,500	50.0%	$1,01,000
Total Cost Assigned to Products	$7,76,790		$5,63,390		$13,40,180
Cost not assigned to products:
Manufacturing					$60,700
Selling and administrative (550000- 55000-102000)					$3,93,000
Total Cost					$17,93,880