Question

Hi-Tek Manufacturing, Inc., makes two types of industrial component parts—the B300 and the T500. An absorption costing income statement for the most recent period is shown:

Hi-Tek Manufacturing Inc. Income Statement
Sales	$	1,772,400
Cost of goods sold		1,252,199
Gross margin		520,201
Selling and administrative expenses		590,000
Net operating loss	$	(69,799	)

Hi-Tek produced and sold 60,400 units of B300 at a price of $21 per unit and 12,600 units of T500 at a price of $40 per unit. The company’s traditional cost system allocates manufacturing overhead to products using a plantwide overhead rate and direct labor dollars as the allocation base. Additional information relating to the company’s two product lines is shown below:

	B300		T500		Total
Direct materials	$	400,900	$	162,600	$	563,500
Direct labor	$	120,800	$	42,600		163,400
Manufacturing overhead						525,299
Cost of goods sold					$	1,252,199

The company has created an activity-based costing system to evaluate the profitability of its products. Hi-Tek’s ABC implementation team concluded that $57,000 and $100,000 of the company’s advertising expenses could be directly traced to B300 and T500, respectively. The remainder of the selling and administrative expenses was organization-sustaining in nature. The ABC team also distributed the company’s manufacturing overhead to four activities as shown below:

	Manufacturing Overhead			Activity
Activity Cost Pool (and Activity Measure)				B300	T500	Total
Machining (machine-hours)	$	212,809		90,800	62,300	153,100
Setups (setup hours)		151,290		79	290	369
Product-sustaining (number of products)		100,200		1	1	2
Other (organization-sustaining costs)		61,000		NA	NA	NA
Total manufacturing overhead cost	$	525,299

Required:

1. Compute the product margins for the B300 and T500 under the company’s traditional costing system.

2. Compute the product margins for B300 and T500 under the activity-based costing system.

3. Prepare a quantitative comparison of the traditional and activity-based cost assignments.

Answer 1

Solution 1:

Overhead Allocation - Traditional Costing System
Particulars	B300	T500	Total
Estimated annual Production (In units)	60400	12600
Direct Labor Cost	$120,800	$42,600	$163,400
Overhead Cost Allocation basis direct labour dollar (Overhead / Total direct labor dollar * Labor dollar of model)	$388,348	$136,951	$525,299
Manufacturing overhead cost per unit (Allocated Overhead / Nos of units)	$6.43	$10.87

Computation of Product Margin - Traditional Costing System
Particulars	B300	T500	Total
Sales (B300 - 60,400*$21, T500 - 12600*$40)	$1,268,400	$504,000	$1,772,400
Direct material	$400,900	$162,600	$563,500
Direct labor	$120,800	$42,600	$163,400
Manufacturing overhead	$388,348	$136,951	$525,299
Product Margin	$358,352	$161,849	$520,201

Solution 2:

Determination of activity rate for each activity & allocation of overhead
Activity	Estimated Overhead Cost	Activity Base	Usage of Activity Base	Activity Rate	B300		T500
					Usage	Allocated Costs	Usage	Allocated Costs
Machining	$212,809.00	Machine hours	153100	$1.39	90800	$126,212.00	62300	$86,597.00
Setups	$151,290.00	Setup hours	369	$410.00	79	$32,390.00	290	$118,900.00
Product sustaining	$100,200.00	Number of products	2	$50,100.00	1	$50,100.00	1	$50,100.00
Other	$61,000.00	No allocation
Total	$525,299.00					$208,702.00		$255,597.00

Computation of Product Margin - Activity based Costing System
Particulars	B300	T500	Total
Sales (B300 - 60,400*$21, T500 - 12600*$40)	$1,268,400	$504,000	$1,772,400
Direct material	$400,900	$162,600	$563,500
Direct labor	$120,800	$42,600	$163,400
Allocated Manufacturing overhead	$208,702.00	$255,597.00	$464,299
Product Margin	$537,998.00	$43,203.00	$581,201.00

Solution 3:

Quantity comparison of traditional cost assignment
Particulars	B300		T500		Total
	Amount	% of total Amount	Amount	% of total Amount	Amount	% of total Amount
Direct Material Cost	$400,900	44.1%	$162,600	47.5%	$563,500	45.0%
Direct Labor Cost	$120,800	13.3%	$42,600	12.5%	$163,400	13.0%
Manufacturing Overhead cost	$388,348	42.7%	$136,951	40.0%	$525,299	42.0%
Total	$910,048		$342,151		$1,252,199

Quantity comparison of Activity Based cost assignment
Particulars	B300		T500		Total
	Amount	% of total Amount	Amount	% of total Amount	Amount	% of total Amount
Direct Cost:
Material Cost	$400,900	50.9%	$162,600	29.0%	$563,500	41.8%
Labor Cost	$120,800	15.3%	$42,600	7.6%	$163,400	12.1%
Advertising Expense	$57,000.00	7.2%	$100,000.00	17.8%	$157,000	11.6%
Indirect Cost:
Machining	$126,212	16.0%	$86,597	15.4%	$212,809	15.8%
Setups	$32,390	4.1%	$118,900	21.2%	$151,290	11.2%
Product sustaining	$50,100	6.4%	$50,100	8.9%	$100,200	7.4%
Total Cost Assigned to Products	$787,402		$560,797		$1,348,199
Cost not assigned to products					$61,000
Total Cost					$1,409,199