Question

CarryAll Company produces briefcases from leather, fabric, and synthetic materials in a single
production department. The basic product is a standard briefcase made from leather and lined with
fabric. CarryAll has a good reputation in the market because the standard briefcase is a high-quality
item that has been produced for many years.
Last year, the company decided to expand its product line and produce specialty briefcases
for special orders. These briefcases differ from the standard in that they vary in size, contain both
leather and synthetic materials, and are imprinted with the buyer’s logo (the standard briefcase
is simply imprinted with the CarryAll name in small letters). The decision to use some synthetic
materials in the briefcase was made to hold down the materials cost. To reduce the labor costs per
unit, most of the cutting and stitching on the specialty briefcases is done by automated machines,
which are used to a much lesser degree in the production of the standard briefcases. Because of
these changes in the design and production of the specialty briefcases, CarryAll management
believed that they would cost less to produce than the standard briefcases. However, because they
are specialty items, they were priced slightly higher; standards are priced at $30 and specialty
briefcases at $32.
After reviewing last month’s results of operations, CarryAll’s president became concerned
about the profitability of the two product lines because the standard briefcase showed a loss while
the specialty briefcase showed a greater profit margin than expected. The president is wondering
whether the company should drop the standard briefcase and focus entirely on specialty items.
Units and cost data for last month’s operations as reported to the president are as follows:

Standard Specialty Units produced 10,000 2,500 Direct materials Leather (1 sq. yd. ×$15.00; ½ sq. yd. ×$15.00) $15.00 $7.50 Fabric (1 sq. yd. ×$5.00; 1 sq. yd. × $5.00) $ 5.00 $5.00 Synthetic $5.00 Total materials $20.00 $17.50 Direct labor (½ hr. × $12.00, ¼ hr. × $12.00) $6.00 $3.00 Manufacturing Overhead (1/2 hr. × $8.98, ¼ hr. × $8.98) $4.49 $2.25 Cost per unit $30.49 $22.75
Factory overhead is applied on the basis of direct labor hours. The rate of $8.98 per direct labor
hour was calculated by dividing the total overhead ($50,500) by the direct labor hours (5,625). As
shown in the table, the cost of a standard briefcase is $0.49 higher than its $30 sales price; the
specialty briefcase has a cost of only $22.75, for a gross profit per unit of $9.25. The problem with
these costs is that they do not accurately reflect the activities involved in manufacturing each
product. Determining the costs using ABC should provide better product costing data to help gauge
the actual profitability of each product line.
The manufacturing overhead costs must be analyzed to determine the activities driving the
costs. Assume that the following costs and cost drivers have been identified:
• The Purchasing Department’s cost is $6,000. The major activity driving these costs is the number
of purchase orders processed. During the month, the Purchasing Department prepared the
following number of purchase orders for the materials indicated:
Leather 20 Fabric 30 Synthetic material 50
• The cost of receiving and inspecting materials is $7,500. These costs are driven by the number
of deliveries. During the month, the following number of deliveries were made:
Leather 30 Fabric 40 Synthetic material 80
• Production line setup cost is $10,000. Setup activities involve changing the machines to produce
the different types of briefcases. Each setup for production of the standard briefcases requires one
hour; each setup for specialty briefcases requires two hours. Standard briefcases are produced in
batches of 200, and specialty briefcases are produced in batches of 25. During the last month, there
were 50 setups for the standard item and 100 setups for the specialty item.
• The cost of inspecting finished goods is $8,000. All briefcases are inspected to ensure that quality
standards are met. However, the final inspection of standard briefcases takes very little time
because the employees identify and correct quality problems as they do the hand cutting and
stitching. A survey of the personnel responsible for inspecting the final products showed that 150
hours were spent on standard briefcases and 250 hours on specialty briefcases during the month.
• Equipment-related costs are $6,000. Equipment-related costs include repairs, depreciation, and
utilities. Management has determined that a logical basis for assigning these costs to products is
machine hours. A standard briefcase requires 1/2 hour of machine time, and a specialty briefcase
requires two hours. Thus, during the last month, 5,000 hours of machine time relate to the standard
line and 5,000 hours relate to the specialty line.
• Plant-related costs are $13,000. These costs include property taxes, insurance, administration,
and others. For the purpose of determining average unit costs, they are to be assigned to products
using machine hour

Question:  Reevaluate the president’s concern about the profitability of the two product lines.

Answer 1

Solve-1

The Purchasing Department’s cost is $6,000. The major activity driving these costs is the number of purchase orders processed. During the month, the Purchasing Department prepared the following number of purchase orders for the materials indicated: Leather 20 Fabric 30 Synthetic material 50.

Here Standard & Specialty Units produced -10000 Units & 2500 Units.

Now – For Standard & Specialty Leather required=2:1-

           For Standard & Specialty Fabric Required=1:1

           & Synthetic is Used only in Speciality.

So, Cost Per Delivery=600/100=$60.

For Standard & Specialty Leather required=2:1

Standard Leather Purchase cost = (30*2)/30(60)=$1200

For Standard & Specialty Fabric Required=1:1

For Standard Fabric Purchase cost = (30/2)*60=$900.

Total Standard Material Purchase Cost=$1200+$900=$2100

So, In Case of Specialty Purchase Cost=(6000-1200-900)=$3900.

Solve-2

The cost of receiving and inspecting materials is $7,500. These costs are driven by the number of deliveries. During the month, the following number of deliveries was made: Leather 30 Fabric 40 Synthetic material 80.

Here- Cost of Receiving & Inspecting -$7500.

Total Number Of Deliveries = 30+40+80=150

So, Cost Per Delivery=7500/150=$50.

For Standard & Specialty Leather required=2:1

Standard Leather Receiving/inspection cost = (30*2)/30(50)=$1000

For Standard & Specialty Fabric Required=1:1

For Standard Fabric Receiving/inspection cost = (40/2)*50=$1000.

So, In Case of Specialty Receiving & Inspection=(7500-1000-1000)=$5500.

Solve-3

Production line setup cost is $10,000

Each setup for production of the standard briefcases requires one
hour; each setup for specialty briefcases requires two hours.

During the last month, where 50 setups for the standard item and 100 setups for the specialty item.

Total Hours for setup=Standard Setup Hours+ Specialty Setup Hours=

(50*1Hours)+(100*2)=250 Hours.

Production Line Set Up Cost For Standard=$(10000/250) x 50=$2000.

Production Line Set Up Cost For Specialty =$(10000/250) x 200=$8000

Solve-4

The cost of inspecting finished goods is $8,000.

Survey of the personnel responsible for inspecting the final products showed that 150 hours were spent on standard briefcases and 250 hours on specialty briefcases during the month.

Total Hours involved in inspecting finished goods=(150+250)Hrs=400 Hours.

Cost of Inspecting Standard Briefcases=(8000/400)*150=$3000.

Cost of Inspecting Specialty Briefcases=(8000/400)*250=$5000.

Solve-5

Equipment-related costs are $6,000

Management has determined that a logical basis for assigning these costs to products is machine hours.

A standard briefcase requires 1/2 hour of machine time, and a specialty briefcase requires two hours. Thus, during the last month, 5,000 hours of machine time relate to the standard line and 5,000 hours relate to the specialty line.

So, Equipment Related cost for Production of 10000 Units Standard=$3000.

      Equipment Related cost for Production of 2500 Units Specialty =$3000.

Solve-6

Plant-related costs are $13,000.

For the purpose of determining average unit costs, they are to be assigned to products using machine hour.

Plant Related cost for Production of 10000 Units Standard=$6500

Plant Related cost for Production of 2500 Units Specialty =$6500.

Manufacturing Cost for Standard Briefcases=(2100+2000+2000+3000+3000+6500)=$18600

Manufacturing Cost for Specialty Briefcases=(3900+5500+8000+5000+3000+6500)=$31900

Production is Standard & Speciality=10000 & 2500.

Reevaluation of the president’s concern about the profitability of the two product lines.

TABLE SHOWING PROFITABILITY ANALYSIS

COSTS	STANDARD BRIEFCASE	SPECIALITY BRIEFCASE
Leather	$15	$7.50
Fabric	$5.00	$5
Synthetic		$5
Direct Labour	$6.00	$3.00
Manufacturing Cost	$1.86	$12.76
	$27.86	$33.26

Thus it is being seen Standard briefcases are profitable by considering actual cost, it must not be dropped.