Question

For many years, Thomson Company manufactured a single product called LEC 40. Then three years ago, the company automated a portion of its plant and at the same time introduced a second product called LEC 90 that has become increasingly popular. The LEC 90 is a more complex product, requiring 0.60 hours of direct labor time per unit to manufacture and extensive machining in the automated portion of the plant. The LEC 40 requires only 0.20 hours of direct labor time per unit and only a small amount of machining. Manufacturing overhead costs are currently assigned to products on the basis of direct labor-hours.

Despite the growing popularity of the company’s new LEC 90, profits have been declining steadily. Management is beginning to believe that there may be a problem with the company’s costing system. Direct material and direct labor costs per unit are as follows:

	LEC 40		LEC 90
Direct materials	$	25.00	$	44.00
Direct labor (0.20 hours and 0.60 hours @ $20.00 per hour)	$	4.00	$	12.00

Management estimates that the company will incur $1,024,000 in manufacturing overhead costs during the current year and 80,000 units of the LEC 40 and 40,000 units of the LEC 90 will be produced and sold.

2. Management is considering using activity-based costing to assign manufacturing overhead cost to products. The activity-based costing system would have the following four activity cost pools:

Activity Cost Pool	Activity Measure	Estimated Overhead Cost
Maintaining parts inventory	Number of part types	$	392,000
Processing purchase orders	Number of purchase orders		100,000
Quality control	Number of tests run		115,500
Machine-related	Machine-hours		416,500
		$	1,024,000

	Expected Activity
Activity Measure	LEC 40	LEC 90	Total
Number of part types	1,000	1,800	2,800
Number of purchase orders	1,400	600	2,000
Number of tests run	1,900	1,950	3,850
Machine-hours	4,000	6,000	10,000

Determine the activity rate for each of the four activity cost pools. (Round your answers to 2 decimal places.)

	Activity Cost Pool Activity Rate Maintaining inventory    per part type Processing purchase orders per order Quality control per test Machine-related per MH

Answer 1

Calculation of Activity rate for each of the four activity cost pools:

Activity Cost Pool	Activity Measure	Estimated Overhead Cost	Activity Rate
Maintaining parts inventory	2,800 part types	$392,000	$140 per part tyre
Processing purchase orders	2,000 purchase orders	$100,000	$50 per purchase order
Quality control	3,850 tests run	$115,500	$30 per test run
Machine-related	10,000 Machine-hours	$416,500	$41.65 per machine hour
Total Overheads		$1,024,000

Calculation of manufacturing overhead cost per unit of LEC 40 and LEC 90:

Activity Cost Pool	LEC 40	LEC 90
Maintaining parts inventory	$140,000 (1,000 x $140)	$252,000 (1,800 x $140)
Processing purchase orders	$70,000 (1,400 x $50)	$30,000 (600 x $50)
Quality control	$57,000 (1,900 x $30)	$58,500 (1,950 x $30)
Machine-related	$166,600 (4,000 x $41.65)	$249,900 (6,000 x $41.65)
Total manufacturing overhead cost	$433,600	$590,400
Number of units produced	80,000	40,000
Manufacturing overhead cost per unit	$5.42	$14.76

Calculation of total cost per unit of LEC 40 and LEC 90:

	LEC 40	LEC 90
Direct materials	$25	$44
Direct labor	$4	$12
Manufacturing overhead cost per unit	$5.42	$14.76
Total cost per unit	$34.42	$70.76