Question

INDIANA CORPORATION

…… is a bakery that is known for its strawberry cheesecake. It also makes 12 different kinds of cheesecake as well as many other types of bakery items. The company uses normal costing with direct-labor dollars as their base for allocating overhead to its various bakery products.

The company estimates overhead for the upcoming year of $421,000 and estimates direct labor of $2,000,000.

The following estimated information is available for their Strawberry Cheesecake product:

Annual production	17,500 units
Direct materials per unit	$6
Direct labor per unit	$2

Required:

1. Compute the predetermined rate (overhead per dollar of labor) – Round this to TWO decimal places

2. Determine the amount of estimated overhead applied to one unit of strawberry cheesecake (one cake) AND the estimated amount of overhead to be applied to that product line for the year

3. What is the total estimated unit cost of the strawberry cheesecake?

NOW consider the following additional information about the estimated overhead of $421,000. You have analyzed this amount, and determined that the following breakdown and have identified appropriate activities that appear to cause, or drive these costs, as follows:

Overhead Cost Proposed Driver Materials ordering $ 72,000 Number of purchase orders Materials inspection 75,000 Number of receiving reports Equipment setup 105,000 Number of setups Quality control 69,000 Number of inspections Other 100,000 Direct labor cost Total manufacturing overhead $421,000 (estimated)

ASSUME that the following amounts of various cost drivers will be used for all products and for the Strawberry Cheesecake product:

Activity All Products Strawberry Cheesecake Materials ordering 8,000 orders 100 Materials inspection 375 receiving reports 60 Equipment setup 3,000 setups 30 Quality control 3,000 inspections 150 Other $2,000,000 direct labor $35,000

	Briefly explain the process which the company went through in order to arrive at the overhead information AND activity/driver information provided immediately above. Given this additional information, do you still like the unit costs and estimated product costs for the year that you computed in #2 and #3 above? If not, explain WHY. Does the cost assignment above reflect the actual consumption of resources by the Strawberry Cheesecake product? Using ACTIVITY BASED COSTING and the information above. What new unit cost and estimated product cost would you propose management use? WHY is this preferable? Was the Strawberry Cheesecake mis-costed by using the “peanut butter costing” approach? If so, was it under- or over-costed AND by how much per unit? Using the original allocation base of direct labor hours, what percentage of the overhead costs were being assigned to the Strawberry Cheesecake? Compute the consumption rates of Strawberry Cheesecake for the activities indicated. What area or areas appear to be the “problem areas” in terms of product costing? Explain WHY, in plain English, your answer came out the way it did. WHY did ABC provide a better allocation in this case?

Answer 1