Question

Vines Ltd produces custom machine parts on a job order basis. The company has two direct product cost categories: direct materials and direct labour. In the past, indirect manufacturing costs were allocated to products using a single indirect cost pool, allocated based on direct labour hours. The indirect cost rate was $115 per direct labour hour.

The managers of Vines Ltd decided to switch from a manual system to software programs that release materials and signal machines when to begin working. Simultaneously, the company adopted an activity-based costing system. The manufacturing process has been organised into six activities, each with its own supervisor who is responsible for controlling costs. The following list indicates the activities, cost drivers, and cost allocation rates.

Activity	Cost driver	Cost per unit of cost driver
Materials handling	Number of parts	$0.40
Milling	Machine hours	$20.00
Grinding	Number of parts	$0.80
Assembly	Hours spent in assembly	$5.00
Inspection	Number of units produced	$25.00
Shipping	Number of orders shipped	$1500.00

The company’s information system automatically collects the necessary data for these six activity areas. The data for two recent jobs follow:

	Job order 410	Job order 411
Direct materials cost	$9,700	$59,900
Direct labour cost	$750	$11,250
Number of direct labour hours	25	375
Number of parts	500	2000
Number of machine hours	150	1050
Number of job orders shipped	1	1
Number of units	10	200
Number of hours in assembly	2	30

Required

(a)     Suppose the company had not adopted an ABC system. Compute the manufacturing cost per unit for job orders 410 and 411 under the old, conventional costing system.

(b)     Under the new ABC system, calculate the manufacturing cost per unit for job orders 410 and 411.

(c)     Compare the costs per unit for job orders 410 and 411 as calculated. Explain why the cost per unit under the conventional costing system is different from cost per unit under the ABC system.

(d)     Explain why uncertainties may arise about the choice of cost drivers for each activity.

(e)     Identify and explain to Vine Ltd’s managers the possible advantages and disadvantages of adopting the ABC system.

Answer 1

First for Sub-questions will be answered :

	PART A -Unit product cost - CONVENTIONAL COSTING
		Job order 410	Job order 411
	Volume	10	200
	Direct material	$            9,700.00	$    59,900.00
	Direct Labor	$               750.00	$    11,250.00
	Manufacturing overhead ($115 per labor hour)	$            2,875.00	$    43,125.00
	Total Cost	$         13,325.00	$ 114,275.00
	Number of unit	10.00	200.00
	Unit product cost	$            1,332.50	$          571.38

	PART B - Unit product cost - ABC Coasting
		Cost per unit of cost driver	Total	Job order 410	Job order 411
	Direct material		$    69,600.00	$      9,700.00	$    59,900.00
	Direct Labor		$    12,000.00	$          750.00	$    11,250.00
	Material Handling	$0.40	$      1,000.00	$          200.00	$          800.00
	Milling	$20.00	$    24,000.00	$      3,000.00	$    21,000.00
	Grinding	$0.80	$      2,000.00	$          400.00	$      1,600.00
	Assembly	$5.00	$          160.00	$            10.00	$          150.00
	Inspection	$25.00	$      5,250.00	$          250.00	$      5,000.00
	Shipping	$1,500.00	$      3,000.00	$      1,500.00	$      1,500.00
	Total Cost		$ 117,010.00	$    15,810.00	$ 101,200.00
	Number of unit			10.00	200.00
	Unit product cost			$      1,581.00	$          506.00

PART C

	COST PER UNIT	CONVENTIONAL COSTING	ABC COSTING
	Job order 410	$             1,332.50	$      1,581.00
	Job order 411	$                 571.38	$          506.00

The cost per unit under the conventional costing system is different from cost per nit under ABC costing. This is because under conventional coasting total manufacturing overheads are appropriated soley on the basis of labor hours where as in ABC Costing manufacturing overheads are allocated based on various cost drivers identified by the organization.

PART D

Identification of cost drivers can be a difficult and complex process. Identification of the best cost driver needs a lot of effort. The most appropriate cost driver generally becomes expensive to measure. In case, any of the activities are changed or altered, the drivers have to be measured again.