Question

Hammer Company produces a variety of electronic equipment. One of its plants produces two laser printers: The Deluxe and the Regular. At the beginning of the year 2019, the following data were prepared for this plant:

	Deluxe	Regular
Quantity	20 000	80 000
Selling price	$90	$75
Unit direct cost	$53	$48

In addition, the following information was provided so that overhead costs could be assigned to each product:

Activity name	Activity Cost	Activity driver	Deluxe	Regular
Set-up	$200,000	Number of set-up	3 000	5 000
Machining	800,000	Machine hours	10 000	30 000
Engineering	600,000	Engineering hours	100 000	50 000
Packing	100,000	Packing orders	1 000	4 000
Total overhead costs	$1,700,000

Required:

1. Calculate the production overhead cost allocated to each product in 2019 using machine-hours as the cost driver (traditional costing system).
2. Calculate the production overhead cost allocated to each product in 2019 using the Activity-based approach to costing system.
3. Comment on your answers in requirements 1 and 2 and identify which product was most likely to be overstated under the traditional costing system.

Answer 1

Question 1

Particulars	Deluxe	Regular
Overhead Cost Allocated	425,000	1,275,000

Notes

Predetermined Overhead Rate = Total Estimated Manufacturing Overhead / Total Machine Hours

Total Estimated Manufacturing Overhead = $ 17,00,000

Total Machine Hours = 40,000 Hours

Predetermined Overhead Rate = 17,00,000 / 40,000

Predetermined Overhead Rate = $ 42.50 per Machine Hour

Particulars	Deluxe	Regular
Predetermined Overhead Rate	10,000	30,000
* Machine Hours	42.50	42.50
Overhead Costs Allocated	4,25,000	12,75,000

Question 2

Using Activity Based Costing

Particulars	Deluxe	Regular
Overhead Allocated	695,000	1,005,000

Notes

	A	B	C=A*B
Particulars	Activity Cost	Total Cost Driver	Activity Allocation Rate
Setup	200,000	8,000	25	Per Setup
Machining	800,000	40,000	20	Per Machine Hour
Engineering	600,000	150,000	4	Per Engineering Hour
Packaging	100,000	5,000	20	Per Packaging Order
Total	1,700,000

	A	B	C=A*B	D	E=A*D
Particulars	Activity Allocation Rate	Cost Driver for Deluxe	Total Overhead for Deluxe	Cost Driver for Regular	Total Overhead for Regular
Setups	25	3,000	75,000	5,000	125,000
Machining	20	10,000	200,000	30,000	600,000
Engineering	4	100,000	400,000	50,000	200,000
Packaging	20	1,000	20,000	4,000	80,000
Total			695,000		1,005,000

Question 3

Particulars	Deluxe	Regular
Overhead Costs Allocated as per Traditional Costing	425,000	1,275,000
Overhead Costs Allocated as per Activity Based Costing	695,000	1,005,000

Product Regular is likely to be overcosted in Allocation of Overhead using Traditional Costing as it allocates more Overhead to Regular than Deluxe using Machine Hours as the sole Allocation Base.

By using Traditional Costing Overhead are Overapplied to Product Regular whereas Activity Based Costing helps in better Allocation of Overhead among both the products by using appropriate cost driver and their usage level.