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Chapter 19: Q1DC_3 (page 1085)

Harris Systems specializes in servers for workgroup, e-commerce, and ERP applications. The company’s original job costing system has two direct cost categories: direct materials and direct labor. Overhead is allocated to jobs at the single rate of \(22 per direct labor hour.

A task force headed by Harris’s CFO recently designed an ABC system with four activities. The ABC system retains the current system’s two direct cost categories. Overhead costs are reflected in the four activities. Pertinent data follow:

___________________________________________________________________

Activity Allocation Base Predetermined Overhead

Allocation Rate____

Materials handling Number of parts \) 0.85

Machine setup Number of setups 500.00

Assembling Number of assembling hours 80.00

Shipping Number of shipments 1,500.00_______

Harris Systems has been awarded two new contracts, which will be produced as Job A and Job B. Budget data relating to the contracts follow:

____________________________________________________________

Job A Job B__

Number of parts 15,000 2,000

Number of setups 6 4

Number of assembling hours 1,500 200

Number of shipments 1 1

Total direct labor hours 8,000 600

Number of units produced 100 10

Direct materials cost \( 220,000 \) 30,000

Direct labor cost \( 160,000 \) 12,000__

Requirements

3. Which costing system more accurately assigns to jobs the costs of the resources consumed to produce them? Explain.

Short Answer

Expert verified

Activity-based costing more accurately allocate cost to a Job due to using the activity as the basis for allocating indirect cost.

Step by step solution

01

Step-by-Step-SolutionStep 1: Comparison of Budgeted cost under both the methods

Job A

Job B

Single Base Allocation Method

Total Budgeted Cost

$556,000

$393,200

Budgeted Cost per unit

$5,560

$39,320

Activity-Based Allocation Method

Total Budgeted Cost

$517,250

$63,200

Budgeted Cost per unit

$517.25

$6,320

02

Interpretation

Under the single base allocation method, the difference between the total budgeted costs for both the job has lower than in the activity-based allocation method. The reason for being is that the indirect cost has been computed based on the total labor hour in the first case.

The labor hour only is not the appropriate base for the allocation of direct cost. This is so because the overhead is incurred due to lots of manufacturing activities that are not directly related to production. The labor hour is the main activity for any production process but at the same time, all other indirect activities may not be involved in the production process as labor.

So if indirect cost is allocated or computed on the basis of labor hours it would cost more for the product or job that has very less amount of indirect activity.

In the given case, indirect activity is comparatively low for Job B. So when the indirect cost is allocated based on activity method it is apportioned fairly. But when labor hour is used for allocation then the Job having lower indirect activity is also allocated more cost due to labor hour activity.

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Most popular questions from this chapter

What is the purpose of quality management systems?

Martin, Inc. manufactures bookcases and uses an activity-based costing system. Martin’s activity areas and related data follow:

Activity

Budgeted Cost of Activity

Allocation Base

Predetermined Overhead Allocation Rate

Materials handling

\( 230,000

Number of parts

\)1.50

Assembly

3,200,000

Number of assembling direct labor hours

16.00

Finishing

150,000

Number of finished units*

3.00

*Refers to the number of units receiving the finishing activity, not the number of units transferred to Finished Goods Inventory

Martin produced two styles of bookcases in April: the standard bookcase and an unfinished bookcase, which has fewer parts and requires no finishing. The totals for quantities, direct materials costs, and other data follow:

Product

Total Units Produced

Total Direct materials Costs

Total Direct Labor Costs

Total Number of Parts

Total Assembling Direct Labor Hours

Standard bookcase

3,000

\(54,000

\)67,500

9,000

4,500

Unfinished bookcase

3,500

56,000

52,500

7,000

3,500

Requirements

3. Which product costs are reported in the external financial statements? Which costs are used for management decision making? Explain the difference.

Stegall, Inc. manufactures motor scooters. For each of the following examples of quality costs, indicate which of the following quality cost categories each example represents: prevention costs, appraisal costs, internal failure costs, or external failure costs.

1. Preventive maintenance on machinery

2. Direct materials, direct labor, and manufacturing overhead incurred to rework a defective scooter that is detected in-house through inspection

3. Lost profits from lost sales if the company’s reputation is hurt because customers previously purchased a poor-quality scooter

4. Cost of inspecting raw materials, such as chassis and wheels

5. Working with suppliers to achieve on-time delivery of defect-free raw materials

6. Cost of warranty repairs on a scooter that malfunctions at a customer’s location

7. Costs of testing durability of vinyl

8. Cost to reinspect reworked scooters


Darrel & Co. makes electronic components. Chris Darrel, the president, recently instructed Vice President Jim Bruegger to develop a total quality control program. “If we don’t at least match the quality improvements our competitors are making,” he told Bruegger, “we’ll soon be out of business.” Bruegger began by listing various “costs of quality” that Darrel incurs. The first six items that came to mind were:

a. Costs incurred by Darrel customer representatives traveling to customer sites to repair defective products, \(13,000.

b. Lost profits from lost sales due to reputation for less-than-perfect products, \)35,000.

c. Costs of inspecting components in one of Darrel’s production processes, \(40,000.

d. Salaries of engineers who are redesigning components to withstand electrical overloads, \)65,000.

e. Costs of reworking defective components after discovery by company inspectors, \(50,000.

f. Costs of electronic components returned by customers, \)70,000.

Classify each item as a prevention cost, an appraisal cost, an internal failure cost, or an external failure cost. Then determine the total cost of quality by category.

Harcourt Pharmaceuticals manufactures an over-the-counter allergy medication. The company sells both large commercial containers of 1,000 capsules to health care facilities and travel packs of 20 capsules to shops in airports, train stations, and hotels. The following information has been developed to determine if an activity-based costing system would be beneficial:

Activity Estimated Estimated Quantity

Indirect Cost Allocation Base of Allocation Base

Materials handling \( 96,000 Number of kilos 24,000 kilos

Packaging 210,000 Number of machine hours 3,000 hours

Quality assurance 114,000 Number of samples 1,900 samples

Total indirect costs \) 420,000

Other production information includes the following:

Commercial Containers Travel Packs

Units produced 2,800 containers 51,000 packs

Weight in kilos 9,800 5,100

Machine hours 1,960 510

Number of samples 560 765

Requirements

3. Use the predetermined overhead allocation rates to compute the activity-based costs per unit of the commercial containers and the travel packs. Round to two decimal places. (Hint: First compute the total activity-based costs allocated to each product line, and then compute the cost per unit.)
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