Question

Ralston Company has four product lines. The Machining product line produces specialized equipment for Oil and Gas exploration companies. Currently, a plant-wide rate is used to allocate overhead based on $1,000,000 total budgeted overhead and 20,000 machine hours budgeted for the year. Mike Bryer, product line controller, has heard about ABC and would like to see if using ABC would make a difference compared to the plant-wide allocation method in use now.

The accounting staff has provided the following information about budgeted manufacturing overhead and activities for the year if they were to implement activity-based costing:

Cost Pool        Amount     Cost Driver

Setup               $300,000      Number of setups

Inspection      $500,000      Number of inspections

Equipment     $200,000      Number of machine hours

The product line manager estimates 1,500 setups, 12,500 inspections, and 20,000 machine hours this year.

Job CRT-5050 required 180 setups, 600 inspections, and 850 machine hours. Direct materials and direct labor combined for this job amounted to $80,000. Using the current traditional cost system, Ralston quoted a price of $180,000 for Job CRT-5050.

Required:

1. Based on the current cost allocation method, determine the gross profit and gross profit ratio from Job CRT-5050?
2. Using ABC method of allocation, determine the gross profit and gross profit ratio from Job CRT-5050?
3. Briefly compare the two methods of allocating overhead. Which method provides more accurate cost and gross profit measures for Ralston Company? Why?
4. Assume that Ralston implemented activity-based costing; determine the price that should have been quoted for the firm to achieve a target gross profit percentage of 30%.

Answer 1