Question

Company A manufactures a line of high-end exercise equipment of commercial quality. Assume that the Controller has proposed changing from a traditional costing system to an activity-based costing system. The Vice-President Finance is not convinced, so she requests that the next large order for equipment be costed under both systems to compare and analyze. The company receives an order from Slim Inc, for 150 low impact treadmills, which the Controller identifies as the order to use for dual costing. The following cost data relate to the Slim Inc order:

Data Relevant to Both Costing Systems:

Direct materials                            $55,500

Direct labour hours                              820

Direct labour rate per hour                $18

Data Relevant to the Traditional Costing System:

The predetermined overhead rate is 300% of direct labour cost.

Data Relevant to the Activity-Based costing System:

Activity Cost Pools            Cost Drivers                  Activity-Based           Expected Use of

                                                                                      Overhead Rate         Cost Drivers

                                                                                                                          Per Treadmill

Engineering design            Engineering hours        $30 per hour             330

Machine set-up                  Set-ups                           $200 per set-up        22

Machining                           Machine hours              $25 per hour             732

Assembly                             Number of sub-             $8 per sub-                1,450

                                              assemblies                      assembly                    

Packaging &                        Packaging &                     $15 per hour           152

Shipping                               hours                                                                   

Building occupancy            Machine hours                $6 per hour             732                                                 

  

Required:

Calculate the total cost of the Slim Inc order under

The traditional costing system

The activity-based costing system

As a result of this comparison which costing System Company A likely to adopt? And why?

Answer 1

a.)	Traditional Costing System
		Amount in $
	Direct materials	55,500
	Direct labor	14,760
	( 820 x 18)
	Allocated Overhead	44,280
	(14,760 x 300% )
	Total Cost of Slim Inc order	114,540
b.)	Activity based costing system
		Amount in $
	Direct materials	55,500
	Direct labor	14,760
	( 820 x 1 8)
	Allocated overhead:
	Engineering design ( 30 x 330 )	9,900
	Machine Setup ( 200 x 22 )	4,400
	Machining ( 25 x 732 )	18,300
	Assembly ( 8 x 1,450 )	11,600
	Packaging & Shipping ( 15 x 152 )	2,280
	Building occupancy ( 6 x 732 )	4,392
	Total Cost of Slim Inc order	121,132
c.)	Total Cost of Slim Inc order as per Activity based costing system is comes more than traditional costing system. Activity based costing provides the better & accruate estimate of cost which result in accurate pricing & net profits. Where as traditional costing system has provided under costing which may result into wrong pricing & lead to inaccurate net profit. Hence, the company must follow activity based costing system.