Question

Ramsey Company produces speakers (Model A and Model B). Both products pass through two producing departments. Model A's production is much more labor-intensive than that of Model B. Model B is also the more popular of the two speakers. The following data has been gathered for the two products: Product Data Model A Model B Units produced per year 10,000 100,000 Prime costs $150,000 $1,500,000 Direct labor hours 140,000 300,000 Machine hours 20,000 200,000 Production runs 40 60 Inspection hours 800 1,200 Maintenance hours 10,000 90,000 Overhead costs: Setup costs $270,000 Inspection costs 210,000 Machining

Ramsey Company produces speakers (Model A and Model B). Both products pass through two producing departments. Model A's production is much more labor-intensive than that of Model B. Model B is also the more popular of the two speakers. The following data has been gathered for the two products:

	Product Data
	Model A	Model B
Units produced per year	10,000	100,000
Prime costs	$150,000	$1,500,000
Direct labor hours	140,000	300,000
Machine hours	20,000	200,000
Production runs	40	60
Inspection hours	800	1,200
Maintenance hours	10,000	90,000
Overhead costs:
Setup costs	$270,000
Inspection costs	210,000
Machining	240,000
Maintenance	270,000
Total	$990,000

	Required:
1.	Compute the overhead cost per unit for each product by using a plantwide rate based on direct labor hours. (Round to two decimal places.)
2.	Compute the overhead cost per unit for each product by using ABC. (Round rates and unit overhead cost to two decimal places.)
3.	Suppose that Ramsey decides to use departmental overhead rates. There are two departments: Department 1 (machine intensive) with a rate of $3.50 per machine hour and Department 2 (labor intensive) with a rate of $0.90 per direct labor hour. The consumption of these two drivers is as follows:

	Department 1	Department 2
	Machine Hours	Direct Labor Hours
Model A	10,000	130,000
Model B	170,000	270,000

	Compute the overhead cost per unit for each product by using departmental rates. (Round to two decimal places.)
4.	CONCEPTUAL CONNECTION Using the activity-based product costs as the standard, comment on the ability of departmental rates to improve the accuracy of product costing. Did the departmental rates do better than the plantwide rate?

Answer 1

Requirement 1:

Overhead cost per unit

Model A = (140,000 * $2.25) / 10,000 units = $31.50 per unit

Model B = (300,000 * $2.25) / 100,000 units = $6.75 per unit

Working notes:

Plantwide overhead rate = Total Overhead cost / Total Direct labor hours

Total overhead costs = $990,000

Total direct labor hours = 140,000 + 300,000 = 440,000

Plantwide overhead rate = $990,000 / 440,000 direct labor hours = $2.25 per direct labor hour

Requirement 2:

Overhead cost per unit

Model A = $240,800 / 10,000 units = $24.08 per unit

Model B = $749,000 / 100,000 units = $7.49 per unit

Working notes:

Activity rate

Activity	Cost Pool	/	Cost Driver	=	Activity Rate
Setup Cost	$270,000	/	40 + 60 = 100	=	$2,700 per setup
Inspection cost	$210,000	/	800 + 1,200 = 2,000	=	$105 per inspection hour
Machining	$240,000	/	20,000 + 200,000 = 220,000	=	$1.09 per machine hour
Maintenance	$270,000	/	10,000 + 90,000 = 100,000	=	$2.70 per maintenance hour

Allocation of overhead cost

Model A

Activity	Cost Driver	x	Activity Rate	=	Overhead cost
Setup cost	40	x	$2,700	=	$108,000
Inspection cost	800	x	$105	=	$84,000
Machining	20,000	x	$1.09	=	$21,800
Maintenance	10,000	x	$2.70	=	$27,000
Overhead cost				=	$240,800

Model B

Activity	Cost Driver	x	Activity Rate	=	Overhead cost
Setup cost	60	x	$2,700	=	$162,000
Inspection cost	1,200	x	$105	=	$126,000
Machining	200,000	x	$1.09	=	$218,000
Maintenance	90,000	x	$2.70	=	$243,000
Overhead cost				=	$749,000

Requirement 3:

Overhead cost per unit

Model A

Department 1 (10,000 machine hours * $3.50 per machine hour)	$35,000
Department 2 (130,000 direct labor hours * $0.90 per direct labor hour)	$117,000
Total Overhead cost	$152,000

Overhead cost per unit = $152,000 / 10,000 Units = $15.20 per unit

Model B

Department 1 (170,000 machine hours * $3.50 per machine hour)	$595,000
Department 2 (270,000 direct labor hours * $0.90 per direct labor hour)	$243,000
Total Overhead cost	$838,000

Overhead cost per unit = $838,000 / 100,000 Units = $8.38 per unit

Requirement 4:

A common justification is that of using machine hours for machine intensive departments and labor hours for labor intensive departments. Using activity-based costs as the standard, we can say that departmental rates decreased accuracy of the overhead cost assignment (over the plantwide rate) for both products. Yes, departmental rates do better than the plantwide rate.

All the best...