Question

Problem 5-55 Activity-Based Costing (LO 5-1, 5-2, 5-4, 5-5)

Manchester Technology, Inc. manufactures several different types of printed circuit boards; however, two of the boards account for the majority of the company’s sales. The first of these boards, a television circuit board, has been a standard in the industry for several years. The market for this type of board is competitive and price-sensitive. Manchester plans to sell 80,000 of the TV boards in 20x1 at a price of $460 per unit. The second high-volume product, a personal computer circuit board, is a recent addition to Manchester’s product line. Because the PC board incorporates the latest technology, it can be sold at a premium price. The 20x1 plans include the sale of 55,000 PC boards at $775 per unit.

Manchester’s management group is meeting to discuss how to spend the sales and promotion dollars for 20x1. The sales manager believes that the market share for the TV board could be expanded by concentrating Manchester’s promotional efforts in this area. In response to this suggestion, the production manager said, “Why don’t you go after a bigger market for the PC board? The cost sheets that I get show that the contribution from a PC board is significantly larger than the contribution from a TV board. I know we get a premium price for the PC board. Selling it should help overall profitability.”

The cost-accounting system shows that the following costs apply to the PC and TV boards.

	PC Board			TV Board
Direct material	$	244		$	154
Direct labor		3.0	hr.		2.0	hr.
Machine time		1.0	hr.		0.5	hr.

  

Variable manufacturing overhead is applied on the basis of direct-labor hours. For 20x1, variable overhead is budgeted at $2,465,000, and direct-labor hours are estimated at 357,500. The hourly rates for machine time and direct labor are $28 and $36, respectively. The company applies a material-handling charge at 10 percent of material cost. This material-handling charge is not included in variable manufacturing overhead. Total 20x1 expenditures for direct material are budgeted at $25,740,000.

Andrew Fulton, Manchester’s controller, believes that before the management group proceeds with the discussion about allocating sales and promotional dollars to individual products, it might be worthwhile to look at these products on the basis of the activities involved in their production. Fulton has prepared the following schedule to help the management group understand this concept.

“Using this information,” Fulton explained, “we can calculate an activity-based cost for each TV board and each PC board and then compare it to the standard cost we have been using. The only cost that remains the same for both cost methods is the cost of direct material. The cost drivers will replace the direct labor, machine time, and overhead costs in the old standard cost figures.”

  

Budgeted Cost				Cost Driver	Budgeted Annual Activity for Cost Driver
Procurement	$	950,000		Number of parts		8,750,500	parts
Production scheduling		515,000		Number of boards		148,500	boards
Packaging and shipping		1,030,000		Number of boards		148,500	boards
Total	$	2,495,000
Machine setup	$	952,000		Number of setups		803,000	setups
Hazardous waste disposal		126,000		Pounds of waste		30,360	pounds
Quality control		1,210,000		Number of inspections		209,000	inspections
General supplies		177,000		Number of boards		148,500	boards
Total	$	2,465,000
Machine insertion	$	3,150,000		Number of parts		5,878,000	parts
Manual insertion		9,500,000		Number of parts		2,364,000	parts
Wave-soldering		339,000		Number of boards		148,500	boards
Total	$	12,989,000

  

Required per Unit	PC Board			TV Board
Parts:		85			41
Machine insertions		51			40
Manual insertions		34			1
Machine setups		6			5
Hazardous waste disposal, in lb.		.40			.07
Inspections		2			1

  

Required:

1. Identify at least four general advantages associated with activity-based costing.

2. On the basis of Manchester’s unit cost data given in the problem, calculate the total amount that each of the two product lines will contribute toward covering fixed costs and profit in 20x1.

3. Using activity-based costing, calculate the total amount that each of the two product lines will contribute toward covering fixed costs and profit in 20x1.

Answer 1

1	Identify at least four general advantages associated with activity-based costing
	The proper allocation of costs based on activity helps in proper pricing policy
	It helps the management in taking quality decision based on the activities of each product
	Activity based costing helps the company to reduce the costs by providing information on opportunities were cost can be reduced
	With the help of activity based costing the company can identify the value added and non value added activity and eliminate the non value added activity
2	On the basis of Manchester’s unit cost data given in the problem, calculate the total amount that each of the two product lines will contribute toward covering fixed costs and profit in 20x1.
	Using the unit cost data, total contribution margin expected from PC board is calculated as below
								Total Cost for
						Per Unit		55000
			Revenue			$775		$42,625,000
			Direct Material			244		$13,420,000
			Material Handling charge (10% of material costs)			24.4		$1,342,000
			Direct Labor (3*36)			108		$5,940,000
			Variable overhead (2465000/357500)*3			20.685315		$1,137,692
			Machine Time (28*1)			28		$1,540,000
			Total Cost			$425		$23,379,692
			Unit Contribution Margin			$349.9147
			Total Contribution Margin (349.91*55000)					$19,245,307.69
	Total Contribution margin from TV board is as follows
								Total Cost for
						Per Unit		80000
			Revenue			$460		$25,300,000
			Direct Material			154		$8,470,000
			Material Handling charge (10% of material costs)			15.4		$847,000
			Direct Labor (2*36)			72		$3,960,000
			Variable overhead (2465000/357500)*2			13.79021		$758,462
			Machine Time (28*0.5)			14		$770,000
			Total Cost			$269		$14,805,462
			Unit Contribution Margin			$190.8098
			Total Contribution Margin (349.91*55000)					$15,264,783.22
3	Using activity-based costing, calculate the total amount that each of the two product lines will contribute toward covering fixed costs and profit in 20x1.
	Now we would calculate pool rates for each of the activity
		Activity		Budgeted Cost		Annual Activity for cost driver		Pool Rates
		Procurement		950,000		8750500		0.11	per parts
		Production scheduling		515,000		148500		3.47	Per Board
		Packaging and shipping		1,030,000		148500		6.94	Per Board
		Machine setup		952,000		803000		1.19	per setups
		Hazardous waste disposal		126,000		30360		4.15	per pound
		Quality control		1,210,000		209000		5.79	per inspections
		General supplies		177,000		148500		1.19	Per Board
		Machine insertion		3,150,000		5878000		0.54	per parts
		Manual insertion		9,500,000		2364000		4.02	per parts
		Wave-soldering		339,000		148500		2.28	Per Board
	Using activity based costing, the total contribution margin for PC board would be
							Total Cost for
					Per Unit		55000
		Revenue			$775		$42,625,000
		Direct Material			244		$13,420,000
		Procurement	0.108565	85	9.23		$507,542
		Production scheduling	3.468013		3.47		$190,741
		Packaging and shipping	6.936027		6.94		$381,481
		Machine setup	1.185554	6	7.11		$391,233
		Hazardous waste disposal	4.150198	0.4	1.66		$91,304
		Quality control	5.789474	2	11.58		$636,842
		General supplies	1.191919		1.19		$65,556
		Machine insertion	0.535897	51	27.33		$1,503,190
		Manual insertion	4.018613	34	136.63		$7,514,805
		Wave-soldering	2.282828		2.28		$125,556
		Total Cost			451.42		24828250.36
		Unit Contribution Margin			$323.58
		Total Contribution Margin					$17,796,749.64
	Using activity based costing, the total contribution margin for TV board would be
							Total Cost for
					Per Unit		80000
		Revenue			$460		$36,800,000
		Direct Material			244		$13,420,000
		Procurement	0.108565	41	4.45		$244,815
		Production scheduling	3.468013		3.47		$190,741
		Packaging and shipping	6.936027		6.94		$381,481
		Machine setup	1.185554	5	5.93		$326,027
		Hazardous waste disposal	4.150198	0.07	0.29		$15,978
		Quality control	5.789474	1	5.79		$318,421
		General supplies	1.191919		1.19		$65,556
		Machine insertion	0.535897	40	21.44		$1,178,972
		Manual insertion	4.018613	1	4.02		$221,024
		Wave-soldering	2.282828		2.28		$125,556
		Total Cost			299.79		16488570.75
		Unit Contribution Margin			$160.21
		Total Contribution Margin					$12,816,624.36