Chapter 5 - Solution Cases

Chapter 05 - Activity-Based Costing and Management
CHAPTER 5 Activity-Based Costing and Management

ANSWERS TO REVIEW QUESTIONS
5-1 In a traditional, volume-based product-costing system, only a single predetermined overhead rate is used. All manufacturing-overhead costs are combined into one cost pool, and they are applied to products on the basis of a single cost driver that is closely related to production volume. The most frequently used cost drivers in traditional product-costing systems are direct-labor hours, direct-labor dollars, machine hours, and units of production. anagement !as being misled by the traditional product-costing system, because the high-volume product lines !ere being overcosted and the lo!-volume product line !as being undercosted. The high-volume products essentially !ere subsidi"ing the lo!-volume line. The traditional product-costing system failed to sho! that the lo!-volume products !ere driving more than their share of overhead costs. As a result of these misleading costs, the company#s management !as mispricing its products. An activity-based costing system is a t!o-stage process of assigning costs to products. In stage one, activity-cost pools are established. In stage t!o a cost driver is identified for each activity-cost pool. Then the costs in each pool are assigned to each product line in proportion to the amount of the cost driver consumed by each product line. A cost driver is a characteristic of an event or activity that results in the incurrence of costs by that event or activity. In activity-based costing systems, the most significant cost drivers are identified. Then a database is created that sho!s ho! these cost drivers are distributed across products. This database is used to assign costs to the various products depending on the e&tent to !hich they use each cost driver. The four broad categories of activities identified in an activity-based costing system are as follo!s' (a) (b) (c) *nit-level activities' ust be done for each unit of production. +atch-level activities' ust be performed for each batch of products. ,roduct-sustaining activities' -eeded to support an entire product line.
5-2
5-$
5-%
5-5
5-1
(d) 5-0
.acility-level (or general-operations-level) activities' /equired for the entire production process to occur.
An activity-based costing system alleviated the problems management !as having under its traditional, volume-based product-costing system by more accurately assigning costs to products. ,roducts !ere assigned costs based on the e&tent to !hich they used various cost drivers that !ere determined to be closely related to the incurrence of a variety of overhead costs. ,roduct-costing systems based on a single, volume-based cost driver tend to overcost high-volume products, because all overhead costs are combined into one pool and distributed across all products on the basis of only one cost driver. This simple averaging process fails to recogni"e the fact that a disproportionate amount of costs often is associated !ith lo!-volume or comple& products. The result is that lo!-volume products are assigned less than their share of manufacturing costs, and high-volume products are assigned more than their share of the costs. In traditional, volume-based costing systems, only direct material and direct labor are considered direct costs. In contrast, under an activity-based costing system, an effort is made to account for as many costs as possible as direct costs of production. Any cost that can possibly be traced to a particular product line is treated as a direct cost of that product. The pool rate is calculated by dividing the budgeted amount of an activity cost pool by the budgeted total quantity of the associated cost driver. The pool rate is the cost of a particular activity that is e&pected per unit of the associated cost driver. T!o factors that tend to result in product cost distortion under traditional, volumebased product-costing systems are as follo!s' (a) -on-unit level overhead costs' any overhead costs vary !ith cost drivers that are not unit-level activities. *se of a unit-level cost driver to assign such costs tends to result in cost distortion. (b) ,roduct diversity' 5hen a manufacturer produces a diverse set of products, !hich e&hibit different consumption ratios for overhead activities, use of a single cost driver to assign costs results in cost distortion.
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5-2
5-3
5-14
5-11
Three important factors in selecting cost drivers for an A+6 system are as follo!s' (a) Degree of correlation bet!een consumption of an activity and consumption of the cost driver. (b) Cost of measurement of the cost driver.
5-2
(c) Behavioral effects, that is, ho! the cost driver selected !ill affect the behavior of the individuals involved in the activity related to the cost driver. 5-12 An activity dictionary lists all of the activities identified and used in an activity-based costing analysis. The activity dictionary provides for consistency in the terminology and level of comple&ity in the A+6 analysis in the organi"ation7s various subunits. 8ine managers are close to the production process and may reali"e that a comple& product, !hich is difficult to manufacture, is undercosted by a traditional, volumebased costing system. +ecause of the cost distortion that is common in such systems, the undercosted product may appear to be profitable !hen it is really losing money. 8ine managers may have a 9gut feeling9 for this situation, even if the cost-accounting system suggests other!ise. :iverse products typically consume support activities (such as purchasing, material handling, engineering, and inspection) in differing degrees. 5hen there are significant differences among product lines in the !ays that they consume support services (and thereby cause overhead costs), a traditional, volume-based costing system may distort product costs. ;ome products are overcosted< others are undercosted. An A+6 system can eliminate (or at least alleviate) such cost distortion. Activity-based costing is =ust as appropriate in the service industry as in the manufacturing industry. >ust as in manufacturing firms, diverse services typically consume support activities in varying degrees. A+6 systems are more accurate in trac?ing the usage of these support activities to the services (products) that are produced than are traditional, volume-based costing systems. As indicated in the chapter, ,ennsylvania +lue ;hield, li?e many manufacturers, classifies activities as unit level, batch level, product-sustaining level, or facility level. aintenance of the medical-services provider net!or? (i.e., the physicians and hospitals that provide medical care to claimants) is a product-sustaining-level activity because it benefits an entire product line (service line, in this case) of personal health insurance policies. anagement could use the A+6 information about the cost of various types of patient appointments for determining charges for appointments, ma?ing appointment staffing decisions (e.g., physician versus nurse practitioner), and =ustifying reimbursements from insurance companies or government agencies.
5-1$
5-1%
5-15
5-10
5-11
5-3
5-12
At ,atio @rill 6ompany, every unit of each product line manufactured requires all eight of the support activities covered by the A+6 system. In contrast, at :ela!are edical 6enter, each patient sees a physician, or a nurse practitioner, or an intern, or a resident. oreover, each patient is either a ne! patient or a continuing patient, but not both. Therefore, in determining the cost a patient appointment, the cost analyst !ould include only the relevant activity costs in the cost of a patient appointment. The t!o-dimensional activity-based costing model provides one !ay of picturing the relationship bet!een A+6 and A+ . The vertical dimension of the model depicts the cost assignment vie! of an A+6 system. .rom the cost assignment viewpoint, the A+6 system uses t!o-stage cost allocation to assign the costs of resources to the firm#s cost ob=ects. These cost ob=ects could be products manufactured, services produced, or customers served. :epicted in the hori"ontal dimension of the model that follo!s is the process view of an A+6 system. The emphasis no! is on the activities themselves, the processes by !hich !or? is accomplished in the organi"ation. The left-hand side of the model depicts activity analysis, !hich is the detailed identification and description of the activities conducted in the enterprise. Activity analysis entails the identification not only of the activities, but also of their root causes, the events that trigger activities, and the linkages among activities. The right-hand side of the model depicts the evaluation of activities through performance measures. These processes of activity analysis and evaluation constitute activity-based management. The t!o-dimensional A+6 model is depicted in the diagram on the ne&t page. Activity analysis is the detailed identification and description of the activities conducted in an enterprise. Activity analysis entails the identification not only of activities, but also of their root causes, of the events that trigger them, and of the lin?ages among them. Three criteria for determining !hether an activity adds value are as follo!s' (a) Is the activity necessaryA (b) Is the activity efficiently performedA (c) Is the activity sometimes value-added and sometimes non-value-addedA
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5-24
5-4
:iagram of t!o-dimensional A+6 model (from revie! question 5-13 on preceding page)' Cost Assignment View /B;C*/6B 6C;T; Assignment of resource costs to activity cost pools associated !ith significant activities Activity evaluation A6TIDITIB; ,B/.C/ A-6B BA;*/B;
Process View Activity analysis /CCT A6TIDITE 6A*;B; T/I@@B/;
Assignment of activity costs to cost ob=ects using second-stage cost drivers 6C;T C+>B6T; (products or services produced< customers)
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5-21
An activity#s trigger is the preceding event that indicates that the activity should be performed. The activity#s root cause is the event or activity that, if it had not occurred, !ould have prevented the activity in question from happening. .or e&ample, the event that triggers the activity of re!or? is the identification of a defective part during inspection. Fo!ever, the inspection is not the root cause of the re!or? activity. The root cause of the defective part, and hence the need for re!or?, could lie in erroneous part specifications, in an unreliable vendor, or in faulty production. 6ustomer profitability analysis refers to using the concepts of activity-based costing to determine ho! serving particular customers causes activities to be performed and costs to be incurred. B&amples of activities that can be differentially demanded by customers include order frequency, order si"e, special pac?aging or handling, customi"ed parts or engineering, and special machine setups. ;uch activities can ma?e some customers more profitable than others. Activity-based costing is used to analy"e customer-related costs and determine the cost drivers for these costs. This A+6 data then forms the basis for the customer profitability analysis by assigning the appropriate amount of customer-related costs to each customer. A customer profitability profile, usually e&pressed in graphical form, sho!s the company7s cumulative operating income as a percentage of total operating income. The customers included in the profile generally are ran?ed either by operating income or by sales revenue. In a =ust-in-time (>IT) production system, ra! materials and parts are purchased or produced =ust in time to be used at each stage of the production process. This approach to inventory and production management brings considerable cost savings from reduced inventory levels. The ?ey to the >IT system is the 9pull9 approach to controlling manufacturing. The diagram on the ne&t page displays a simple multistage production process. The flo! of manufacturing activity is depicted by the solid arro!s running do!n the diagram from one stage of production to the ne&t. Fo!ever, the signal that triggers more production activity in each stage comes from the next stage of production. These signals, depicted by the dashed-line arro!s, run up the diagram. 5e begin !ith sales at the bottom of the e&hibit. 5hen sales activity !arrants more production of finished goods, the goods are 9pulled9 from production stage III by a signal that more goods are needed. ;imilarly, !hen production employees in stage III need more inputs, they send a signal bac? to stage II. This signal triggers production activity in stage II. 5or?ing our !ay bac? up to the beginning of the process,
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5-2%
5-25
5-6
purchases of ra! materials and parts are triggered by a signal that they are needed in stage I.
The G,ullH ethod in a >IT ;ystem

,urchasing
:emand for ra! materials and parts is signaled !hen there is a need in stage I for more inputs.
,roduction ;tage I
:emand for production activity in stage I is signaled !hen there is a need in stage II for more inputs.
,roduction ;tage II
:emand for production activity in stage II is signaled !hen there is a need in stage III for more inputs.
,roduction ;tage III
;ales
:emand for finished goods is signaled !hen sales activity !arrants more finished units. This signal triggers manufacturing activity in the final stage of production (stage III).
:enotes flo! of materials, parts, partially finished goods, and finished goods.
:enotes a signal that more goods are needed at the ne&t stage of production.
This pull system of production management, !hich characteri"es the >IT approach, results in a smooth flo! of production and significantly reduced inventory levels.
5-7
SOLUTIONS TO E ERCISES
BIB/6I;B 5-20 (15 I-*TB;) 1. aterial-handling cost per lens'
J54,444 244 = J1,444 M(25)(244) + (25)(244)L K
KThe total number of direct-labor hours. An alternative calculation, since both types of product use the same amount of the cost driver, is the follo!ing'
J54,444 = J1,444 54K
KThe total number of units (of both types) produced. 2. $. aterial-handling cost per mirror N J1,444. The analysis is identical to that given for requirement (1). aterial-handling cost per lens'
J54,444 O 5 (5 + 15) K = J544 25

KThe total number of material moves. O The number of material moves for the lens product line. %. aterial-handling cost per mirror'
J54,444 15 K (5 + 15) = J1,544 25
KThe number of material moves for the mirror product line.
5-8
BIB/6I;B 5-21 (15 I-*TB;) 1. a. Puality-control costs assigned to the ;atin ;heen line under the traditional system' Puality-control costs N 1%.5Q direct-labor cost Puality-control costs assigned to ;atin ;heen line N 1%.5Q J21,544 N J$,322 (rounded) b. Puality-control costs assigned to the ;atin ;heen line under activity-based costing' Puantity for Activity ,ool /ate ;atin ;heen Incoming material inspection....... J11.54 per type..... 12 types......... In-process inspection................... .1% per unit...... 11,544 units... ,roduct certification..................... 11.44 per order.... 25 orders....... Total quality-control costs assigned.......................................................... 2. Assigned 6ost J 1$2 2,%54 1,325 J%,51$
The traditional product-costing system undercosts the ;atin ;heen product line, !ith respect to quality-control costs, by J525 (J%,51$ R J$,322).
BIB/6I;B 5-22 (24 I-*TB;) There is no single correct ans!er to this e&ercise. There are many reasonable solutions. 6ost pool 1' /a! materials and components................................................................... Inspection of finished goods........................................................................ Total................................................................................................................ 6ost driver' ra!-material cost 2,354,444 yen $4,444 yen 2,324,444 yen
5-9
BIB/6I;B 5-22 (6C-TI-*B:) 6ost pool 2' :epreciation, machinery............................................................................... Blectricity, machinery.................................................................................... Bquipment maintenance, !ages.................................................................. Bquipment maintenance, parts..................................................................... Total................................................................................................................ 6ost driver' number of units produced. 6ost pool $' ;etup !ages................................................................................................... Total................................................................................................................ 6ost driver' number of production runs. 6ost pool %' Bngineering design....................................................................................... Total................................................................................................................ 6ost driver' number of parts in a product. 6ost pool 5' :epreciation, plant........................................................................................ Insurance, plant............................................................................................. Blectricity, light.............................................................................................. 6ustodial !ages, plant.................................................................................. ,roperty ta&es................................................................................................ -atural gas, heating...................................................................................... Total................................................................................................................ 144,444 yen 044,444 yen 04,444 yen %4,444 yen 124,444 yen $4,444 yen 1,554,444 yen 014,444 yen 014,444 yen %4,444 yen %4,444 yen 1,%44,444 yen 124,444 yen 154,444 yen $4,444 yen 1,144,444 yen
6ost driver' for costs allocated to support departments, square footage< for costs assigned to products, number of units produced.
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BIB/6I;B 5-23 (5 I-*TB;) 6ost pool 1' unit-level 6ost pool 2' unit-level 6ost pool $' batch-level 6ost pool %' product-sustaining-level 6ost pool 5' facility-level BIB/6I;B 5-$4 ($4 I-*TB;) Ans!ers !ill vary !idely, depending on the !eb site chosen. In general, though, activitybased costing could be a useful tool in helping any governmental unit understand !hat its cost drivers are for the various activities in !hich it engages. BIB/6I;B 5-$1 (24 I-*TB;) 5heelco#s product-costing system probably is providing misleading cost information to management. A common problem in a traditional, volume-based costing system is that high-volume products are overcosted and lo!-volume products are undercosted. There is evidence of this in the e&ercise, since 5heelco#s competitors are selling the high-volume A22 !heel at a price lo!er than 5heelco#s reported manufacturing cost. In contrast, 5heelco is selling its specialty :52 !heel at a huge mar?up above the product#s reported cost. An activity-based costing system probably !ould report a lo!er product cost for !heel A22 and a substantially higher cost for !heel :52. The president#s strategy of pushing the firm#s specialty products probably !ill aggravate 5heelco#s problem even further. These products probably are not as profitable as the firm#s traditional product-costing system ma?es them appear. /ecommendation' Install an activity-based costing system. If the ne! reported product costs shift as suggested in the preceding comments, then lo!er the price on the high-volume products, such as !heel A22. The prices of the specialty !heels probably !ill need to be raised. It is possible that 5heelco should discontinue lo!-volume products.
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BIB/6I;B 5-$2 (15 I-*TB;) 1. Sey features of an activity-based costing system' (a) (b) (c) T!o-stage procedure for cost assignment. ;tage one' Bstablish activity cost pools. ;tage t!o' ;elect cost drivers for each activity-cost pool. Then assign the costs in each cost pool to the company#s product lines in proportion to the amount of the related cost driver used by each product line.
2.
As described in the ans!er to the preceding e&ercise, the ne! system probably !ill reveal distortion in the firm#s reported product costs. In all li?elihood, the high-volume products are overcosted and the lo!-volume specialty products are undercosted. ;trategic options' (a) (b) (c) 8o!er the prices on the firm#s high-volume products to compete more effectively. Increase the prices on lo!-volume specialty products. 6onsider eliminating the specialty product lines. This option may not be desirable if there is a mar?eting need to produce a full product line. Also, the specialty !heels may give 5heelco prestige.
$.
BIB/6I;B 5-$$ (24 I-*TB;) The activity of the .inger 8a?es 5inery may be classified as follo!s' *' *nit-level +' +atch-level ,' ,roduct-sustaining-level .' .acility-level Activity (1) (2) ($) 6lassification , , , Activity (11) (12) (1$)
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6lassification + + *
(%) (5) (0) (1) (2) (3) (14)
, , , , + + +
(1%) (15) (10) (11) (12) (13)
* * * + . .
BIB/6I;B 5-$% (24 I-*TB;) The definitions used by 6arrier 6orporation for each of the activity levels are as follo!s'K *nit' This activity or cost occurs every time a unit is produced. An e&ample is the utility cost for production equipment. This level of activity usually relates directly to production volume. TTTTTTTTTTTTTTTT K/obert Adams and /ay 6arter, 9*nited Technologies# Activity-+ased Accounting Is a 6atalyst for ;uccessH As asy as ABC, 12, p.%. *nited Technologies uses the term structural-level activity, instead of facility-level activity as !e have done.
BIB/6I;B 5-$% (6C-TI-*B:) +atch' This activity is performed for each batch produced or acquired. B&amples include moving ra! material bet!een the stoc? room and production line or setting up a machine for a run. ,roduct-sustaining' This activity is performed to maintain product designs, processes, models, and parts. B&amples include e&pediting parts, maintaining the bill of materials, or issuing orders for product changes. ;ustaining activities are required for supporting a ?ey manufacturing capability or process. .acility' These activities are performed to enable production. They are fundamental to supporting the business entity at the most basic level. B&amples are managing or cleaning the building.
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These definitions are consistent !ith those given in the chapter. An argument for the A+6 pro=ect team#s classification !ould be that the activity or account in question !as characteri"ed by the definition of the activity-level classification given above. An argument against the team#s classification !ould be that the particular activity or account did not satisfy the definition. .or e&ample, moving materials is a batch-level activity because a ra! material must be moved to the product area !hen a production run or batch is started. :epreciation is a facility-level account because depreciation on plant and equipment represents the cost of providing production facilities in !hich manufacturing can ta?e place.
BIB/6I;B 5-$5 ($4 I-*TB;) 1. RE!WOO! COM"AN# COM"UTATION O$ SELLIN% COSTS B# OR!ER SI&E AN! "ER S'EIN WIT(IN EAC( OR!ER SI&E ;mall ;ales commissions (*nit cost' J015,444U225,444 N J$.44 per bo&).................... bo&)........................................... 6atalogsb (*nit cost' J235,%44U534,244 N J.54 per catalog)................ catalog)..................................... 6osts of catalog salesc (*nit cost' J145,444U115,444 N J.04 per s?ein)................... s?ein)........................................ 6redit and collectiond (*nit cost' J04,444U0,444 N J14.44 per order)................ order)........................................
a
Crder ;i"e edium 8arge J1$5,444 J5$%,444
Total J 015,444
J 0,444
121,154
145,054
02,044
235,%44
%1,%44
$1,244
20,%44
145,444
%,254
2%,154
$1,444
04,444
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Total cost for all orders of a given si"e si"e.............................. *nits (s?eins) solde......................
J125,%44 14$,444
J230,444 532,444
J05%,444 2,124,444
J1,1$5,%44
5-15
*nit cost per order of a given si"ef...............................................

a
J1.24
J.54
J.$4
/etail sales in bo&es unit cost' ;mall, 2,444 J$ edium, %5,444 J$ 8arge, 112,444 J$ b 6atalogs distributed unit cost c 6atalog sales unit cost d -umber of retail orders unit cost e ;mall' (2,444 12) V 13,444 N 14$,444 edium' (%5,444 12) V 52,444 N 532,444 8arge' (112,444 12) V %%,444 N 2,124,444 f Total cost for all orders of a given si"e W units sold BIB/6I;B 5-$5 (6C-TI-*B:) 2. The analysis of selling costs sho!s that small orders cost more than large orders. This fact could persuade management to mar?et large orders more aggressively andUor offer discounts for them.
BIB/6I;B 5-$0 ($4 I-*TB;) Ans!ers !ill vary !idely, depending on the college or university and the activities chosen. BIB/6I;B 5-$1 (25 I-*TB;) 1. Airline' (a) 9:eadheading,9 the practice of flying a non!or?ing flight-cre! member to another city to !or? on a flight departing from that location. The cre! member sometimes displaces a paying customer. ,reparing e&cess food for a flight, !hich is not consumed, because the flight occupancy !as misforecast. /eturning, repairing, or replacing lost or mishandled luggage.
(b) (c)
(d) 6anceling a flight because of an aircraft maintenance problem that should have been prevented by routine maintenance.
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2.
+an?' (a) (b) (c) (d) (e) 6orrecting customer account errors due to ?eypunch errors in the ban?. .ollo!ing up on chec?s or deposit slips lost by the ban?. ,erforming ban?ing procedures manually !hen the computer is do!n. :efaulted loans made to ris?y borro!ers as a result of inadequate credit chec?s. 8osses due to employee embe""lement and petty theft.
BIB/6I;B 5-$1 (6C-TI-*B:)
$.
Fotel' (a) (b) (c) (d) +rea?age of dishes and glass!are< loss of or damage to linens and to!els. 8oss of room ?eys. Cverstaffing the front des? during nonpea? hours. ,reparing e&cess food.
BIB/6I;B 5-$2 ($4 I-*TB;) The s?y7s the limit on this e&ercise. After GinventingH a product and describing its production process, students can dra! the discussion in the te&t of ho! to identify nonvalue-added costs.
BIB/6I;B 5-$3 (15 I-*TB;) ;everal activities performed (or at least supported) by an airline#s ground employees, along !ith possible performance measures, are as follo!s' Activity a?ing reservations over the phone ,erformance easure /eservations boo?ed per hour
5-17
,ercentage of reservations !ith errors -umber of customer complaints Tagging luggage Fandling luggage +ags tagged per hour ,ercentage of bags incorrectly tagged +ags handled per hour, per employee -umber of bags damaged ,ercentage of bags sent to !rong destination
BIB/6I;B 5-$3 (6C-TI-*B:) aintaining aircraft aintenance procedures per shift, per employee (both routine and repair) -umber of repair incidents per month -umber of flight delays due to maintenance problems -umber of passengers enplaned -umber of customer complaints Average time required at gate to enplane passengers -umber of aircraft departures per month ,ercentage of flights !ith delays Average delay per flight delayed
Bnplaning passengers
,reparing aircraft for departure
BIB/6I;B 5-%4 (%4 I-*TB;, ,8*; TI B AT /B;TA*/A-T) ;everal restaurant activities are listed in the follo!ing table, along !ith the required characteristics for each activity. any other possibilities could be listed, depending on the level of detail. Dalue-Added or -on-DalueAdded
Activity :escription
Activity Trigger
/oot 6ause
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Ta?ing reservations 6ustomers !aiting for a table
DA -DA
6ustomer calls on phone 6ustomer arrives, but no table is ready
6ustomer desires reservation An error !as made in reservation< service is slo!< customers are slo!< customers arrive !ithout reservations 6ustomer#s reservation (or turn in line) comes up< table becomes ready Sitchen staff needs to ?no! !hat to prepare eals are ready< customers are hungry An error !as made in e&plaining the menu< there is an error in the printed menu description< meal !as prepared !rong< customer is pic?y 6ustomers are hungry 6ustomers have finished eating
;eating customers
DA
Table becomes available 6ustomers indicate readiness to order eals are ready 6ustomer complains about meal
Ta?ing orders ;erving meals to customers /eturning meal to ?itchen for revised preparation
DA DA -DA
6ustomers eating meal 6learing the table
DA DA
eals are served and are satisfactory 6ustomers are finished
BIB/6I;B 5-%4 (6C-TI-*B:) :elivering chec? to table DA 6ustomers are finished ordering and eating 6ustomers need to ?no! amount of bill
5-19
6ollecting payment
DA
6ustomers have produced cash or credit card
/estaurant needs to collect payment for services rendered
BIB/6I;B 5-%1 ($4 I-*TB;) Ans!ers !ill vary !idely, depending upon the registration procedures in place at a particular institution.
BIB/6I;B 5-%2 (25 I-*TB;) 1. 6ustomers ran?ed by sales revenue' (1) (2) ($) (%) (5) (0) (1) (2) (3) (14) 142 11% 112 110 114 12% 121 121 125 122 (11) (12) (1$) (1%) (15) (10) (11) (12) (13) (24) 11$ 1$5 140 111 1$$ 141 1$% 113 1$0 1$1
Ees, the ran?ing by sales revenue is different from that based on operating income. 2. $. -o, the least profitable customers are not the ones !ith the lo!est sales revenue. The least profitable customers are numbers 113 and 1$%. Ees, the profile !ould be different, because the ordering of the customers along the hori"ontal a&is !ould match the order in requirement (1) instead of the ordering in B&hibit 5-15.
BIB/6I;B 5-%2 (6C-TI-*B:) %. A customer characteri"ed by high sales revenue !ould not necessarily be the most profitable, because the customer may demand costly services such as special handling or pac?aging, frequent small shipments, or unique design features.
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BIB/6I;B 5-%$ ($4 I-*TB;) Memorandum :ate' To' .rom' ;ub=ect' Today ,resident, +ig Apple :esign 6ompany I. . ;tudent, 6ontroller, +ig Apple :esign 6ompany 6ustomer-,rofitability Analysis
The customer-profitability analysis ran?s customers on the basis of operating income. As the graph sho!s, customers 5 and 0 are not profitable for +ig Apple :esign 6ompany. There are several possible courses of action, including the follo!ing four' :rop customers 5 and 0. /aise the prices for customers 5 and 0. 6ut the costs of serving customers 5 and 0 by cutting bac? on services. Try to increase higher-margin services to customers 5 and 0 in order to ma?e these customer relationships profitable.
BIB/6I;B 5-%% (24 I-*TB;) There are many ?ey activities that can be suggested for each business. ;ome possibilities are listed belo!. After each activity, a suggested cost driver is given in parentheses. (1) airline' (a) (b) (c) (d) (e) (a) (b) reservations (reservations boo?ed) baggage handling (pieces of baggage handled) flight cre! operations (air miles flo!n) aircraft operations (air miles flo!n) in-flight service (number of passengers) purchasing (pounds or cost of food purchased) ?itchen operations (meals prepared)
(2)
restaurant
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(c) (d) (e) ($) fitness club' (a) (b) (c) (d) (e) (a) (b) (c) (d) (e) (a) (b) (c) (d) (e) (a) (b) (c) (d) (e)
table service (meals served) table clearing (meals served) dish !ashing (dishes !ashed) front des? operations (number of patrons) membership records (number of records) personnel (number of employees) equipment maintenance (maintenance hours) fitness consultation (hours of service) teller !indo! operations (number of customers) loan processing (loan applications) chec? processing (chec?s processed) personnel (number of employees) security (number of customers) front des? operations (number of guests) bell service (pieces of luggage handled) house?eeping service (number of guest-days) room service (meals delivered) telephone service (phone calls made) admissions (patients admitted) diagnostic lab (tests performed) nursing (nursing hours) surgery (hours in operating room) general patient care (patient-days of care)
(%)
ban?'
(5) hotel'
(0)
hospital'
SOLUTIONS TO "ROBLEMS
,/C+8B 5-%5 (25 I-*TB;) 1. a. anufacturing overhead costs include all indirect manufacturing costs (all production costs e&cept direct material and direct labor). Typical overhead costs include'
Indirect labor (e.g., a lift-truc? driver, maintenance and inspection labor,

engineering labor, and supervisors).
Indirect material.
5-22
Cther indirect manufacturing costs (e.g., building maintenance, machine and

tool maintenance, property ta&es, insurance, depreciation on plant and equipment, rent, and utilities). b. 6ompanies develop overhead rates before production to facilitate the costing of products as they are completed and shipped, rather than !aiting until actual costs are accumulated for the period of production. The increase in the overhead rate should not have a negative impact on the company, because the increase in indirect costs !as offset by a decrease in direct labor. /ather than using a plant!ide overhead rate, +orealis anufacturing could implement separate activity cost pools. B&amples are as follo!s'
2.
$.
;eparate costs into departmental overhead accounts (or other relevant pools),
!ith one account for each production and service department. Bach department !ould allocate its overhead to products on the basis that best reflects the use of these overhead services.
Treat individual machines as separate cost centers, !ith the machine costs
collected and charged to the products using machine hours. %. An activity-based costing system might benefit +orealis anufacturing because it assigns costs to products according to their usage of activities in the production process. ore accurate product costs are the result.
,/C+8B 5-%0 ($4 I-*TB;) 1. ,redetermined overhead rate N budgeted overhead W budgeted direct-labor hours N J244,444 W 25,444K N J$2 per direct labor hour K25,444 budgeted direct-labor hours N ($,444 units of ;tandard)($ hrs.Uunit) V (%,444 units of Bnhanced)(% hrs.Uunit) ;tandard :irect materialXXXXX. :irect labor' $ hours & J12XXXX % hours & J12XXXX J 25 $0 %2 Bnhanced J %4
5-23
anufacturing overhead' $ hours & J$2XXXX % hours & J$2XXXX Total costXXXXXXX. 2.
30 J151 122 J210
Activity-based overhead application rates' Activity Crder processing achine processing ,roduct inspection 6ost J154,444 504,444 34,444 Activity 6ost :river W 544 orders processed (C,) W %4,444 machine hrs. ( F) W 14,444 inspection hrs. (IF) Application /ate N J$44 per C, N J1% per F N J3 per IF
,/C+8B 5-%0 (6C-TI-*B:) Crder processing, machine processing, and product inspection costs of a ;tandard unit and an Bnhanced unit' Activity ;tandard Bnhanced
Crder processing' $44 C, & J$44XXXXX... J 34,444 244 C, & J$44XXXXX... achine processing' 12,444 F & J1%XXXX... 252,444 22,444 F & J1%XXXX... ,roduct inspection' 2,444 IF & J3XXXXXX.. 12,444 2,444 IF & J3XXXXXX. Total J$04,444 ,roduction volume (units) $,444 6ost per unit J124K K J$04,444 W $,444 units N J124 KK J%%4,444 W %,444 units N J114
J 04,444 $42,444 12,444 J%%4,444 %,444 J114KK
5-24
The manufactured cost of a ;tandard unit is J121, and the manufactured cost of an Bnhanced unit is J132' ;tandard :irect materialXXXXXXXXXXXX. :irect labor' $ hours & J12XXXXXXXXXXX % hours & J12XXXXXXXXXXX Crder processing, machine processing, and product inspectionXXXXXX.. Total costXXXXXXXXXXXXXX. $. a. J 25 $0 %2 124 J121 114 J132 Bnhanced J %4
The Bnhanced product is overcosted by the traditional product-costing system. The labor-hour application base resulted in a J210 unit cost< in contrast, the more accurate A+6 approach yielded a lo!er unit cost of J132. The opposite situation occurs !ith the ;tandard product, !hich is undercosted by the traditional approach (J151 vs. J121 under A+6).
,/C+8B 5-%0 (6C-TI-*B:) b. Ees, especially since the company7s selling prices are based heavily on cost. An overcosted product !ill result in an inflated selling price, !hich could prove detrimental in a highly competitive mar?etplace. 6ustomers !ill be turned off and !ill go else!here, !hich hurts profitability. 5ith undercosted products, selling prices may be too lo! to adequately cover a product7s more accurate (higher) cost. This situation is also troublesome and !ill result in a lo!er income being reported for the company.
%.
In the electronic version of the solutions manual, press the 6T/8 ?ey and clic? on the follo!ing lin?' +uild a ;preadsheet 45-%0.&ls
,/C+8B 5-%1 (04 I-*TB;) 1. The predetermined overhead rate is calculated as follo!s' ,redetermined overhead rate N +udgeted manufacturing overheadUbudgeted directlabor hours N J1,22%,444U142,444K N J12 per hour K:irect labor, budgeted hours' /B@' 5,444 units 3 hours..................................... A:D' %,444 units 11 hours................................... @ T' 1,444 units 1$ hours...................................
5-25
%5,444 hours %%,444 hours 1$,444 hours
Total direct-labor hours........................................................ ,/C+8B 5-%1 (6C-TI-*B:) 2. Activity-based-costing analysis'

6ost :river Puantity for ,roduct 8ine 54,444 %2,444 11,444 115,444 %4 %4 24 144 144 30 14% $44 %4 %4 24 144 %44 %44 $44 1,144 544 %44 244 1,144 254 244 244 054 54,444 %2,444 11,444 115,444
142,444 hours
Activity achine /elated aterial Fand. ,urch.
Activity 6ost ,ool J$14,544
6ost :river achine Fours ,rod. /uns ,urch. Crders ,rod. /uns Inspect. Fours ;hip.
6ost :river Puantity 115,444
,ool /ate J 2.14
,roduct 8ine /B@ A:D @ T Total /B@ A:D @ T Total /B@ A:D @ T Total /B@ A:D @ T Total /B@ A:D @ T Total /B@ A:D @ T Total /B@ A:D @ T Total /B@ A:D @ T Total @rand Total
Activity 6ost for ,roduct 8ine J1$5,444 123,044 %5,344 J$14,544 J 21,444 21,444 14,544 J 52,544 J 25,444 2%,444 20,444 J 15,444 J $%,444 $%,444 11,444 J 25,444 J 14,444 14,444 1,544 J 21,544 J $4,444 2%,444 12,444 J 00,444 J 12,544 14,444 14,444 J $2,544 J254,444 2%4,444 25,444 J515,444 J1,22%,444
,roduct 8ine ,rod. Dolume 5,444 %,444 1,444 5,444 %,444 1,444 5,444 %,444 1,444 5,444 %,444 1,444 5,444 %,444 1,444 5,444 %,444 1,444 5,444 %,444 1,444 5,444 %,444 1,444
Activity 6ost per *nit of ,roduct J21.44 $2.%4 %5.34 %.24 5.25 14.54 5.44 0.44 20.44 0.24 2.54 11.44 2.44 2.54 1.54 0.44 0.44 12.44 2.54 2.54 14.44 54.44 04.44 25.44
52,544
144
525.44
15,444
$44
254.44
;etup
25,444
144
254.44
Inspect.
21,544
1,144
25.44
;hip.
00,444
1,144
04.44
Bng.
$2,544
Bng. Fours achine Fours
054
54.44
.ac.
515,444
115,444
5.44
@rand Total
J1,22%,444
5-26
,/C+8B 5-%1 (6C-TI-*B:) $. 6alculation of ne! product costs under A+6.

/B@ J123.44 111.44 (3 hr. Y J13) J$44.44 A:D J151.44 243.44 (11 hr. Y J13) J$04.44 @ T J24$.44 2%1.44 (1$ hr. Y J13) J%54.44
:irect material................................. :irect labor (not including set-up time)................................. Total direct costs per unit..............
anufacturing overhead (based on A+6)' achine-related.......................... J 21.44 ;etup........................................... %.24 ,urchasing.................................. 5.44 aterial handling....................... 0.24 Puality assurance...................... 2.44 ,ac?ingUshipping....................... 0.44 Bngineering design.................... 2.54 .acility......................................... 54.44 Total A+6 overhead cost per unit................................ J14$.54 Total product cost per unit............. J%4$.54
J $2.%4 5.25 0.44 2.54 2.54 0.44 2.54 04.44 J12$.15 J%2$.15
J %5.34 14.54 20.44 11.44 1.54 12.44 14.44 25.44 J21$.34 J00$.34
,/C+8B 5-%1 (6C-TI-*B:) %. 6omparison of costs and target prices under t!o alternative product-costing systems' /B@ /eported unit overhead cost' Traditional, volume-based costing system ................................................................................... Activity-based costing system ................................................................................... /eported unit product cost (direct material, direct labor and overhead)' Traditional, volume-based costing system ................................................................................... Activity-based costing system ................................................................................... ;ales price data' Criginal target price (1$4Q of product cost based on traditional, volume-based costing system) ................................................................................... -e! target price (1$4Q of product cost based
5-27
A:D J1$2.44 12$.15
@ T J150.44 21$.34
J142.44 14$.54
%42.44 %4$.54 5$4.%4 52%.55
%32.44 %2$.15 0$3.04 022.14
040.44 00$.34 121.24 20$.41
activity-based costing system) ................................................................................... Actual current selling price..........................................
525.44
022.44
244.44
5-28
5.
The /B@ and A:D products !ere overcosted by the traditional system, and the @ T product !as undercosted by the traditional system J%42.44 %4$.54 J %.54 J%32.44 %2$.15 J 2.25 (J 51.34) J040.44 00$.34
/eported unit product cost' Traditional, volume-based costing system ................................................................................... Activity-based costing system ................................................................................... 6ost distortion' /B@ and A:D overcosted by traditional system ................................................................................... @ T undercosted by traditional system................ 0.
In the electronic version of the solutions manual, press the 6T/8 ?ey and clic? on the follo!ing lin?' +uild a ;preadsheet 45-%1.&ls
,/C+8B 5-%2 (25 I-*TB;) The information supplied by the A+6 pro=ect team is in columns A, +, 6, :, ., @, and I.
6ost :river Puantity for ,roduct 8ine %4 %4 24 144 Activity 6ost per *nit of ,roduct J %.24 5.25 14.54
Activity
Activity 6ost ,ool
6ost :river
6ost :river Puantity 144
,ool /ate
,roduct 8ine
Activity 6ost for ,roduct 8ine J21,444 21,444 14,544 J52,544
,roduct 8ine ,roduction Dolume 5,444 %,444 1,444
aterial J52,544 ,roduction Fandling /uns
J525.44 /B@ A:D @ T Total
The results of the A+6 calculations are in columns B, F and >. The A+6 calculations are as follo!s' (1) 6ompute pool rate for material-handling activity' Activity cost pool W cost driver quantity N pool rate J52,544 W 144 N J525.44
(2) 6ompute total activity cost for each product line' ,roduct 8ine ,ool /ate 6ost :river Puantity for & ,roduct 8ine
5-29
Activity 6ost for Bach ,roduct 8ine
/B@
J525.44 &
%4
J21,444
5-30
A:D @ T
525.44 & 525.44 &
%4 24
N N
21,444 14,544
($) 6ompute product cost per unit for each product line' Activity 6ost for Bach ,roduct ,roduct 8ine 8ine /B@ A:D @ T J21,444 21,444 14,544 Activity 6ost per *nit of ,roduct J %.24 5.25 14.54
,roduct 8ine ,roduction Dolume 5,444 %,444 1,444
N N N N
,/C+8B 5-%3 ($4 I-*TB;) 1. Type A manufacturing overhead cost' 10,444 machine hours & J24 N J1,224,444 J1,224,444 W 2,444 units N J104 per unit Type + manufacturing overhead cost' 22,544 machine hours & J24 N J1,244,444 J1,244,444 W 15,444 units N J124 per unit Type A :irect materialXXXXXX. :irect laborXXXXXXX.. anufacturing overheadX. *nit costXXXXXXX 2. Activity-based application rates' Activity anufacturing setups achine processing 6ost J 012,444 1,2%2,444 Activity :river W 24 setups (;*) W $2,544 machine hours ( F) Application /ate N J2,%44 per ;* N J%2 per F J $5 24 104 J215 Type + J 04 24 124 J244
5-31
,roduct shipping ,/C+8B 5-%3 (6C-TI-*B:)
504,444
W 115 outgoing N J$,244 per C; shipments (C;)
anufacturing setup, machine processing, and product shipping costs of a Type A unit and a Type + unit' Activity Type A Type +
anufacturing setups' 54 ;* & J2,%44XXXXX.. J %24,444 $4 ;* & J2,%44XXXXX.. achine processing' 10,444 F & J%2XXXX... 102,444 22,544 F & J%2XXXX... ,roduct shipping' 144 C; & J$,244XXXXX $24,444 15 C; & J$,244XXXXX.. Total XXXXXXXXXXX. J1,542,444 ,roduction volume (units)X. 6ost per unitXXXXXXX.. 2,444 J122.54K
J 252,444 1,424,444 2%4,444 J1,512,444 15,444 J14%.24KK
K J1,542,444 W 2,444 units N J122.54 KK J1,512,444 W 15,444 units N J14%.24 The manufactured cost of a Type A cabinet is J2%$.54, and the manufactured cost of a Type + cabinet is J12%.24. The calculations follo!' Type A :irect materialXXXXXXXXXXXXX :irect laborXXXXXXXXXXXXXX. anufacturing setup, machine processing, and outgoing shipments.. Total costXXXXXXXXXXXXXXX. $. J $5.44 24.44 122.54 J2%$.54 Type + J 04.44 24.44 14%.24 J12%.24
Ees, the Type A storage cabinet is undercosted. The use of machine hours produced a unit cost of J215< in contrast, the more accurate activity-based-costing
5-32
approach sho!s a unit cost of J2%$.54. The difference bet!een these t!o amounts is J22.54. ,/C+8B 5-%3 (6C-TI-*B:) %. -o, the discount is not advisable. The regular selling price of J204, !hen compared against the more accurate A+6 cost figure, sho!s that each sale provides a profit to the firm of J10.54 (J204.44 - J2%$.54). Fo!ever, a J$4 discount !ill actually produce a loss of J1$.54 (J2%$.54 - J2$4.44), and the more units that are sold, the larger the loss. -otice that !ith the less-accurate, machine-hour-based figure (J215), the mar?eting manager !ill be misled, believing that each discounted unit sold !ould boost income by J15 (J2$4 - J215).
,/C+8B 5-54 ($5 I-*TB;) 1. Activity-based costing results in improved costing accuracy for t!o reasons. .irst, companies that use A+6 are not limited to a single driver !hen allocating costs to products and activities. -ot all costs vary !ith units, and A+6 allo!s users to select a host of nonunit-level cost drivers. ;econd, consumption ratios often differ greatly among activities. -o single cost driver !ill accurately assign costs for all activities in this situation. Allocation of administrative cost based on billable hours' Information systems' $,144 W 5,444 N 02Q< J$%2,444 & 02Q N J212,4%4 B-commerce consulting' 1,344 W 5,444 N $2Q< J$%2,444 & $2Q N J123,304 Information ;ystems ;ervices +illings' $,144 hours & J125XXXX 1,344 hours & J125XXXX 8ess' ,rofessional staff cost' $,144 hours & J%5XX. 1,344 hours & J%5XX. Administrative costXX. IncomeXXXXXXXXXXX Income W billingsXXXXXX. J$21,544 J2$1,544 (1$3,544) (212,4%4) J $5,304 3.22Q (25,544) (123,304) J 22,4%4 3.22Q B-6ommerce 6onsulting
2.
5-33
,/C+8B 5-54 (6C-TI-*B:) $. Activity-based application rates' Activity ;taff support In-house computing iscellaneous office charges 6ost J124,444 1$0,%44 25,044 Activity :river W 254 clients W %,%44 computer hours (6F) W 1,444 client transactions (6T) N N N Application /ate J124 per client J$1 per 6F J25.04 per 6T
;taff support, in-house computing, and miscellaneous office charges of information systems services and e-commerce consulting' Information ;ystems ;ervices J1%%,444 J $0,444 24,044 55,244 14,2%4 J2$%,2%4 15,$04 J141,104 B-6ommerce 6onsulting
Activity ;taff support' 244 clients & J124XXXX... 54 clients & J124XXXXX. In-house computing' 2,044 6F & J$1XXXXXX. 1,244 6F & J$1XXXXXX. iscellaneous office charges' %44 6T & J25.04XXXXX... 044 6T & J25.04XXXXX... Total XXXXXXXXXXXX. ,/C+8B 5-54 (6C-TI-*B:)
,rofitability of information systems services and e-commerce consulting' Information ;ystems ;ervices +illings' $,144 hours & J125XXX..
5-34
B-6ommerce 6onsulting
J$21,544
1,344 hours & J125XXX.. 8ess' ,rofessional staff cost' $,144 hours & J%5XX 1,344 hours & J%5XX Administrative costXX. IncomeXXXXXXXXXX.. Income W billingsXXXXX... %.
J2$1,544 (1$3,544) (2$%,2%4) J 1$,104 $.%4Q (25,544) (141,104) J %%,2%4 12.22Q
Ees, his attitude should change. Bven though both services are needed and professionals are paid the same rate, the income percentages sho! that e-commerce consulting provides a higher return per sales dollar than information systems services (12.22Q vs. $.%4Q). Thus, all other things being equal, professionals should spend more time !ith e-commerce. ,robably not. Although both services produce an attractive return, the firm is e&periencing a very tight labor mar?et and !ill li?ely have trouble finding qualified help. In addition, the professional staff is currently over!or?ed, !hich !ould probably limit the services available to ne! clients.
5.
,/C+8B 5-51 ($4 I-*TB;) 1. Daldosta Dinyl 6ompany (DD6) is currently using a plant!ide overhead rate that is applied on the basis of direct-labor dollars. In general, a plant!ide manufacturingoverhead rate is acceptable only if a similar relationship bet!een overhead and direct labor e&ists in all departments or the company manufactures products that receive the same proportional services from each department In most cases, departmental overhead rates are preferable to plant!ide overhead rates because plant!ide overhead rates do not provide the follo!ing'
A frame!or? for revie!ing overhead costs on a departmental basis, identifying

departmental cost overruns, or ta?ing corrective action to improve departmental cost control.
;ufficient information about product profitability, thus increasing the difficulties

associated !ith management decision ma?ing.
5-35
2.
+ecause the company uses a plant!ide overhead rate applied on the basis of directlabor dollars, the elimination of direct labor in the olding :epartment through the introduction of robots may appear to reduce the overhead cost of the olding :epartment to "ero. Fo!ever, this change !ill not reduce fi&ed manufacturing costs such as depreciation and plant supervision. In reality, the use of robots is li?ely to increase fi&ed costs because of increased depreciation. *nder the current method of allocating overhead costs, these costs merely !ill be absorbed by the remaining departments.
,/C+8B 5-51 (6C-TI-*B:) $. a. In order to improve the allocation of overhead costs in the 6utting and .inishing departments, management should move to!ard an activity-based costing system. The firm should'
Bstablish activity-cost pools for each significant activity. ;elect a cost driver for each activity that best reflects the relationship of the
activity to the overhead costs incurred.
b.
In order to accommodate the automation of the overhead accounting system, the company should'
olding :epartment in its
Bstablish a separate overhead pool and rate for the olding :epartment. Identify fi&ed and variable overhead costs and establish fi&ed and variable
overhead rates.
Apply overhead costs to the

machine hours.
olding :epartment on the basis of robot or
,/C+8B 5-52 (%4 I-*TB;) 1. Cverhead to be assigned to film development chemical order'
5-36
Activity 6ost ,ool achine setups aterial handling Fa"ardous !aste control Puality control Cther overhead costs Total 2. $. Cverhead cost per bo& of chemicals ,redetermined overhead rate N N
,ool /ate J2,444 per setup J2 per pound J5 per pound J15 per inspection J14 per machine hour
8evel of 6ost :river 5 setups 14,444 pounds 2,444 pounds 14 inspections 544 machine hours
Assigned Cverhead 6ost J14,444 24,444 14,444 154 5,444 J%5,154
%5,154 = J%5.15 per bo& 1,444 bo&es
J025,444 total budgeted overhead cost = total budgeted machine hours 24,444
N J$1.25 per machine hr. %. Cverhead to be assigned to film development chemical order, given a single predetermined overhead rate' a. Total overhead assigned N J$1.25 per machine hr. 544 machine hr. N J15,025 b. 5. Cverhead cost per bo& of chemicals N
J15,025 = J15.025 per bo& 1,444 bo&es
The film development chemicals entail a relatively large number of machine setups, a large amount of ha"ardous materials, and several inspections. Thus, they are quite costly in terms of driving overhead costs. *se of a single predetermined overhead rate obscures this characteristic of the production =ob. *nderestimating the overhead cost per bo& could have adverse consequences for the company. .or e&ample, it could lead to poor decisions about product pricing. The activity-based costing system !ill serve management much better than the system based on a single, predetermined overhead rate.
5-37
,/C+8B 5-52 (6C-TI-*B:) 0. In the electronic version of the solutions manual, press the 6T/8 ?ey and clic? on the follo!ing lin?' +*I8: A ;,/BA:;FBBT 45-52.I8; ,/C+8B 5-5$ (24 I-*TB;) 1.
(a)
*nit cost calculation'

Cverhead assigned to photographic plates' Activity 6ost ,ool achine setups aterial handling Fa"ardous !aste control Puality control Cther overhead costs Total
Cverhead cost per unit =
,ool /ate J2,444 per setup J2 per pound J5 per pound J15 per inspection J14 per machine hour
8evel of 6ost :river $ setups 344 pounds $44 pounds $ inspections 54 machine hours
Assigned Cverhead 6ost J 0,444 1,244 1,544 225 544 J14,425
J14,425 = J144.25 144 plates
(b)
*nit cost per plate' :irect material..................................... :irect labor.......................................... anufacturing overhead.................... Total cost per plate............................. J124.44 %4.44 144.25 J204.25
2. In the electronic version of the solutions manual, press the 6T/8 ?ey and clic? on the follo!ing lin?' +*I8: A ;,/BA:;FBBT 45-5$.I8;
,/C+8B 5-5% (%5 I-*TB;) 1. An A+6 system is a t!o-stage process of assigning costs to products. In stage one, activity-cost pools are established. In stage t!o a cost driver is identified for each activity-cost pool. Then the costs in each pool are assigned to each product line in proportion to the amount of the cost driver consumed by each product line.
5-38
,roblem 5-5% (6ontinued) 2. ontreal Blectronics should not continue !ith its plans to emphasi"e the /oyal model and phase out the -ova model. As sho!n in the follo!ing activity-based costing analysis, the /oyal model has a contribution margin of less than $ percent, !hile the -ova model generates a contribution margin of nearly %$ percent. 6ost per event for each cost driver' ;oldering.................... ;hipments................... Puality control............ ,urchase orders......... achine po!er........... achine setups.......... 6osts per model' J3%2,444 204,444 1,2%4,444 354,%44 51,044 154,444
1,514,444 N 24,444 N 11,544 N 134,424 N 132,444 N $4,444 N
J.04 %$.44 10.44 5.44 .$4 25.44
per solder =oint per shipment per inspection per order per hour per setup -ova J %,510,444 $30,444 $,102,444 J 2,1%4,444 J 111,444 030,044 233,244 %44,544 52,244 %44,444 J $,104,144 J11,$44,144
/oyal :irect costs' ateriala................................................................... :irect laborb............................................................. achine hoursc....................................................... Total direct costs........................................................... Assigned costs' ;olderingd................................................................ ;hipmentse.............................................................. Puality controlf........................................................ ,urchase ordersg.................................................... achine po!erh....................................................... achine setupsi...................................................... Total assigned costs...................................................... Total cost........................................................................ 6alculations follo!. J2,$$0,444 102,444 222,444 J2,132,444 J 2$1,444 10$,%44 $%4,244 5%3,344 %,244 $54,444 J1,0$3,344 J%,%$1,344
5-39
,/C+8B 5-5% (6C-TI-*B:)
6alculations' /oyal
a
-ova 22,444 J242 22,444 J12 22,444 J1%% 1,125,444 J.04 10,244 J%$ 50,244 J10 24,144 J5 110,444 J.$4 10,444 J25
aterial......................................... :irect labor................................... c achine hours.............................. d ;oldering...................................... e ;hipments..................................... f Puality control.............................. g ,urchase orders........................... h achine po!er............................. i achine setups.............................
b
%,444 J52% %,444 J%2 %,444 J12 $25,444 J.04 $,244 J%$ 21,$44 J10 143,324 J5 10,444 J.$4 1%,444 J25
,rofitability analysis' ;ales............................................................. 8ess' 6ost of goods sold............................ @ross margin................................................ *nits sold..................................................... ,er-unit calculations' ;elling price.......................................... 8ess' 6ost of goods sold..................... 6ontribution margin............................. 6ontribution margin percentage.........
a b
/oyal -ova J%,504,444 J13,244,444 %,%$1,344 11,$44,144 J 122,144 J2,%33,344 %,444 22,444 J1,1%4.44 1,141.32 J $2.42 2.2Qa J344.44 51$.0% J$20.$0 %2.3Qb
Total J2%,$04,444 15,1$2,444 J 2,022,444
J$2.42UJ1,1%4.44 N 2.2Q J$20.$0UJ344.44 N %2.3Q
5-40
,/C+8B 5-55 (04 I-*TB;) 1. @eneral advantages associated !ith activity-based costing include the follo!ing'
,rovides management !ith a more thorough understanding of comple& product

costs and product profitability for improved resource management and pricing decisions.
Allo!s management to focus on value-added and non-value-added activities, so

that non-value-added activities can be controlled or eliminated, thus streamlining production processes.
Fighlights the relationship bet!een activities and identifies opportunities to

reduce costs (i.e., designing products !ith fe!er parts in order to reduce the cost of the manufacturing process).
,rovides a more appropriate means of charging overhead costs to products.
,/C+8B 5-55 (6C-TI-*B:) 2. *sing anchester Technology7s unit cost data, the total contribution margin e&pected from the ,6 board is J2,$04,444, calculated as follo!s' Total for %4,444 *nits J12,444,444 J5,044,444 504,444 2,2%4,444 0%4,444 044,444 J3,0%4,444 J2,$04,444
/evenue................................................................................ :irect material...................................................................... aterial-handling charge (14Q of material)....................... :irect labor (J1% per hr. % hr.)......................................... Dariable overhead (J% per hr. % hr.)K............................... achine time (J14 per hr. 1.5 hr.).................................... Total cost....................................................................... *nit contribution margin..................................................... Total contribution margin (%4,444 J53)........................... KDariable overhead rate' J1,124,444 W 224,444 hr. N J% per hr.
,er *nit J$44 J1%4 1% 50 10 15 J2%1 J53
The total contribution margin e&pected from the TD board is J1,354,444, calculated as follo!s'
5-41
5-42
/evenue................................................................................ :irect material...................................................................... aterial-handling charge (14Q of material)....................... :irect labor (J1% per hr. 1.5 hr.)...................................... Dariable overhead (J% per hr. 1.5 hr.)K............................ achine time (J14 per hr. .5 hr.)..................................... Total cost....................................................................... *nit contribution margin..................................................... Total contribution margin (05,444 J$4)........................... KDariable-overhead rate' J1,124,444 W 224,444 hr. N J% per hr. ,/C+8B 5-55 (6C-TI-*B:) $.
,er *nit J154 J 24 2 21 0 5 J124 J$4
Total for 05,444 *nits J3,154,444 J5,244,444 524,444 1,$05,444 $34,444 $25,444 J1,244,444 J1,354,444
The pool rates, !hich apply to both the ,6 board and the TD board, are calculated as follo!s' ,rocurement............................ J%44,444U%,444,444 N J.14 per part ,roduction scheduling........... J224,444U114,444 N J2.44 per board ,ac?aging and shipping......... J%%4,444U114,444 N J%.44 per board achine setup......................... J%%0,444U212,154 N J1.04 per setup Fa"ardous !aste disposal..... J%2,444U10,444 N J$.44 per lb. Puality control......................... J504,444U104,444 N J$.54 per inspection @eneral supplies..................... J00,444U114,444 N J.04 per board achine insertion.................... J1,244,444U$,444,444 N J.%4 per part anual insertion...................... J%,444,444U1,444,444 N J%.44 per part 5ave soldering........................ J1$2,444U114,444 N J1.24 per board *sing activity-based costing, the total contribution margin e&pected from the ,6 board is J1,53%,444, calculated as follo!s' Total for %4,444 *nits J12,444,444 J5,044,444 224,444
/evenue.................................................................................. :irect material........................................................................ ,rocurement (J.14 per part 55 parts)...............................
,er *nit J$44.44 J1%4.44 5.54
5-43
,roduction scheduling..........................................................
2.44
24,444
5-44
,ac?aging and shipping........................................................ achine setup (J1.04 per setup $ setups)....................... Fa"ardous !aste disposal (J$ per lb. .$5 lb.).................. Puality control (J$.54 per inspection 2 inspections)......................... @eneral supplies.................................................................... achine insertion (J.%4 per part $5 parts)....................... anual insertion (J% per part 24 parts)............................ 5ave soldering...................................................................... Total cost *nit contribution margin Total contribution margin
%.44 %.24 1.45 1.44 .04 1%.44 24.44 1.24 J204.15 J$3.25
104,444 132,444 %2,444 224,444 2%,444 504,444 $,244,444 %2,444 J14,%40,444 J1,53%,444
,/C+8B 5-55 (6C-TI-*B:) *sing activity-based costing, the total contribution margin e&pected from the TD board is J2,551,144, calculated as follo!s' Total for 05,444 *nits J3,154,444 J5,244,444 102,544 1$4,444 204,444 242,444 $,344 221,544 $3,444 02%,444 204,444 12,444 J1,132,344 J2,551,144
/evenue................................................................................ :irect material...................................................................... ,rocurement (J.14 per part 25 parts).............................. ,roduction scheduling........................................................ ,ac?aging and shipping...................................................... achine setups (J1.04 per setup 2 setups).................... Fa"ardous !aste disposal (J$ per lb. .42 lb.)................ Puality control...................................................................... @eneral supplies.................................................................. achine insertion (J.%4 per part 2% parts)..................... anual insertion................................................................... 5ave soldering..................................................................... Total cost......................................................................... *nit contribution margin..................................................... Total contribution margin....................................................
,er *nit J 154.44 J 24.44 2.54 2.44 %.44 $.24 .40 $.54 .04 3.04 %.44 1.24 J114.00 J$3.$%
5-45
%.
The analysis using the previously reported costs sho!s that the unit contribution of the ,6 board is almost double that of the TD board. Cn this basis, management is li?ely to accept the suggestion of the production manager and concentrate promotional efforts on e&panding the mar?et for the ,6 boards. Fo!ever, the analysis using activity-based costing does not support this decision. This analysis sho!s that the unit dollar contribution from each of the boards is almost equal, and the total contribution from the TD board e&ceeds that of the ,6 board by almost J1,444,444. As a percentage of selling price, the contribution from the TD board is double that of the ,6 board (20 percent versus 1$ percent).
,/C+8B 5-50 (%5 I-*TB;) 1. a. 5@66#s predetermined overhead rate, using direct-labor cost as the single cost driver, is J5 per direct labor dollar, calculated as follo!s' Cverhead rate N
total manufacturing-overhead cost budgeted direct-labor cost
N J$,444,444UJ044,444 N J5 per direct-labor dollar b. The full product costs and selling prices of one pound of Sona and one pound of alaysian coffee are calculated as follo!s' Sona :irect material........................................ :irect labor............................................. Cverhead (.$4 J5)............................... .ull product cost................................... ar?up ($4Q)......................................... ;elling price........................................... 2. J$.24 .$4 1.54 J5.44 1.54 J0.54 alaysian J%.24 .$4 1.54 J0.44 1.24 J1.24
A ne! product cost, under an activity-based costing approach, is J1.%0 per pound of Sona and J%.22 per pound of alaysian coffee, calculated as follo!s' Activity ,urchasing 6ost :river ,urchase orders +udgeted Activity 1,152 +udgeted 6ost J513,444 *nit 6ost J544
5-46
aterial handling Puality control /oasting +lending ,ac?aging
;etups +atches /oasting hours +lending hours ,ac?aging hours
1,244 124 30,144 $$,044 20,444
124,444 1%%,444 301,444 $$0,444 204,444
%44 244 14 14 14
,/C+8B 5-50 (6C-TI-*B:) Sona 6offee ;tandard cost per pound' :irect material....................................................................................... :irect labor............................................................................................ ,urchasing (% orders J544U2,444 lb.)................................................ aterial handling (12 setups J%44U2,444 lb.)................................... Puality control (% batches J244U2,444 lb.)....................................... /oasting (24 hours J14U2,444 lb.)..................................................... +lending (14 hours J14U2,444 lb.)..................................................... ,ac?aging (2 hours J14U2,444 lb.).................................................... Total cost............................................................................................... alaysian 6offee ;tandard cost per pound' :irect material....................................................................................... :irect labor............................................................................................ ,urchasing (%K orders J544U144,444 lb.).......................................... aterial handling ($4 setups J%44U144,444 lb.)............................... Puality control (14 batches J244U144,444 lb.)................................. /oasting (1,444 hours J14U144,444 lb.)............................................ +lending (544 hours J14U144,444 lb.)............................................... ,ac?aging (144 hours J14U144,444 lb.)............................................ Total cost............................................................................................... K+udgeted sales Wpurchase order si"e 144,444 lbs. W25,444 lbs. N % orders J%.24 .$4 .42 .12 .42 .14 .45 .41 J%.22 J$.24 .$4 1.44 2.%4 .%4 .14 .45 .41 J1.%0
5-47
,/C+8B 5-50 (6C-TI-*B:) $. a. The A+6 analysis indicates that several activities other than direct labor drive overhead. The cost computations sho! that the current system significantly undercosted Sona coffee, the lo!-volume product, and overcosted the highvolume product, alaysian coffee. The implication of the A+6 analysis is that the lo!-volume products are using resources but are not covering their share of the cost of those resources. The Sona blend is currently priced at J0.54 Msee requirement 1(b)L, !hich is significantly belo! its activity-based cost of J1.%0. The company should set longrun prices above cost. If there is e&cess capacity and many of the costs are fi&ed, it may be acceptable to price some products belo! full activity-based cost temporarily in order to build demand for the product. Cther!ise, the high-volume, high-margin products are subsidi"ing the lo!-volume, lo!-margin products.
b.
,/C+8B 5-51 (54 I-*TB;) 1. Activity 6ost ,ool I' achine-related costs II' ;etup and inspection III' Bngineering ID' ,lant-related costs Type of Activity *nit-level +atch-level ,roduct-sustaining-level .acility-level
,/C+8B 5-51 (6C-TI-*B:) 2. 6alculation of pool rates' I' achine-related costs'

J%54,444 3,444 machine hrs.
N J54 per machine hr.
II. ;etup and inspection'

J124,444 %4 runs
N J%,544 per run
III. Bngineering'
5-48
J34,444 144 change orders
N J344 per change order
ID. ,lant-related costs'

J30,444 1,324 sq. ft.
N J54 per sq. ft.
$.
*nit costs for odds and ends' I' achine-related costs' Cdds' J54 per machine hr. % machine hr. per unit Bnds' J54 per machine hr. 1 machine hr. per unit II' ;etup and inspection' Cdds' J%,544 per run W 54 units per run N J34 per unit Bnds' J%,544 per run W 254 units per run N J12 per unit N J244 per unit N J54 per unit
,/C+8B 5-51 (6C-TI-*B:) III' Bngineering' Cdds'

J344 per change order 144 change orders 15Q 1,444 units
N Bnds'
J01,544 N J01.54 per unit 1,444 units J344 per change order 144 change orders 25Q 5,444 units
N ID. ,lant-related costs'
J22,544 N J%.54 per unit 5,444 units
5-49
Cdds'
J54 per sq. ft. 1,324 sq. ft. 24Q 1,444 units
N Bnds'
J10,244 N J10.24 per unit 1,444 units J54 per sq. ft. 1,324 sq. ft. 24Q 5,444 units J13,244 N J$.2% per unit 5,444 units
,/C+8B 5-51 (6C-TI-*B:) %. -e! product cost per unit using the A+6 system' :irect material............................................... :irect labor.................................................... anufacturing overhead' achine-related...................................... ;etup and inspection............................. Bngineering............................................. ,lant-related............................................ Total cost per unit......................................... 5. -e! target prices' -e! product cost (A+6)............................... ,ricing policy................................................. -e! target price............................................ 0. .ull assignment of overhead costs' Cdds anufacturing overhead costs' achine-related...................................... ;etup and inspection............................. J244.44 34.44 Bnds J54.44 12.44 Cdds J54%.$4 124Q J045.10 Bnds J121.$% 124Q J211.01 (rounded) Cdds J %4.44 $4.44 244.44 34.44 01.54 10.24 J54%.$4 Bnds J 04.44 %5.44 54.44 12.44 %.54 $.2% J121.$%
5-50
Bngineering............................................. ,lant-related............................................ Total overhead cost per unit......................... ,roduction volume.................................... Total overhead assigned..............................
01.54 %.54 10.24 $.2% J%$%.$4 J10.$% 1,444 5,444 J%$%,$44 J$21,144 Total N J210,444
,/C+8B 5-51 (6C-TI-*B:) 1. 6ost distortion' Cdds Traditional volume-based costing system' reported product cost................................................ Activity-based costing system' reported product cost................................................ Amount of cost distortion per unit.................................. J 100.44 54%.$4 J($$2.$4) Traditional system undercosts odds by J$$2.$4 per unit ,roduction volume.......................................................... Total amount of cost distortion for entire product line............................................................... 1,444 J($$2,$44) Bnds J2%3.44 121.$% J 01.00 Traditional system overcosts ends by J01.00 per unit 5,444 J$$2,$44
;um of these t!o amounts is "ero.
,/C+8B 5-52 (04 I-*TB;) 1. Sara 8indley#s predecessor at -orth!est Aircraft Industries (-AI) !ould have used a 14 percent material-handling rate, calculated as follo!s' ,ayroll...................................................................................
5-51
J124,444
Bmployee benefits................................................................ Telephone............................................................................. Cther utilities........................................................................ aterials and supplies......................................................... :epreciation.......................................................................... Total aterial-Fandling :epartment costs......................... aterial-handling rate N N
total aterial-Fandling :epartment costs total direct -material costs
$0,444 $2,444 22,444 0,444 0,444 J222,444
J222,444 J2,440,444 +J21%,444
N 14Q 2. a. The revised material-handling costs to be allocated on a per-purchase-order basis is J1.44, calculated as follo!s' Total aterial-Fandling :epartment costs......................................... :educt' :irect costs' :irect government payroll.................................... J$0,444 1,244 .ringe benefits (24Q J$0,444)........................... :irect phone line.................................................... 2,244 aterial-handling costs applicable to purchase orders.................... Total number of purchase orders aterial-handling cost per purchase order b. J222,444
%0,444 J2%2,444 2%2,444 J 1.44
,urchase orders might be a more reliable cost driver than is the dollar amount of direct material, because resources are consumed in processing a purchase order. The si"e of the order does not necessarily have an impact on the consumption of resources.
5-52
,/C+8B 5-52 (6C-TI-*B:) $. There is a J1%,044 reduction in material-handling costs allocated to government contracts by -AI as a result of the ne! allocation method, calculated as follo!s' ,revious method' @overnment material........................................................... aterial-handling rate...................................................... Total (previous method)...................................................... -e! method' :irectly traceable material-handling costs MJ$0,444 V (24Q J$0,444) V J2,244L........................... ,urchase orders (24,444 J1.44)....................................... Total (ne! method).............................................................. -et reduction........................................................................ J %0,444 24,444 J120,444 J1%,044 J2,440,444 14Q J 244,044
,/C+8B 5-52 (6C-TI-*B:) %. A forecast of the cumulative dollar impact over a three-year period from 24&1 through 24&$ of Sara 8indley#s recommended change for allocating aterial-Fandling :epartment costs to the @overnment 6ontracts *nit is J2$%,$%0, calculated as follo!s' 24&2 6alculation of forecasted variable material-handling costs' :irect-material cost' 24&2 (J2,224,444 1.425)................................. 24&$ (J2,352,444 1.425)................................. aterial-handling rate (14Q)................................... :educt' :irect traceable costs K.............................. Dariable material-handling costs............................ 6alculation of forecasted purchase orders' 24&2 (2%2,444 1.45)............................................... 25%,144 J2,352,444 TTTTTTTTT J 235,244 %0,444 J 2%3,244 24&$
J $,425,244 J $42,524 %0,444 J 250,524
5-53
24&$ (25%,144 1.45)...............................................
TTTTTTTTT
200,245
5-54
@overnment purchase orders ($$Q of total)..........
2$,25$ 22,4%0(rounded)
6alculation of material-handling costs allocated to government contracts' Dariable material-handling costs............................ ,urchase orders....................................................... Dariable material-handling costs per purchase order (rounded)................................................. @overnment purchase orders................................. ,ro=ected variable material-handling costs (rounded)................................................. .i&ed material-handling costsK................................ Total material-handling costs allocated to government contracts......................................
K
J 2%3,244 25%,144 J .32 2$,25$ J 22,110 %0,444 J 122,110
J 250,524 200,245 J .30 22,4%0 J 2%,52% %0,444 J 1$4,52%
J$0,444 V (24Q J$0,444) V J2,244 N J%0,444
,/C+8B 5-52 (6C-TI-*B:) 6alculation of cumulative dollar impact' @overnment material at 14Q....................................... aterial-handling at 14Q (previous method)............. :educt' aterial-handling costs allocated to government contracts (ne! method)................... -et reduction in government contract material-handling costs........................................ 14Q J2,352,444 N J2,400,%44 14Q J$,425,244 N J2,112,404 d 14Q J2,400,%44 N J240,0%4 e 14Q J2,112,404 N J211,240
b c
J2,400,%44b J 240,0%4d 122,110 J 12,%0%
J2,112,404c J 211,240e 1$4,52% J 21,222
In summary, the cumulative dollar impact of the recommended change in allocating aterial-Fandling :epartment costs is J2$%,$%0, calculated as follo!s' 24&1 Mfrom requirement ($)L................ 24&2....................................................... 24&$.......................................................
5-55
J 1%,044 12,%0% 21,222
Total......................................................
J2$%,$%0
5-56
5.
a.
/eferring to the standards of ethical conduct for management accountants, Sara 8indley faces the follo!ing ethical issues' Competence!
,rovide decision support information and recommendations that are

accurate, clear, concise, and timely. "ntegrity!
/efrain from engaging in any conduct that !ould pre=udice 8indley#s ability
to carry out her duties ethically.
Abstain from engaging in or supporting any activity that !ould discredit

8indley#s profession.
,/C+8B 5-52 (6C-TI-*B:) Credibility!
:isclose all relevant information that could reasonably be e&pected to

influence an intended user7s understanding of the reports, analyses, or recommendations. 8indley has information that >ay ,reston should see if he is going to ma?e a reliable =udgment about the results of the @overnment 6ontracts *nit. b. The steps Sara 8indley could ta?e to resolve this ethical conflict are as follo!s'
8indley should first follo! the established policies at -AI. If this approach does not resolve the conflict or if such policies do not e&ist,
she should discuss the problem !ith her immediate superior, e&cept !hen it appears that the superior is involved. If the @overnment 6ontracts *nit manager, ,aul Anderson, is her superior, then she obviously cannot discuss the problem !ith him. In this case she should go to the ne&t-higher managerial level and continue, up to the audit committee of the board of directors, until the conflict is resolved.
;he should also discuss the situation !ith an ob=ective advisor to clarify the
issues involved and obtain an understanding of possible courses of action.
5-57
If the ethical conflict still e&ists after e&hausting all levels of internal revie!,
then she may have no other course of action than to resign from the company and submit an informative memorandum to an appropriate representative of the company.
,/C+8B 5-53 (54 I-*TB;) 1. a. The calculation of total budgeted costs for the anufacturing :epartment at arconi anufacturing is as follo!s' :irect material' Tuff ;tuff (J5.44 per unit 24,444 units)............. /uff ;tuff (J$.44 per unit 24,444 units)............. Total direct material.................................................... :irect labor.................................................................. Cverhead' Indirect labor.......................................................... .ringe benefits....................................................... Indirect material..................................................... ,o!er...................................................................... ;etup....................................................................... Puality assurance.................................................. Cther utilities.......................................................... :epreciation........................................................... Total overhead............................................................ Total anufacturing :epartment budgeted cost..... b. J144,444 04,444 J 104,444 244,444 J 2%,444 5,444 $1,444 124,444 15,444 14,444 14,444 15,444
$54,444 J1,$14,444
The unit costs of Tuff ;tuff and /uff ;tuff, !ith overhead assigned on the basis of direct-labor hours, are calculated as follo!s' Tuff ;tuff' :irect material........................................................ :irect labor (J2.44 per hour 2 hours)K.............. Cverhead (J$.54 per hour 2 hours)K................. Tuff ;tuff unit cost........................................... K+udgeted direct labor hours' Tuff ;tuff (24,444 units 2 hours)............................ /uff ;tuff (24,444 units $ hours)............................ J5.44 10.44 1.44 J22.44 %4,444 04,444
5-58
Total budgeted direct-labor hours............................
144,444
5-59
:irect-labor rate' J244,444 per 144,444 hours Cverhead rate' J$54,444 per 144,444 hours ,/C+8B 5-53 (6C-TI-*B:)
N N
J2.44 per hour J$.54 per hour
/uff ;tuff' :irect material........................................................ :irect labor (J2.44 per hour $ hours)K.............. Cverhead (J$.54 per hour $ hours)K................. /uff ;tuff unit cost........................................... K+udgeted direct labor hours Tuff ;tuff (24,444 units 2 hours)............................ /uff ;tuff (24,444 units $ hours)............................ Total budgeted direct-labor hours............................ :irect-labor rate' J244,444 per 144,444 hours Cverhead rate' J$54,444 per 144,444 hours 2.
J $.44 2%.44 14.54 J$1.54 %4,444 04,444 144,444
N J2.44 per hour N J$.54 per hour
The total budgeted cost of the .abricating and Assembly :epartments, after separation of overhead into the activity cost pools, is calculated as follo!s' Total .abricating ,ercent :ollars 144Q J104,444 15Q 044,444 15Q 24Q J12,444 %,444 24,444 104,444 5,444 2,444 5,444 12,444 J2$2,444 J332,444 Assembly ,ercent :ollars 25Q 25Q 24Q J244,444 J 0,444 1,444 11,444 24,444 14,444 2,444 5,444 $,444 J112,444 J$12,444
:irect material........... :irect labor............... Cverhead' Indirect labor .ringe benefits Indirect material ,o!er ;etup Puality assurance Cther utilities :epreciation Total overhead Total cost
J104,444 244,444 J 2%,444 5,444 $1,444 124,444 15,444 14,444 14,444 15,444 J $54,444 J1,$14,444
24Q 54Q 24Q
24Q 54Q 24Q
5-60
,/C+8B 5-53 (6C-TI-*B:) $. The unit costs of the products using activity-based costing are calculated as follo!s' J332,444 104,444 044,444 J2$2,444
.abricating' Total cost................................................................................. 8ess' :irect material............................................................... 8ess' :irect labor.................................................................... ,ool overhead cost................................................................. Fours'
22,444 hours Tuff ;tuff (%.% hours 24,444 units)..................... 124,444 hours /uff ;tuff (0.4 hours 24,444 units).................... Total machine hours................................... 242,444 hours ,ool rate per machine hour (J2$2,444U242,444).................... J1.12 per hour (rounded) .abricating cost per unit' Tuff ;tuff (J1.12 %.% hours).... J%.3$ per unit (rounded) /uff ;tuff (J1.12 0.4 hours)... J0.12 per unit (rounded) Assembly' Total cost................................................................................. 8ess' :irect labor.................................................................... ,ool overhead cost................................................................. ;etups' J$12,444 244,444 J112,444
Tuff ;tuff.............................................................. 1,444 /uff ;tuff............................................................. 212 Total setups................................................ 1,212 ,ool rate per setup (J112,444U1,212)...................................... J32.11 per setup (rounded) ;etup cost per unit' Tuff ;tuff (J32.11 per setup 1,444 set-ups) W 24,444 units J%.0% per unit (rounded) /uff ;tuff (J32.11 per setup 212 set-ups) W 24,444 units... J1.20 per unit (rounded) Tuff ;tuff unit cost' :irect material......................................................................... :irect labor (2 hours J2 per hour)...................................... .abrication overhead.............................................................. Assembly overhead................................................................ Tuff ;tuff unit cost.......................................................... J5.44 10.44 %.3$ %.0% J$4.51
5-61
,/C+8B 5-53 (6C-TI-*B:) /uff ;tuff unit cost' :irect material....................................................................... :irect labor ($ hours J2 per hour).................................... .abrication overhead............................................................ Assembly overhead............................................................... /uff ;tuff unit cost........................................................ %. /uff ;tuff unit costs' 6ost !ith overhead assigned on basis of direct-labor hours...... 6ost using activity-based costing.................................................. J$1.54 J$%.32 J$.44 2%.44 0.12 1.20 J$%.32
The activity-based costing unit costs may lead the company to decide to lo!er its price for /uff ;tuff in order to be more competitive in the mar?et and continue production of the product. It no! appears that /uff ;tuff has lo!er unit costs and can afford lo!er prices. *sing A+6 for assigning overhead costs generally leads to a more accurate estimate of the costs incurred to produce a product. anagement should be able to ma?e better informed decisions regarding pricing and production of the company7s products.
"ROBLEM )-*+ ,*+ MINUTES1. +ased on the cost data from @igabyte#s traditional, volume-based product-costing system, product @ is the firm#s least profitable product. Its reported actual gross margin is only J22.44, as compared !ith J2%.15 and J14%.54 for products T and 5, respectively. Fo!ever, the validity of this conclusion depends on the accuracy of the product costs reported by @igabyte#s product-costing system. Again, based on the product costs reported by the firm#s traditional, volume-based product-costing system, product 5 appears to be very profitable. As in requirement (1), ho!ever, the validity of this assessment depends on the accuracy of the reported product costs.
2.
5-62
$.
@igabyte#s competitors have moved aggressively into the mar?et for gismos (product @), but they have abandoned the !hatchamacallit (product 5) mar?et to @igabyte. These competing firms apparently believe they can sell gismos at a much lo!er price than @igabyte#s management feels is feasible. This evidence suggests that @igabyte#s competitors may believe their product cost for gismos is belo! @igabyte#s reported product cost. In contrast, @igabyte#s competitors apparently believe that they cannot afford to sell !hatchamacallits at @igabyte#s current price of J244. ,erhaps the competing firms# reported production costs for product 5 are higher than the cost reported by @igabyte#s product-costing system. The danger to @igabyte is that the company !ill be forced out of the mar?et for its second largest selling product. This could be disastrous to @igabyte, Inc.
%.
,ercentages for ra!-material costs' Annual /a!- aterial 6ost J 224,444 121,544 14,444 J1,1$1,544 ,ercentage of Total /a!- aterial 6ostK 25Q 03Q 0Q 144Q
,roduct @ T 5 Total
/a!- aterial 6ost per *nit J$5.44 52.54 11.54
Annual Dolume 2,444 15,444 %,444
K,ercentages rounded to nearest !hole percent.
,/C+8B 5-04 (6C-TI-*B:) 5. ,roduct costs based on an activity-based costing system (rounded)' ,roduct @ :irect material................................................ :irect labor..................................................... achine setupa............................................... achineryb...................................................... Inspectionc...................................................... aterial handlingd.......................................... Bngineeringe...................................................
5-63
,roduct T J52.54 12.44 .11 %4.2$ 15.15 %4.25 2.$4
,roduct 5 J11.54 2.44 .00 10.50 52.54 1$.1$ %1.%4
J$5.44 10.44 .1$ $2.22 3.2% 21.$% 15.42
Total................................................................
a
J1%1.01
J10$.1%
J215.15
achine setup' ,roduct @' (J5,254 24Q) ,roduct T' (J5,254 $4Q) ,roduct 5' (J5,254 54Q) b achinery' ,roduct @' (J1,225,444 25Q) ,roduct T' (J1,225,444 54Q) ,roduct 5' (J1,225,444 25Q) c Inspection' ,roduct @' (J525,444 15Q) ,roduct T' (J525,444 %5Q) ,roduct 5' (J525,444 %4Q) d aterial handling' ,roduct @' (J215,444 25Q) ,roduct T' (J215,444 03Q) ,roduct 5' (J215,444 0Q) e Bngineering' ,roduct @' (J$%%,154 $5Q) ,roduct T' (J$%%,154 14Q) ,roduct 5' (J$%%,154 55Q) ,/C+8B 5-04 (6C-TI-*B:) 0.
2,444 units N 15,444 units N %,444 units N 2,444 units N 15,444 units N %,444 units N 2,444 units N 15,444 units N %,444 units N 2,444 units N 15,444 units N %,444 units N 2,444 units N 15,444 units N %,444 units N
J.1$ J.11 J.00 J$2.22 J%4.2$ J10.50 J3.2% J15.15 J52.54 J21.$% J%4.25 J1$.1$ J15.42 J2.$4 J%1.%4
6omparison of reported product costs, ne! target prices, and actual selling prices' ,roduct @ /eported product costs' Traditional, volume-based costing system Activity-based costing system Target price based on ne! product costs (154Q ne! product cost) 6urrent actual selling price J131.44 1%1.01 212.51 21$.44 ,roduct T J103.54 10$.1% 2%5.01 25%.25 ,roduct 5 J35.54 215.15 $2$.0$ 244.44
5-64
1. In the electronic version of the solutions manual, press the 6T/8 ?ey and clic? on the follo!ing lin?' +*I8: A ;,/BA:;FBBT 45-04.I8;
,/C+8B 5-01 (15 I-*TB;) MEMORAN!UM :ate' To' .rom' ;ub=ect' Today ,resident, @igabyte, Inc. I. . ;tudent @igabyte#s competitive position
@igabyte#s product-costing system has been providing misleading product cost information. Cur traditional, volume-based costing system overcosted gismos and thingama=igs, but it substantially undercosted !hatchamacallits. As a result @igabyte has been overpricing gismos and underpricing !hatchamacallits. The company has been losing money on every sale in the product 5 mar?et. Cur competitors have ta?en advantage of our mispricing by moving aggressively into the gismo mar?et and abandoning the !hatchamacallit mar?et to @igabyte. As a result, our profitability has suffered. I recommend the follo!ing courses of action' 1. 2. $. Implement the ne! activity-based costing system and revise its database frequently. 8o!er the target price of gismos to J21$, the current actual selling price. This price yields our usual 54 percent mar?up over product cost. 6onsider lo!ering the price of thingama=igs to J2%0 in order to increase demand. The lo!er price still yields @igabyte a 54 percent mar?up over product cost.
,/C+8B 5-01 (6C-TI-*B:) %. /aise the price of !hatchamacallits to J$2%. If the product does not sell at that price, consider discontinuing the product line.
5-65
,/C+8B 5-02 (15 I-*TB;) ,roduct @ Traditional, volume-based costing system' reported product cost...................................... Activity-based costing system' reported product cost...................................... Amount of cost distortion per unit....................... J131.44 1%1.01 J%3.$$ Traditional system overcosts product @ by J%3.$$ per unit ,roduct volume...................................................... Total amount of cost distortion for entire product line...................................................... 2,444 J$3%,0%4 ,roduct T J103.54 10$.1% J 5.10 Traditional system overcosts product T by J5.10 per unit 15,444 J20,%44 ,roduct 5 J 35.54 215.15 J(124.25) Traditional system undercosts product 5 by J124.25 per unit %,444 J(%21,444)
;um of these three amounts is J%4. It !ould be "ero e&cept for the slight rounding errors in the calculation of the ne! product costs to the nearest cent.
,/C+8B 5-0$ (25 I-*TB;) 1. ,rocess time' steps $, 5, 0, 1, 2, 14, 11 Inspection time' steps 1, 3 ove time' steps 2, 5, 0, 1, 14, 11 5aiting time' steps %, 5, 1
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;torage time' steps 1, 11 2. 6andidates for non-value-added activities follo!. (-ote that elimination of some of these activities !ould require reconfiguring the production process.) (a) (b) (c) (d) (e) (f) (g) (h) (i) (=) (?) (l) ;tep 1' ;tep 2' ;tep %' ;tep 5' ;tep 5' ;tep 0' ;tep 1' ;tep 1' ;tep 1' ;tep 3' ;tep 14' ;tep 11' ;toring ingredients (6ould move to!ard >IT system.) 6arrying ingredients on hand carts. ;toring dough until bagel machine is free. (6ould move to!ard a >IT system for dough mi&ing.) 6arrying board of dough into bagel room. Seeping cut-out bagels until boiling vat is free. (6ould move to!ard a >IT system.) 6arrying uncoo?ed bagels to ad=oining room. 6arrying bagels to oven room. Folding bagels until oven rac? is free. 6ontinual opening and closing of oven door. 6onsumption of misshapen bagels by the staff. (6ould these faulty products be sold at a reduced priceA) 6arrying !ire bas?ets to the pac?aging room. :riving for?lift to free"er< storing fro"en bagels.
,/C+8B 5-0% (%4 I-*TB;) (1) /edesigned bagel production process' (a) Ingredients, such as flour and raisins, are received and inspected in the morning or afternoon they are to be used. Then they are placed on a conveyor belt that transports the ingredients to the mi&ing room ne&t door.
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(b)
:ough is mi&ed in %4-pound batches in four heavy-duty mi&ers. The dough is placed on large boards, !hich are set on the conveyor. The conveyor transports the boards of dough into the bagel room ne&t door. The board is tipped automatically and the dough slides into the hopper of a bagel machine. This machine pulls off a piece of dough, rolls it into a cylindrical shape, and then squee"es it into a doughnut shape. The bagel machines can be ad=usted in a setup procedure to accommodate different si"es and styles of bagels. 5or?ers remove the uncoo?ed bagels and place them on a tray. The trays are set on the conveyor, !hich carries the uncoo?ed bagels into an ad=oining room. This room houses three 54-gallon vats of boiling !ater. The bagels are boiled for appro&imately one minute. +agels are removed from the vats !ith a long-handled strainer and placed on a !ooden board. The boards full of bagels are placed on the conveyor, !hich transports them to the oven room. The t!o ovens contain eight rac?s that rotate but remain upright, much li?e the seats on a .erris !heel. A rac? full of bagels is finished ba?ing after one complete revolution in the oven. 5hen a rac? full of bagels is removed from the oven, a fresh rac? replaces it. The oven door automatically opens and closes as each rac? completes a revolution in the oven. After the bagels are removed from the oven, they are placed in bas?ets for cooling. 5hile the bagels are cooling, they are inspected. isshapen bagels are removed and set aside for sale at a reduced price.
(c)
(d) (e)
(f)
(g) (h)
,/C+8B 5-0% (6C-TI-*B:) (i) (=) After the bagels are cool, the !ire bas?ets are placed on the conveyor and transported to the pac?aging room ne&t door. Fere the bagels are dumped automatically into the hopper on a bagging machine. This machine pac?ages a half do"en bagels in each bag and seals the bag !ith a t!ist tie. Then the pac?aged bagels are placed in cardboard bo&es, each holding 2% bags.
(?)
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(l)
The bo&es are placed in the free"er, !here the bagels are fro"en and stored for shipment. The free"er has a door in the pac?aging room, and another door in the shippingUreceiving room.
(2)
Sey features of a >IT system' The ne! production process has a smooth, uniform production rate !ith each part of the process being initiated by the subsequent operation. Thus, the bagelry uses a pull method of coordinating production steps# The ingredients are purchased as needed in small lot si$es, delivered t!ice daily, and sent immediately to the mi&ing room. The bagel machine is designed for %uick setups for different bagel si"es and consistency. Cnly high&%uality ingredients are used in order to eliminate do!n time and to follo! a total %uality control philosophy. 'he machinery is carefully maintained# The bagelry#s employees are encouraged to suggest improvements in the product or production process. Bmployees !hose suggestions are adopted receive cash a!ards or peer recognition. All of the bagelry#s employees are trained in each phase of the production process. Thus, the multiskilled work force enables the firm to operate !ith fe!er employees.
($)
-e! equipment' anagement !ould need to purchase a ne! conveyor system that !ould transport partially completed bagels bet!een production steps. The conveyor !ould tip the bagels automatically into appropriate production machines at various points in the process. Also needed !ould be an efficient oven that !ould open and close automatically (and quic?ly) to minimi"e heat loss.
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,/C+8B 5-05 (%5 I-*TB;) 1. T!o dimensional A+6' Cost Assignment View /B;C*/6B 6C;T; Assignment of resource costs to activity cost pools associated !ith significant activities
0
Process View
1 1 11
Activity analysis
2 2 $ 3 % 14 5 12 1$ 1% 15 10
Activity evaluation ,B/.C/ A-6B BA;*/B;

(see req. (%) for e&amples)
/CCT 6A*;B;
(see req. ($) for (see req. (2) for e&amples) e&amples)
A6TIDITE T/I@@B/;
A6TIDITIB;
Assignment of activity costs to cost ob=ects using second-stage cost drivers 6C;T C+>B6T; (,roduct lines' coo?ing utensils, table!are, flat!are)
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,/C+8B 5-05 (6C-TI-*B:) 2. Triggers for selected activities' Activity -umber Trigger (2) /eali"ation by purchasing personnel that they do not fully understand the part specifications (3) (11) (12) (1$) $. /eali"ation by purchasing personnel that the ordered part !ill be (or may be) late in arriving /eceipt of order :iscovery during inspection that parts do not meet specifications :iscovery that parts do not satisfy intended purpose
,ossible root causes' Activity -umber ,ossible /oot 6ausesK (2) *nclear specifications Incomplete specifications 6lear, but apparently !rong, specifications *ndertrained purchasing personnel (3) Dendor delay :elay in placing order .ailure by purchasing personnel to ma?e deadline clear *se of vendor that has not been fully certified as a reliable supplier 6ritical importance of parts isspecification of parts Brror by purchasing personnel in placing order Dendor error Inspector error isspecification of parts Incomplete specifications ,oor product design Brror by purchasing personnel in placing order Dendor error
(11) (12)
(1$)
KThis list is not necessarily complete. Cther root causes may e&ist.
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,/C+8B 5-05 (6C-TI-*B:) %. ;uggested performance measures' Activity ,erformance -umber easures (5) Average price paid (0) (14) (12) (10) -umber of vendors -umber of vendors that are precertified as dependable ,ercentage of orders received on time Average delay for delinquent orders -umber of orders returned ,ercentage of orders returned Average dollar value tied up in parts inventory
,/C+8B 5-00 (%4 I-*TB;) 1. 6ustomer-profitability analysis' Trace Telecom ;ales revenue...................................................................... 6ost of goods sold.............................................................. @ross margin....................................................................... ;elling and administrative costs' @eneral selling costs.................................................... @eneral administrative costs....................................... 6ustomer-related costs' ;ales activity........................................................... Crder ta?ing............................................................. ;pecial handling...................................................... ;pecial shipping...................................................... Total selling and administrative costs............................... Cperating income................................................................ 2. J134,444 24,444 J114,444 J 2%,444 13,444 2,444 $,444 %4,444 3,444 J14$,444 J 1,444 6alte& 6omputer J12$,244 02,444 J 01,244 J 12,444 10,444 0,444 %,444 $4,444 14,444 J 2%,444 J (22,244)
In the electronic version of the solutions manual, press the 6T/8 ?ey and clic? on the follo!ing lin?' +uild a ;preadsheet 45-00.&ls
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,/C+8B 5-01 (%5 I-*TB;) 1. 6ustomer-profitability profile (supporting details in the table follo!ing the profile)'
6umulative Cperating Income as a ,ercentage of Total Cperating Income

124Q 114Q 144Q 34Q 24Q 14Q 04Q 54Q %4Q $4Q 24Q 14Q 4Q 1 2 $ % 5 0 1 2
6ustomersK
K6ustomers ran?ed by operating income.
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,/C+8B 5-01 (6C-TI-*B:) ;upporting details for customer-profitability profile' 6umulative Cperating ,rofit as a ,ercentage of Cperating Income $3Q 03Q 3%Q 111Q 11%Q 111Q 143Q 144Q
6ustomer -umbera (1) (2) ($) (%) (5) (0) (1) (2)
a b
6ustomer -et!or?-All, Inc. @olden @ate ;ervice Associates @raydon 6omputer 6ompany id-;tate 6omputing 6ompany Trace Telecomb The 6alifornia @roup Tele-Install, Inc. 6alte& 6omputerc
Cperating ,rofit J3$,444 11,444 04,444 %2,444 1,444 0,444 (12,444) (22,244)
6umulative Cperating ,rofit J 3$,444 10%,444 22%,444 200,444 21$,444 213,444 201,444 2$2,244
6ustomer numbers are ran?ed by operating income. .rom solution to preceding problem. c .rom solution to preceding problem. 2. :ate' emorandum Today I. ;ellit, Dice ,resident for ar?eting I. . ;tudent 6ustomer-profitability profile
To:
.rom' ;ub=ect'
The attached customer-profitability profile sho!s that t!o of our customer relationships are unprofitable (Tele-Install, Inc. and 6alte& 6omputer). As the profile sho!s, over half of our operating income is generated by our t!o most profitable customers, and 3% percent of our operating profit is generated by our three most profitable customers. 5ithout our t!o unprofitable customers, our operating income !ould be 11Q higher. An activity-based costing analysis of customer-related costs provided the data for the customer-profitability analysis portrayed in the profile.
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SOLUTIONS TO CASES
6A;B 5-02 (%5 I-*TB;) 1. Activity-based costing (A+6) differs from traditional costing in that it focuses on activities that consume resources as the fundamental cost drivers. A+6 is a t!o-stage cost assignment process focused on causality and the determination of cost drivers. It usually uses several different activities to assign costs to products or services. Therefore, it is more detailed and more accurate than traditional costing. It also helps managers distinguish bet!een value added and non-value added activities. 6alculations of total activity cost pools and pool rates' achining................. (J%2%,522 1.40) (15,444 hours V $4,444 hours) N J%54,444K %5,444 hours N J14 per machine hour K/ounded Assembly.................. (J210,321 1.40) (0,444 hours V 5,544 hours) N J2$4,444K 11,544 hours N J24 per assembly hour K/ounded aterial handling...... (J50,04% 1.40) M(5 parts 5,444 units) V (14 parts 5,444 units)L N J04,444K (25,444 parts V 54,444 parts) N J04,444 15,444 parts N J.24 per part K/ounded Inspection................. (J111,325 1.40) (5,444 hours V 1,544 hours) N J125,444K 12,544 hours N J14 per inspection hour K/ounded
2.
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6A;B 5-02 (6C-TI-*B:) $. >/-1% Bstimated 24&1 24&2 6ost ,roduct :ata 6ost :irect material' -o cost increase................. J1,444,444 :irect labor' :irect labor J125,125 244,444 1.42 cost increase......... achining' achining activity in hours 15,444 154,444 J14 per hour.................. Assembly' Assembly activity in hours 0,444 124,444 J24 per hour.................. aterial handling' -umber of parts 5 units produced............. 5,444 25,444 24,444 J.24 per unit.................. Inspection' Inspection hours 5,444 54,444 J14 per hour.................. Total cost.............................. J1,5%4,444 / -1$ Bstimated 24&1 24&2 6ost ,roduct :ata 6ost J1,154,444 J32,53$ (rounded) $4,444 $44,444 5,544 114,444 14 5,444 54,444 %4,444 1,544 15,444 J2,$15,444 144,444 (rounded)
5-76
6A;B 5-02 (6C-TI-*B:) %. W(ITESTONE COM"AN# BU!%ETE! STATEMENT O$ %ROSS MAR%IN $OR .+ . ;ales revenue.................................................. 6ost of goods manufactured and sold' +eginning finished-goods inventory............. Add' :irect material..................................... :irect labor.......................................... achining............................................ Assembly............................................. aterial handling................................. Inspection............................................ 6ost of goods available for sale.................... 8ess' Bnding finished-goods inventoryK.... 6ost of goods sold......................................... @ross margin................................................... >/-1% J1,214,544 / -1$ J2,223,544 Total J%,4%4,444 J 5%4,444 2,154,444 $44,444 %54,444 2$4,444 04,444 125,444 J%,%55,444 5%2,144 J$,340,344 J 1$$,144
J 2%4,444 J $44,444 1,444,444 1,154,444 244,444 144,444 154,444 $44,444 124,444 114,444 24,444 %4,444 54,444 15,444 J1,124,444 J2,015,444 215,044 $$2,544 J1,50%,%44 J2,$%2,544 J 2%0,144 J (11$,444)
KBnding finished-goods inventory N (total product cost inventory in units'
units produced) ending
>/-1%' (J1,5%4,444 5,444 units) 144 units N J215,044 / -1$' (J2,$15,444 5,444 units) 144 units N J$$2,544
6A;B 5-03 (04 I-*TB;) 1. ;tandard odel ,roduct costs based on traditional, volumebased costing system............................... Z 114Q.............................................................. Target price...................................................... J145.44 114Q J115.54 :elu&e odel J215.44 114Q J2$0.54 Feavy-:uty odel J2$2.44 114Q J255.24
5-77
6A;B 5-03 (6C-TI-*B:) 2. ,roduct costs based on activity-based costing system' /egular odel :irect material.................................................. :irect labor...................................................... achinery depreciation and maintenancea. . . Bngineering, inspection and repair of defectsb........................................ ,urchasing, receiving, shipping, and material handlingc...................................... .actory depreciation, ta&es, insurance, and miscellaneous overhead costsd........ Total..................................................................
a
;tandard odel J25.44 24.44 242.44 %$.54 52.44 23.25 J%$1.15
:elu&e odel J%2.44 24.44 15.24 $%.42 23.25 25.53 J220.12
J14.44 14.44 $2.44 11.4% 15.22 12.54 J30.22
,ool I' :epreciation, machinery............................................................... aintenance, machinery............................................................... Total................................................................................................ ;tandard' :elu&e' Feavy-:uty' (J1,044,444 %4Q) 24,444 N (J1,044,444 1$Q) 1,444 N (J1,044,444 %1Q) 14,444 N J$2.44 J242.44 J15.24
J1,%24,444 124,444 J1,044,444
,ool II' Bngineering.................................................................................... Inspection and repair of defects.................................................. Total................................................................................................ ;tandard' :elu&e' Feavy-:uty' (J125,444 %1Q) 24,444 N (J125,444 0Q) 1,444 N (J125,444 %1Q) 14,444 N J11.4% J%$.54 J$%.42
J$54,444 $15,444 J125,444
5-78
6A;B 5-03 (6C-TI-*B:)

c
,ool III' ,urchasing, receiving, and shipping........................................... aterial handling........................................................................... Total................................................................................................ ;tandard' :elu&e' Feavy-:uty' (J054,444 %1Q) 24,444 N (J054,444 2Q) 1,444 N (J054,444 %5Q) 14,444 N J15.22 J52.44 J23.25
J254,444 %44,444 J054,444
,ool ID' :epreciation, ta&es, and insurance for factory........................... iscellaneous manufacturing overhead..................................... Total................................................................................................ ;tandard' :elu&e' Feavy-:uty' (J535,444 %2Q) (J535,444 15Q) (J535,444 %$Q) 24,444 N 1,444 N 14,444 N J12.54 J23.25 J25.53
J$44,444 235,444 J535,444
$. ;tandard odel ,roduct costs based on activity-based costing system.................................................. Z 114Q....................................................................... -e! target price........................................................ J30.22 114Q J140.54 :elu&e odel J%$1.15 114Q J%21.5$ Feavy :uty odel J220.12 114Q J2%2.1$
The ne! target price of the standard model, J140.54, is lo!er than the current actual selling price, J114.
5-79
6A;B 5-03 (6C-TI-*B:) %. :ate' To' .rom' ;ub=ect' Today ,resident orelli Blectric otor 6orporation I. . ;tudent ,roduct costing MEMORAN!UM
+ased on the cost data from our traditional, volume-based product-costing system, our standard model is not very profitable. Its reported actual contribution margin is only J5 (J114 R J145). Fo!ever, the validity of this conclusion depends on the accuracy of the product costs reported by our product-costing system. Cur competitors are selling motors li?e our standard model for J140. This price suggests that their product cost is substantially belo! our previously reported cost of J145. Cur ne! activity-based-costing system reveals serious product cost distortions stemming from our old costing system. The ne! costing system sho!s that the standard model costs only J30.22, !hich implies a target price of J140.54. This price is lo!er than our current actual selling price and consistent !ith the price our competitors are charging. In contrast, our ne! product-costing system reveals that the delu&e model#s product cost is J%$1.15 instead of the previously reported cost of J215. The ne! product cost suggests a target price of J%21.5$ for the delu&e model, rather than J2$0.54, !hich !as our previous target price for the delu&e model.
5-80
6A;B 5-03 (6C-TI-*B:) 5. The company should adopt and maintain the activity-based costing system. The price of the standard model should be lo!ered to the J140. 8o!ering the price should enable the firm to regain its competitive position in the mar?et for the standard model. .urther price cuts should be considered if mar?eting studies indicate such a move !ill increase demand. The price of the delu&e model should be set near the target price of J%21.5$. If the delu&e model does not sell at this price, management should consider discontinuing the product line. Input from the mar?eting staff should be sought before such an action is ta?en. An important consideration is the e&tent to !hich sales in the standard model and heavy-duty model mar?ets depend on the firm#s offering a complete product line. A slight price reduction should be considered for the heavy-duty model (from J255.24 do!n to J2%2.1$). Fo!ever, the product cost distortion from the old costing system did not affect this model as seriously as it did the other t!o. 6A;B 5-14 ($4 I-*TB;) ;tandard odel Traditional, volume-based costing system' reported product cost....................................... Activity-based costing system' reported product cost....................................... Amount of cost distortion per unit.......................... J145.44 30.22 J2.12 Traditional system overcosts standard model by J2.12 per unit ,roduct volume...................................................... Total amount of cost distortion for entire product line........................................................ 24,444 J10$,044 :elu&e odel J215.44 %$1.15 J(222.15) Feavy-:uty odel J2$2.44 220.12 J5.22 Traditional system overcosts heavy-duty model by J5.22 per unit 14,444 J52,244
Traditional system undercosts delu&e model by J222.15 per unit 1,444 J(222,154)
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;um of these three amounts is J($54). It !ould be "ero e&cept for the slight rounding errors in the calculation of the ne! product costs to the nearest cent.
6A;B 5-11 (24 I-*TB;) 1. The controller, Brin >ac?son, has acted ethically up to this point. ;he correctly pointed out to the president that the firm#s traditional, volume-based product-costing system !as distorting the reported product cost for the company#s three products. ;he designed an activity-based costing system to provide more accurate productcosting data. The production manager, Alan Tyler, is not acting ethically. Although !e can sympathi"e !ith his plight, !e cannot condone his pressuring the controller to suppress or alter the ne! product-costing data she has compiled. 5hat can Tyler do that is ethical and has the potential for positive resultsA .irst, he could ta?e a hard loo? at the delu&e model#s production process. Are there non-value-added activities that could be reduced or eliminatedA ;econd, he could argue to the president that the company should carry a full product line, if he has reason to believe that is the firm#s best strategy. $. >ac?son has an ethical obligation to the president, to the company, to her profession, and to herself to report accurate product-costing data to the president. There is nothing !rong !ith her offer to her friend to go over her analysis again to verify its accuracy. Fo!ever, she must report !hat she finds !ith no suppression or alteration of the data. ;everal of the ethical standards for managerial accounting apply in this case. (;ee 6hapter 1 for a listing of these standards.) The standards that are most clearly relevant include the follo!ing' "ntegrity!
2.
6ommunicate unfavorable as !ell as favorable information and professional

=udgments or opinions.
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(b)ectivity!
5-83
6ommunicate information fairly and ob=ectively. :isclose fully all relevant information that could reasonably be e&pected to
influence an intended user#s understanding of the reports, comments, and recommendations presented.
6A;B 5-11 (6C-TI-*B:) >ac?son is in a tough spot. Fer professional obligation to report accurate product costs is clear. ;he cannot ethically avoid this responsibility. Eet her friend Tyler is in a tenuous position. 5hat can >ac?son ethically do for himA .irst, she can be compassionate and understanding of his concern, yet remain firm in meeting her professional obligations. ;econd, she can assist the production manager in finding !ays to manufacture the delu&e model electric motor more efficiently and at a lo!er cost. .or e&ample, she can share her A+6 analysis !ith Tyler to help him identify non-value-added activities and costs.
$OCUS ON ET(ICS ,SEE "A%E /01 IN T(E TE T2This scenario e&plores ethical issues surrounding activity-based costing. Among the potential ethical issues in this situation are the follo!ing' Fo! did the product-line proliferation at the 6harlotte plant come aboutA 5ere product-line managers more concerned !ith maintaining their spheres of influence than ma?ing product discontinuance decisions that !ould be in the company7s best interestA At the very least, the company seems to e&hibit a lac? of discipline and focus. ,roducts that have been dropped as a result of sound analysis should not routinely creep bac? into the product line. 5hy did top management refuse to adopt the recommendations of the A+6 analysisA It is sometimes said that top managers are compensated and re!arded !ith other per?s in accordance !ith the si"e of the business unit they manage. ore product lines, more departments, and more employees mean more prestige, higher pay and bonuses, and greater prospects for advancement in the company (or another company). Are top managers putting their o!n !ell-being ahead of the company7sA
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Alternatively, perhaps management is genuinely concerned about the implications for their employees if a large number of products are dropped. Is it ethical for management to put the interests of their employees ahead of those of the company7s shareholdersA 5as it ethical for Iavier7s top management to sell the Bngine ,arts :ivision, probably suspecting that the 6harlotte plant !ould be closed and people !ould be laid offA [Final version]
5-85

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Chapter 05 - Activity-Based Costing and Management

CHAPTER 5 Activity-Based Costing and Management

Chapter 05 - Activity-Based Costing and Management

Chapter 05 - Activity-Based Costing and Management

Chapter 05 - Activity-Based Costing and Management

Chapter 05 - Activity-Based Costing and Management

Process View Activity analysis /CCT A6TIDITE 6A*;B; T/I@@B/;

Chapter 05 - Activity-Based Costing and Management

Chapter 05 - Activity-Based Costing and Management

The G,ullH ethod in a >IT ;ystem

Chapter 05 - Activity-Based Costing and Management

J54,444 O 5 (5 + 15) K = J544 25

KThe number of material moves for the mirror product line.

Chapter 05 - Activity-Based Costing and Management

Chapter 05 - Activity-Based Costing and Management

Chapter 05 - Activity-Based Costing and Management

Chapter 05 - Activity-Based Costing and Management

Chapter 05 - Activity-Based Costing and Management

(%) (5) (0) (1) (2) (3) (14)

(1%) (15) (10) (11) (12) (13)

Chapter 05 - Activity-Based Costing and Management

Crder ;i"e edium 8arge J1$5,444 J5$%,444

Chapter 05 - Activity-Based Costing and Management

Chapter 05 - Activity-Based Costing and Management

*nit cost per order of a given si"ef...............................................

Chapter 05 - Activity-Based Costing and Management

BIB/6I;B 5-$1 (6C-TI-*B:)

Chapter 05 - Activity-Based Costing and Management

,reparing aircraft for departure

Chapter 05 - Activity-Based Costing and Management

Ta?ing reservations 6ustomers !aiting for a table

6ustomer calls on phone 6ustomer arrives, but no table is ready

6ustomers eating meal 6learing the table

eals are served and are satisfactory 6ustomers are finished

Chapter 05 - Activity-Based Costing and Management

6ustomers have produced cash or credit card

/estaurant needs to collect payment for services rendered

Chapter 05 - Activity-Based Costing and Management

Chapter 05 - Activity-Based Costing and Management

Indirect labor (e.g., a lift-truc? driver, maintenance and inspection labor,

Chapter 05 - Activity-Based Costing and Management

Cther indirect manufacturing costs (e.g., building maintenance, machine and

Chapter 05 - Activity-Based Costing and Management

30 J151 122 J210

J 04,444 $42,444 12,444 J%%4,444 %,444 J114KK

Chapter 05 - Activity-Based Costing and Management

%5,444 hours %%,444 hours 1$,444 hours

Chapter 05 - Activity-Based Costing and Management

Total direct-labor hours........................................................ ,/C+8B 5-%1 (6C-TI-*B:) 2. Activity-based-costing analysis'

Activity achine /elated aterial Fand. ,urch.

Activity 6ost ,ool J$14,544

6ost :river Puantity 115,444

,ool /ate J 2.14

Bng. Fours achine Fours

Chapter 05 - Activity-Based Costing and Management

,/C+8B 5-%1 (6C-TI-*B:) $. 6alculation of ne! product costs under A+6.

A:D J1$2.44 12$.15

%42.44 %4$.54 5$4.%4 52%.55

%32.44 %2$.15 0$3.04 022.14

040.44 00$.34 121.24 20$.41

Chapter 05 - Activity-Based Costing and Management

activity-based costing system) ................................................................................... Actual current selling price..........................................

Chapter 05 - Activity-Based Costing and Management

Activity 6ost ,ool