Question

T&J manufacturing has a factory that produces custom kitchen cabinets. It has multiple product lines.

Materials and labor for the cabinets are determined by each job. To simplify the assignment, we will assume the following average costs.

The materials include $1,000 for the wood and other direct materials of $200. Both items listed are on a per job basis. It requires 20 hours of labor on average for a custom kitchen. The hourly rate is $10. The sales price will be set at a markup of 65%.

The company estimates that it will have 16,000 direct labor hours in total for all product lines.
It assumes 800 units are sold on average per year. A breakdown of estimated yearly costs related to the

kitchen cabinets follows:

Salaries- office & administrative	$ 520,000
Salaries for factory personal:	$ 220,000
Office Rent	$ 125,000
Factory Rent	$ 20,000
Office Utilities and Misc office expenses(based on units sold)	$ 20,000
Sales Travel(based on units sold)	$ 24,000
Insurance - office	$ 12,000
Depreciation - office equipment	$ 40,000
Depreciation for factory equipment	$ 70,000
Advertising	$ 20,000
Sales commissions(based on units sold)	$ 45,000
Factory Property taxes:	$ 10,000
Maintenance for factory equipment:	$ 80,000

Assume another product line is also being considered – bookshelves. Only use this information for the questions listed directly below.

•  Higher skilled workers would be required which will result in paying them $15 per hour.

•  Additional MOH costs for the year will be $150,000. These costs will be in addition to the costs already being incurred. These costs are due to the additional product line and also related to the

  current product lines for additional production abilities. The two lines will share all MOH costs.

1. Should the company consider using ABC? Discuss why or why not? Areas to include in the discussion but not limited to the following: impact on product cost, implications of not using the right allocation and its impact on price if any, etc....

2. How specifically would ABC help allocate MOH costs?

Answer 1

Yes, the firm should consider the Activity Based costing. When there are 2 products manufactured the consumption of resources for production is bound to change. Activity Based Costing method is a method of allocation of overheads to products based on activities consumed. In Traditional method a single cost driver is used like machine hours or labor hours which do not lead to accurate product costing. Hence to overcome this drawback ABC method is used which help organisation in improving its product costing. ABC helps an organisation in getting strategic competitive advantage in today’s business world. ABC method of costing distinguishes itself from conventional costing by allocating costs in more scientific way. Traditional method of costing leads to over or under costing of product compared to ABC costing. An inaccurate product costing does not help in reliable product pricing and can lead to issues like lower margin, wrong elimination of products, unreliable decisions, etc.

ABC Costing system should be used because it has advantages. Below are the listed advantages

· It helps in accurate product costing and taking reliable decisions

· It helps in decision making like Product level profitability, launch of new products, customer level cost analysis, elimination of non profit making products, etc

· It helps in accurate Product pricing and ensure target margin is delivered

· It helps in better cost management through cost control and cost reduction

· It helps in analysing value adding and non value activities. Elimination of non value adding activities reduces the cost of the firm

· It helps in target setting and performance appraisal of employees based on the same.

ABC method allocates cost in the following way

· All the activities required for manufacturing are clubbed into activity pool

· Costs are assigned to the respective activity pool known as Activity cost pool

· Cost drivers are determined for each activity pool

· Cost driver rate is computed based on estimated overheads and total cost drivers for each activity pool

· Cost driver rate is applied to the consumption of activities for each product.