Question

Munoz Chairs, Inc. makes two types of chairs. Model Diamond is a high-end product designed for professional offices. Model Gold is an economical product designed for family use. Jane Silva, the president, is worried about cut-throat price competition in the chairs market. Her company suffered a loss last quarter, an unprecedented event in its history. The company’s accountant prepared the following cost data for Ms. Silva:

Direct Cost per Unit	Model Diamond (D)						Model Gold (G)
Direct materials				$	19.60	per unit				$	10.60	per unit
Direct labor	$	18.10	/hour	×	2.00	hours production time	$	18.10	/hour	×	1.00	hour production time

Category	Estimated Cost					Cost Driver	Use of Cost Driver
Unit level		$	267,900			Number of units	D: 12,000 units; G: 35,000 units
Batch level			744,000			Number of setups	D: 108 setups; G: 202 setups
Product level			375,000			Number of TV commercials	D: 7; G: 8
Facility level			561,000			Number of machine hours	D: 2,100 hours; G: 3,000 hours
Total		$	1,947,900

The market price for office chairs comparable to Model Diamond is $115 and to Model Gold is $77.

Required

Compute the cost per unit for both products.

Dan Barker, the chief engineer, told Ms. Silva that the company is currently making 111 units of Model Diamond per batch and 173 units of Model Gold per batch. He suggests doubling the batch sizes to cut the number of setups in half, thereby reducing the setup cost by 50 percent. Compute the cost per unit for each product if Ms. Silva adopts his suggestion.

(For all requirements, round intermediate calculations and final answers to 2 decimal places.)

	Type of Product Cost per Unit a. Model Diamond Model Gold b. Model Diamond Model Gold

Answer 1

a) For allocating estimated cost to both the products we need to calculate the allocation rate for each cost category which is calculated as follows:-

Allocation rate = Total cost to be allocated/Cost driver Allocation base

Allocation rate for Unit level cost = $267,900/(12,000+35,000) = $267,900/47,000 units = $5.70 per unit

Allocation rate for Batch level cost = $744,000/(108+202) = $744,000/310 set ups = $2,400 per set up

Allocation rate for Product level cost = $375,000/(7+8) = $375,000/15 TV commercials = $25,000 per commercial

Allocation rate for Facility level cost = $561,000/(2,100+3,000) = $561,000/5,100 hrs = $110 per hour

Calculation of cost per unit (Amount in $)

Particulars	Model Diamond (D)	Model Gold (G)
Direct Materials	(12,000 units*$19.60) = 235,200	(35,000 units*$10.60) = 371,000
Direct Labor	(12,000*2 hrs*$18.10) = 434,400	(35,000*1 hr*$18.10) = 633,500
Unit Level cost	(12,000 units*$5.70) = 68,400	(35,000 units*$5.70) = 199,500
Batch Level cost	(108 setups*$2,400) = 259,200	(202 setups*$2,400) = 484,800
Product Level cost	(7*$25,000) = 175,000	(8*$25,000) = 200,000
Faciliti Level cost	(2,100 hrs*$110) = 231,000	(3,000 hrs*$110) = 330,000
Total Cost (A)	1,403,200	2,218,800
Total Units (B)	12,000	35,000
Cost per unit (A/B)	116.93	63.39

Therefore the cost per unit for each product will be

	Type of Product	Cost per Unit
a.	Model Diamond	116.93
	Model Gold	63.39

b) In this case the total set ups for each product will reduce to half (i.e. for product D, no. of setups reduced to 54 from 108 and for product G, no. of setups reduced to 101 from 202).

Therefore the total Batch level cost of $744,000 will decreased to $372,000.

New allocation rate for Batch level cost = $372,000/(54+101) = $372,000/155 setups = $2,400 per setup

Calculation of cost per unit (Amount in $)

Particulars	Model Diamond (D)	Model Gold (G)
Direct Materials	(12,000 units*$19.60) = 235,200	(35,000 units*$10.60) = 371,000
Direct Labor	(12,000*2 hrs*$18.10) = 434,400	(35,000*1 hr*$18.10) = 633,500
Unit Level cost	(12,000 units*$5.70) = 68,400	(35,000 units*$5.70) = 199,500
Batch Level cost	(54 setups*$2,400) = 129,600	(101 setups*$2,400) = 242,400
Product Level cost	(7*$25,000) = 175,000	(8*$25,000) = 200,000
Faciliti Level cost	(2,100 hrs*$110) = 231,000	(3,000 hrs*$110) = 330,000
Total Cost (A)	1,273,600	1,976,400
Total Units (B)	12,000	35,000
Cost per unit (A/B)	106.13	56.47

Therefore the cost per unit for each product will be

	Type of Product	Cost per Unit
b.	Model Diamond	106.13
	Model Gold	56.47