Question

Maxey & Sons manufactures two types of storage cabinets—Type A and Type B—and applies manufacturing overhead to all units at the rate of $136 per machine hour. Production information follows. Type A Type B Anticipated volume (units) 27,200 51,000 Direct-material cost per unit $ 36 $ 54 Direct-labor cost per unit 41 41 The controller, who is studying the use of activity-based costing, has determined that the firm’s overhead can be identified with three activities: manufacturing setups, machine processing, and product shipping. Data on the number of setups, machine hours, and outgoing shipments, which are the activities’ three respective cost drivers, follow. Type A Type B Total Setups 156 116 272 Machine hours 54,400 76,500 130,900 Outgoing shipments 200 150 350 The firm’s total overhead of $17,802,400 is subdivided as follows: manufacturing setups, $3,884,160; machine processing, $10,681,440; and product shipping, $3,236,800. Required: 1. Compute the unit manufacturing cost of Type A and Type B storage cabinets by using the company’s current overhead costing procedures. 2. Compute the unit manufacturing cost of Type A and Type B storage cabinets by using activity-based costing. 3. Is the cost of the Type A storage cabinet overstated or understated (i.e., distorted) by the use of machine hours to allocate total manufacturing overhead to production? By how much? 4. Assume that the current selling price of a Type A storage cabinet is $398.00 and the marketing manager is contemplating a $44 discount to stimulate volume. Is this discount advisable?

Answer 1

Solution

Maxey & Sons

1. Computation of unit manufacturing costs of Type A and Type B storage cabinets by using the company’s current overhead costing procedures –

Computations –

Manufacturing overhead rate per machine hour = $136

Type A –

Machine hours = 54,400

Applied manufacturing overhead = $136 x 54,400 = $7,398,400

Number of units = 27,200

Manufacturing overhead cost per unit = $7,398,400/27,200 = $272

Type B –

Machine hours = 76,500

Applied manufacturing overhead = $136 x 76,500 = $10,404,000

Number of units = 51,000

Manufacturing overhead cost per unit = $10,404,000/51,000 = $204

1. Computation of the unit manufacturing cost of Type A and Type B storage cabinets using activity-based costing:

Computations -

a. determination of activity rates -

b. assigned overhead -

1. The cost of Type A storage cabinet is understated.

Explanation-

Cost of Type A storage cabinet as per conventional costing = $349

Cost of Type A storage cabinet as per Activity based costing = $390.10

The cost is understated by $41.10

2. Is the discount advisable?

Current selling price of Type A storage cabinet = $398 per unit

Discount = $44

Selling price after discount = $354

Cost as per activity based costing = $390.10

The selling price after discount is less than the unit cost computed as per activity based costing.

This would result in a loss of $36.10 per unit.

Hence, discount of $44 is not advisable.