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 below:

Hi-Tek Manufacturing Inc. Income Statement

Sales $ 1,655,800

Cost of goods sold 1,226,892

Gross margin 428,908

Selling and administrative expenses 570,000

Net operating loss $ (141,092)

Hi-Tek produced and sold 60,200 units of B300 at a price of $19 per unit and 12,800 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       $ 400,400             $ 162,000                   $ 562,400

            Direct labor     $ 120,100           $ 42,100                       162,200

Manufacturing overhead                                                               502,292

Cost of goods sold                                                                    $ 1,226,892

The company has created an activity-based costing system to evaluate the profitability of its products. Hi-Tek’s ABC implementation team concluded that $58,000 and $108,000 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 Activity Activity Cost Pool (and Activity Measure)

                          Overhead        B300          T500            Total Machining (machine-hours)

                             $ 202,752         90,700      62,900           153,600

Setups (setup hours) 136,740           78            240          318

Product-sustaining (number of products)

                                 102,000                1            1              2

Other (organization-sustaining costs)

                              60,800                NA                 NA         NA

Total manufacturing overhead cost $ 502,292

1. Compute the product margins for the B300 and T500 under the company’s traditional costing system. (Round your intermediate calculations to 2 decimal places and final answer to the nearest whole dollars.)

2. Compute the product margins for B300 and T500 under the activity-based costing system. (Negative product margins should be indicated by a minus sign. Round your intermediate calculations to 2 decimal places.)

Answer 1

Solution:

Part 1 – Product Margin

Traditional Costing System or Absorption Costing System

Under traditional costing system, a predetermined overhead rate is used to allocate the manufacturing overhead costs to the product. Predetermined Overhead Rate is the estimated overhead rate calculated by estimating the total overhead for the period and suitable allocation base. Allocation base may be direct labor hour, direct labor cost or machine hours.

Total Estimated Manufacturing Overhead = $502,292

Total Estimated Direct Labor Hours = $162,200

Predetermined Overhead Rate = Total Estimated Manufacturing OH $502,292 / Total Estimated Direct Labor Dollars $162,200

= $3.10 per direct labor dollar

Product Margin is the difference between selling price and product cost.

Product cost as per traditional costing system includes direct material cost , direct labor cost and manufacturing overhead.

Applied Manufacturing Overhead to B300 = Direct labor Cost $120,100 * Overhead Rate $3.10 = $372,310

Applied Manufacturing Overhead to T500 = Direct labor Cost $42,100 * Overhead Rate $3.10 = $130,510

Calculation of Product margin

	B300	T500
Units Sold	60,200	12,800
Unit Selling Price	$19	$40
Sales Value (Unit Sold x Unit Selling Price)	$1,143,800	$512,000
Product Cost
Direct Material Cost	$400,400	$162,000
Direct labor	$120,100	$42,100
Applied Manufacturing Overhead (Refer Above working)	$372,310	$130,510
Total Product Cost	$892,810	$334,610
Product Margin (Sales Value - Product Cost)	$250,990	$177,390
/ Units Sold	60200	12800
Unit Product Margin	$4.17	$13.86

I think the question required Product Margin in total, so please put the value as per the requirement of question. I have provided you both the Product Margin i.e. Product Margin Total and Unit Product Margin

Part 2 --- Product Margin under activity based costing

Activity Based Costing System

- ABC is a costing method which identifies the activities in the organization and assigns the cost of each activity with resources to all the products or services according to the actual consumption of activity by the product or service.

- This system determines all the activities related to product or production process.

- This system calculates the cost of those activities which are related to product or production process and thereafter determine the cost of the product.

- In ABC costing the overhead costs are distributed to the product on the basis of benefit received from indirect activity.

- It helps to distribution of overheads on the basis of activities.

The Activity based overhead rate = Estimated Overheads related to the activity / Total Cost Driver per activity or Expected Total Activity)

First of all we will calculate Activity Rate per activity

Allocation of Overhead based on actual usage of activity by each product

						B300		T500
Activity Cost Pool	Expected Manufacturing Overhead Costs (A)	Expected Activity Cost Driver (B)		Activity Rate (C = A/B)		Activity Driver USAGE (H)	Overhead Assigned (C*H)	Activity Driver USAGE (E)	Overhead Assigned (C*E)
Machining	$202,752	153,600	Machine Hours	$1.32	per machine hour	90700	$119,724	62900	$83,028
Setups	$136,740	318	Setup Hours	$430.00	per setup hour	78	$33,540	240	$103,200
Product-sustaining	$102,000	2	Number of products	$51,000.00	per product	1	$51,000	1	$51,000
Other	$60,800
	$502,292						$204,264		$237,228

Calculation of Product Margin

	B300	T500
Units Sold	60,200	12,800
Unit Selling Price	$19	$40
Sales Value (Unit Sold x Unit Selling Price)	$1,143,800	$512,000
Product Cost
Direct Material Cost	$400,400	$162,000
Direct labor	$120,100	$42,100
Applied Manufacturing Overhead (Refer Above working)	$204,264	$237,228
Total Product Cost	$724,764	$441,328
Product Margin (Sales Value - Product Cost)	$419,036	$70,672
/ Units Sold	60200	12800
Unit Product Margin	$6.96	$5.52