Question

College Supply Company (CSC) makes three types of drinking glasses: short, medium, and tall. It presently applies overhead using a predetermined rate based on direct labor-hours. A group of company employees recommended that CSC switch to activity-based costing and identified the following activities, cost drivers, estimated costs, and estimated cost driver units for Year 5 for each activity center.

Activity	Recommended Cost Driver	Estimated Cost	Estimated Cost Driver Units
Setting up production	Number of production runs	$30,000	100 runs
Processing orders	Number of orders	$57,200	220 orders
Handling materials	Pound of materials	$18,000	9,000 pounds
Using machines	Machine-hours	$45,000	9,000 hours
Providing quality management	Number of inspections	$48,000	40 inspections
Packing and shipping	Units shipped	$44,000	22,000 units
		$242,200

In addition, management estimated 2,000 direct labor-hours for year 5.

Assume that the following cost driver volumes occurred in February, year 5.

	Short	Medium	Tall
Number of units produced	1,000	500	400
Direct materials costs	$3,000	$2,500	$2,500
Direct labor-hours	90	140	100
Number of orders	8	9	4
Number of production runs	2	4	8
Pounds of material	400	900	200
Machine-hours	400	300	300
Number of inspections	1	3	2
Units shipped	1,000	500	300

Direct labor costs were $20 per hour.

Required:

1. Compute a predetermined overhead rate for year 5 for each cost driver recommended by the employees. Also compute a predetermined rate using direct labor-hours as the allocation base.
2. Compute the production costs for each product for February using direct labor-hours as the allocation base and the predetermined rate computed in requirement a.
3. Compute the production costs for each product for February using the cost drivers recommended by the employees and the predetermined rates computed in requirement a. (Note: Do not assume that total overhead applied to products in February will be the same for activity-based costing as it was for the labor-hour-based allocation.)

Answer 1

a) The predetermined overhead rate for year 5 as recommended by employees is as follows -

Activity	Recommended Cost Driver	Estimated Cost	Estimated Cost Driver Units	Cost /Driver
Setting up production	Number of production runs	$30,000	100 runs	$300
Processing orders	Number of orders	$57,200	220 orders	$260
Handling materials	Pound of materials	$18,000	9,000 pounds	$2
Using machines	Machine-hours	$45,000	9,000 hours	$5
Providing quality management	Number of inspections	$48,000	40 inspections	$1,200
Packing and shipping	Units shipped	$44,000	22,000 units	$2
		$242,200

Predetermined rate using direct labour hours = $242,000/2,000 hours = $121.10

b) Production Cost for each unit, using direct labour hours as basis for overhead allocation is as follows

	Short	Medium	Tall
				Number of units produced	1,000	500	400
Direct labor-hours	90	140	100
Direct Materials	$3,000	$2,500	$2,500
Direct Labour @ $20/hr	$1,800	$2,800	$2,000
Overheads @ $121.10 /hr	$10,899	$16,954	$12,110
Total Costs	$15,699	$22,254	$16,610

c) Production costs as per activity based costing is as follows. Cost per driver has been computed in sub part (a)

		Short	Medium	Tall
Number of units produced		1,000	500	400
Drivers :
Direct labor-hours		90	140	100
Number of orders		8	9	4
Number of production runs		2	4	8
Pounds of material		400	900	200
Machine-hours		400	300	300
Number of inspections		1	3	2
Units shipped		1,000	500	300
Direct materials costs		$3,000	$2,500	$2,500
Direct Labour @ $20/Direct labour hour		$1,800	$2,800	$2,000
Setting up production	Number of production runs * $300	$600	$1,200	$2,400
Processing orders	Number of orders * $260	$2,080	$2,340	$1,040
Handling materials	Pound of materials * $2	$800	$1,800	$400
Using machines	Machine-hours*$5	$2,000	$1,500	$1,500
Providing quality management	Number of inspections*$1,200	$1,200	$3,600	$2,400
Packing and shipping	Units shipped*$2	$2,000	$1,000	$600
Total Costs		$13,480	$16,740	$12,840