Willow Company produces lawn mowers. One of its plants produces two versions of mowers: a basic model and a deluxe model. The deluxe model has a
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1 Illustration Problem 2: Production-Based Costing vs. Activity Based Costing Willow Company produces lawn mowers. One of its plants produces two versions of mowers: a basic model and a deluxe model. The deluxe model has a sturdier frame, a higher horsepower engine, a wider blade, and mulching capability. At the beginning of the year, the following data were prepared p for this plant:
2 Basic Model Deluxe Model Expected quantity 40,000 20,000 Selling price $180 $360 Pi Prime Costs $80 $160 Machine hours 5,000 5,000 Direct labor hours 10,000 10,000 Engineering i support (hours) 1,500 4,500 Receiving (orders processed) Material handling (number of moves) 2,000 4,000 Purchasing (number of requisitions) Maintenance (hours used) 1,000 3,000 Paying suppliers (invoices processed) Setting up equipment (number of setups) 20 60
3 Additionally, the following overhead activity costs are reported: Maintaining i i equipment $114,000 Engineering support 120,000 Material handling? Setting up equipment 96,000 Purchasing materials 60,000 Receiving gg goods 40,000 Paying suppliers 30,000 Providing space 20,000 TOTAL $?
4 Other Information: Facility-level costs are allocated in proportion to machine hours (provides a measure of time the facility is used by each product). Material handling uses three inputs: two forklifts, gasoline to operate the forklift, and three operators. The three operators are paid a salary of $40,000 each. The operators spend 25 percent of their time on the receiving activity and 75 percent on moving goods (material handling). Gasoline costs $3 per move. Depreciation amounts to $6,000 per forklift per year.
5 REQUIRED: 1. Calculate the cost of the material-handling activity. Label the cost assignments as driver tracing and direct tracing. Identify the resource drivers. 2. Calculate the cost per unit for each product using direct labor hours to assign all overhead costs. 3. Form homogeneous cost pools and calculate pool rates. Explain why you group activities into pools. 4. Using the pool rates computed in Requirement 2, calculate the cost per unit for each product. Compare these costs with those calculated using functional-based costing. Which cost is most accurate? Explain.
6 1. Calculate the cost of the material-handling activity. Label the cost assignments as driver tracing and direct tracing. Identify the resource drivers. Labor and gasoline are driver tracing: Labor: [3 people x $40,000 = $120,000] (0.75 x $120,000) = $ 90,000 Time = resource driver = DLH (direct labor hrs) Gasoline: ($3 x 6,000 moves)= 18,000 Moves = resource driver Depreciation: ($6,000 x 2 forklifts) = 12,000 Direct tracing Total Cost $120,000000
7 2. Calculate the cost per unit for each product using direct labor hours to assign all overhead costs. Plug in Material handling cost that was just figured to get total overhead activity costs: Maintaining equipment $114,000 Engineering support 120,000 Material handling 120, Setting up equipment 96,000 Purchasing materials 60,000 Receiving goods 40,000 Paying suppliers 30,000 Providing space 20,000 TOTAL $600,000
8 2. Calculate the cost per unit for each product using direct labor hours to assign all overhead costs. Plant-wide rate: (10,000 Basic DLH + 10,000 Deluxe DLH = 20,000 DLH) $600,000 / 20,000 DLH = $30 / DLH Unit Cost: Cost per Unit Basic Deluxe Prime Costs $80.00 $ Overhead: Basic: $30/DLH x 10,000 DLH = $300,000 $300,000 / 40,000 units = $7.50/unit 7.50 Deluxe: $30/DLH x 10,000 DLH = $300,000 $300,000 / 20,000 units = $15.00/unit Total $87.50 $175.00
9 3. Form homogeneous cost pools and calculate pool rates. Explain why you group activities into pools. STEP 1: LEVEL ACTIVITY DRIVER Unit Level: Batch Level: None Material Handling Setting Up Equip # Moves # Setups Product- Sustaining: Maintaining Equip Eng. Support Maint. Hrs. Used Eng. Support Hrs. Purchasing Mat. Receiving Goods Paying Suppliers # Requisitions # Rec. Orders # Invoices Facility Level: Providing Space Machine Hrs.
10 3. Form homogeneous cost pools and calculate pool rates. Explain why you group activities into pools. STEP 2: COST DRIVER: CONSUMPTION BASIC MODEL DELUXE MODEL POOL MEASURE # Moves # Setups B A 2000/6000 = /80 = /6000 = /80 = T C H Batch Level Costs: 2,000 moves for Basic / Total # moves 6,000 = ,000 moves for Deluxe / Total # moves 6,000 = 0.67
11 3. Form homogeneous cost pools and calculate pool rates. Explain why you group activities into pools. STEP 2: COST DRIVER: CONSUMPTION MEASURE Maint. hours used Eng. Support hours # Requisitions processed # Rec. orders processed # Invoices P S R U O S D T U A C I T N - I N G BASIC MODEL DELUXE MODEL POOL 1000/4000 = 0.25 R U 3000/4000 = /6000 = /6000 = /300 = /300 = /750 = /750 = /750 = /750 = Product-Sustaining Costs: 1,000 Maint. hrs. for Basic (3,000 for Deluxe) / 4,000 Total Maint. hrs. = 0.25 Basic (0.75 Deluxe) 1,500 Eng. Support hrs. for Basic (4,500 for Deluxe) / 6,000 Total hrs. = 0.25 Basic (0.75 Deluxe) 100 Requisitions Processed for Basic (200 for Deluxe) / 300 Total Req. = 0.33 Basic (O.67 Deluxe) 250 Rec. orders processed for Basic (500 for Deluxe ) / 750 Total orders = 0.33 Basic (0.67 Deluxe) 250 Invoices for Basic (500 for Deluxe ) / 750 Total Invoices = 0.33 Basic (0.67 Deluxe)
12 3. Form homogeneous cost pools and calculate pool rates. Explain why you group activities into pools. STEP 3: COST DRIVER: CONSUMPTION MEASURE Machine Hours F A C I L I T Y BASIC MODEL DELUXE MODEL POOL 5,000/10,000, = ,000/10,000, = A Facility Level Costs: 5,000 Machine hrs. for Basic (5,000 for Deluxe) / 10,000 Total Machine hrs. = 0.50 Basic (0.50 Deluxe)
13 3. Form homogeneous cost pools and calculate pool rates. Explain why you group activities into pools. STEP 3: COST DRIVER: CONSUMPTION BASIC MODEL DELUXE MODEL POOL MEASURE # Moves # Setups B A T C H P S Maint. hours used R U Eng. Support hours O S D T # Requisitions U A processed C I T N # Rec. orders processed - I # Invoices N Machine Hours F A C I L I T Y G 2000/6000 = /80 = /4000 = /6000 = /300 = /750 = /750 = /6000 = /80 = /4000 = /6000 = /300 = /750 = /750 = ,000/10,000 = ,000/10,000 =
14 3. Form homogeneous cost pools and calculate pool rates. Explain why you group activities into pools. STEP 4: Batch-Level Activities: Pool 1: Material Handling $120,000 Divide By # Moves / 6,000 (2,000 Basic + 4,000 Deluxe) Pool Rate $ Pool 2: Setting Up Equip $96,000 Divide By # of Setups / 80 (20 Basic + 60 Deluxe) Pool Rate $ 1,200
15 3. Form homogeneous cost pools and calculate pool rates. Explain why you group activities into pools. STEP 4 Product-Sustaining Level Activities: Pool 3: Maintenance $114,000 Engineering g 120,000 Total $234,000 Divide By Maint. Hrs / 4,000 (1,000 Basic + 3,000 Deluxe) Pool Rate $ Note: Engineering hours could also be used as a driver. The activities are grouped together because they have the same process, are both product level, and have the same consumption ratios (0.25 and 0.75). $234,000 / 6,000 Engineering hours = $39.00 Pool Rate
16 3. Form homogeneous cost pools and calculate pool rates. Explain why you group activities into pools. STEP 4: Product-Sustaining Level Activities: Pool 4: Purchasing $ 60,000 Receiving 40,000 Paying Suppliers 30, Total $130,000 Divide by # of Rec. Orders / 750 (250 Basic Deluxe) Pool Rate $
17 3. Form homogeneous cost pools and calculate pool rates. Explain why you group activities into pools. STEP 4: Facility Level Activities: Pool 5: Providing Space $20,000 Divide By Mach. Hrs. / 10,000 (5,000 Basic + 5,000 Deluxe) Pool Rate $ 2.00
18 4. Using the pool rates computed in Requirement 3, Calculate the cost per unit for each product. Unit Cost: Basic Deluxe Overhead: Pool 1: 2,000 x $20 (moves) 40,000 4,000 x $20 (moves) 80,000 Pool 2: 20 x $1,200 (setups) 24, x $1,200 (setups) 72,000
19 4. Using the pool rates computed in Requirement 3, Calculate the cost per unit for each product. Unit Cost: Basic Deluxe Overhead: Pool 3: 1,000 x $ (maint. hrs.) 58, ,000 x $58.50 (maint. hrs.) 175,500 Alt. Pool 3 w/ Eng. hrs.: 1,500 x $39 (eng. hrs.) 58,500 4,500 x $39 (eng. hrs.) 175,500 Pool 4: 250 x $ (rec. orders) 43, x $ (rec. orders) 86,665665
20 4. Using the pool rates computed in Requirement 3, Calculate the cost per unit for each product. Unit Cost: Basic Deluxe Overhead: Pool 5: 5,000 x $2 (mach. hrs.) 10, ,000 x $2 (mach. hrs.) 10,000 TOTAL: $ 175,833 $424,165 Divide By # Units Produced / 40,000 / 20,000 Unit Cost $ 4.40 $ Pi Prime Cost Total ABC Unit Cost $84.40 $181.21
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