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	$	1,772,400
Cost of goods sold		1,250,166
Gross margin		522,234
Selling and administrative expenses		610,000
Net operating loss	$	(87,766	)

Hi-Tek produced and sold 60,400 units of B300 at a price of $21 per unit and 12,600 units of T500 at a price of $40 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	$	400,400	$	162,700	$	563,100
Direct labor	$	120,400	$	42,100		162,500
Manufacturing overhead						524,566
Cost of goods sold					$	1,250,166

The company has created an activity-based costing system to evaluate the profitability of its products. Hi-Tek’s ABC implementation team concluded that $58,000 and $101,000 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)	$	208,896		90,900	62,700	153,600
Setups (setup hours)		154,370		79	280	359
Product-sustaining (number of products)		100,800		1	1	2
Other (organization-sustaining costs)		60,500		NA	NA	NA
Total manufacturing overhead cost	$	524,566

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

Ans. 1   Computation of Plant-wide overhead rate

Plant wide overhead rate based on direct labour dollar

Total overhead cost = 524566

Direct labour cost = 162500

Plant wide overhead rate = 524566/162500 = 3.2281 per direct labour dollar

                                   Computation of Product margin

                                                           B300                        T500

Sales (60400X21),(12600X40)    1268400 504000

Direct material                                 400400 162700

Direct labour                                    120400 42100

manufacturing overhead

B300 120400X3.2281)                    388663                          -

T500 42100X3.2281)                          -                               135903

Direct Advt cost                                 58000                        101000

Net Profit or margin                        300937                        62297

2. Calculation of Product margin for B300 and T500 under the Activity based costing system

Activity Pool

Machine cost per hour = 208896/153600 = 1.36 per machine hours

Setups (setup hours) = 154370/359 = 430 per setup hours

Product sustaining per no of products = 100800/2 = 50400

Other organizaton sustaining cost = 60500/2 = 30250

Step2   computation of product margin

                                                    B300                       T500

Sales (60400X21), (12600X40)          1268400    504000

Direct material                             400400                     162700

Direct labour                                            120400                      42100

Overhead cost

Machine costB300 (90900X1.36)         123624 -                 

                       T500 (62700X1.36)              -                               85272

Setup cost B300(79X430)                      33970 -

                     T500(280X430)                      -    120400   

Prodcut sustaining cost 50400 50400                                

Other Organization sustaining cost      30250                       30250

Advt cost                                                     58000                       101000

Net Profit/Margin                                      451356                     (88122)

Ans 3 Quantitative comparison of the traditional and activity based cost assignment

                                                                                                  B300                  T500

manufacturing cost assinged under Traditional (a)      388663            135903

Manufacturing cost assinged under ABC(b)                       

B300(123624+33970+50400+30250)                              238244 -

T500 (85272+120400+50400+30250)                                 -     286322

Difference between two method    150419 150419

    

Product margin under traditional costing    300937 62297

Product margin under ABC 451356    (88122)

Difference    150419    150419                                                                     

Comments : Manufacturing cost assgined under the Traditional costing system to Product B300 388663/- is higher than cost under ABC system which is 238244/- that's way profit is more in ABC and manufacturing cost assigned to Product T500 under Traditional is135903/- is lower than cost assigned under ABC which is 286322/- that way profit under ABC is lower than profit under traditional costing system.