Question

Star Computer is manufacturing computer in a local market. Because of the competitiveness of the market, the CEO wants to begin by considering about the pricing of the computers to ensure that selling expensive products at the wrong price is not compromising profit margins.

The computers are individually specified by customers for each order and pricing has been on a production cost plus a mark-up of 45%. At present the company uses an absorption costing system based on labor hours in order to calculate the production cost per unit.

Data for the year ended 30 September 2019

Volume (units) 23,800

Direct variable costs
Material 40,650

Labor 3,879

Packaging and Transport 2,118

Sub-total 46,647

Overhead costs

Customer service 7,735

Purchasing and receiving 2,451

Inventory management 1,467

Administration of production. 2,537

Total. 60,837
Labor time per unit 3 hours

Data collected for the year:
No. of minutes on calls to customer 899,600

No. of purchase orders raised. 21,400

No. of components used in production. 618,800

Order #345

Units ordered. 16 units

Direct costs for this order

Material 27,328

Labor 2,608
Packaging and Transport 1,424

Other activities relating to this order

No. of minutes on calls to customer 1104
No. of purchase orders raised. 64
No. of components used in production 512
Administration of production (Absorbed as general overhead). 3 labor hours per unit

Required:

1. (a) A comparison of the selling prices using the current absorption costing method against an Activity Based Costing (ABC) method. You should provide illustrative calculations using the information provided on costs for 2019 and Order #345.

2. (b) Suggest the method of costing the product that you consider is more appropriate and explain why.

Answer 1

Answer is given below with working