Question

Aunt Ethel’s Fancy Cookie Company manufactures and sells three styles of cookies: Macaroon, Sugar, and Buttercream. The batch size for the cookies is limited to 1,000 cookies based on the size of the ovens and cookie molds owned by the company. Based on budgetary projections, the information listed below is available:

  Macaroon Sugar Buttercream

Projected sales in units 800,000 600,000 500,000

PER UNIT data:

Selling price $0.80 $0.75 $0.60

Direct materials $0.20 $0.15 $0.14

Direct labor $0.04 $0.02 $0.02

Overhead cost based on direct labor hours

(traditional system) $0.30 $0.15 $0.15

Hours per 1000-unit batch:

Direct labor hours 2 1 1

Oven hours 1 1 1

Setup hours 0.5 0.3 0.5

Packaging hours 1 1 1

Total overhead costs and activity levels for the year are estimated as follows:

Cost Pool Activity Overhead Costs    Activity Level

Cleaning Direct labor hours $51,975 2,700 Hours

Oven costs Oven hours $162,450 1,900 Hours

Setups Setup hours $70,200 800 Hours

Packaging Packaging hours $119,035   950 Hours

Total overhead costs $403,660

Required:

1. Using the traditional system: a. Show how Aunt Ethel’s calculated the overhead cost per unit for each flavor of cookie. b. Determine the profit margin per batch for each flavor of cookie.

2. Aunt Ethel’s is considering moving to an Activity Based Costing (ABC) system. Determine the overhead cost rate for each cost pool.

3. Using the ABC system: a. Calculate the overhead costs per unit for each flavor of cookie. b. Determine the profit margin per batch for each flavor of cookie.

4. Explain the difference between the profits obtained from the traditional system and the ABC system. Which system provides a better estimate of profitability? Why?

Answer 1