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Activity-Based Costing and Product Cost Distortion

Digital Storage Concept Inc. is considering a change to activity-based product costing. The company produces two products, cell phones and tablet PCs, in a single production department. The production department is estimated to require 4,000 direct labor hours. The total indirect labor is budgeted to be $386,400.

Time records from indirect labor employees revealed that they spent 40% of their time setting up production runs and 60% of their time supporting actual production.

The following information about cell phones and tablet PCs was determined from the corporate records:

		Number of Setups			Direct Labor Hours			Units
Cell phones			500			2,000			84,000
Tablet PCs			1,100			2,000			84,000
	Total		1,600			4,000			168,000

If required, round your answers to the nearest cent.

a. Determine the indirect labor cost per unit allocated to cell phones and tablet PCs under a single plantwide factory overhead rate system using the direct labor hours as the allocation base.

Cell phones	$ per unit
Tablet PCs	$ per unit

b. Determine the budgeted activity costs and activity rates for the indirect labor under activity-based costing. Assume two activities—one for setup and the other for production support.

	Budgeted Activity Cost	Activity Rate
Setup	$	$	per setup
Production support	$	$	per direct labor hour

c. Determine the activity cost per unit for indirect labor allocated to each product under activity-based costing.

Cell phones	$ per unit
Tablet PCs	$ per unit

d. Why are the per-unit allocated costs in (a) different from the per-unit activity cost assigned to the products in (c)?

The per-unit indirect labor costs in (a) are distorted because is consumed by the products in a different ratio from the direct labor. The costing method results in the product with the number of setups receiving a larger portion of the setup activity cost. The allocates overhead only on the basis of direct labor hours. Since the direct labor hours equal for each product, the allocated indirect labor will also equal.

Answer 1

Req a.
Pre-determined OH rate: Estimated overheads / DLH
		($ 386,400 / 4,000 DLH) = $ 96.60 per DLH
Overheads cost per unit:
	DLH	OH rate	OH assigned		UNIts	OH cost per UNIT
Cell phone	2000	96.6	193200		84000	2.3
Tablet	2000	96.6	193200		84000	2.3
Req b:
Activity	Cost	Activity measures		Activity rate
Setup	154560	1600	Setups	96.6	per setup
Support	231840	4000	DLH	57.96	per DLH
Req c:
		CELL PHONE		TABLET
Activity	Rate	Activity	Amount	Activity	Amount
Setup	96.6	500	48300	1100	106260
Ssupport	57.96	2000	115920	2000	115920
	Total OH		164220		222180
	Number of units		84000		84000
	OH cost per unit		1.955		2.645
		OH cost per unt
Cell phone		1.955
Tablet		2.645

Req d:

The perunit indirect cost in ABC costing are distorted because activity cost is consumed in product in a differnt rtio from the direct labour. The ABC costing method results in a product with the number of setups receciving a larger portion of setup activity cost. Th Traditional costing allocates overheads only on the basis of direct labour horus. Since the direct labur hours are equal for each poduct, theh allocated indirrect labour will also be equal.