Dear suzannem,
1)
Under Activity-Based Costing (ABC), the total manufacturing cost of
a product is the sum of the activity costs and materials for that
product. Each activity cost, in turn, is obtained by multiplying the
allocation rate of the activity with its allocation base.
In the example at hand, the activities are the items listed in the
lefthand column of the upper table.
Materials handling
Cutting and lathe work
Assembly and inspection
We are told that these are all the activities contributing to the finished
product. Furthermore, we are given the allocation rate of each activity
in the righthand column. Respectively, these are
$0.20 per part
$1.40 per part
$20.00 per hour.
The other two columns are not interesting for the time being, since
the second column is not used in ABC and the third column is altogether
redundant, given that the last column already tells us the allocation
base for each activity. For "materials handling" and "cutting and lathe
work", the allocation base is the number of parts, while for "assembly
and inspection", it is the number of labor hours.
For the month of July, we are given both figures: 70,400 parts were used
in production, and 13,120 labor hours were committed to manufacturing the
coffee tables. Thus, the cost of each activity is calculated as follows.
Materials handling: 70,400 * $0.20 = $14,080
Cutting and lathe work: 70,400 * $1.40 = $98,560
Assembly and inspection: 13,120 * $20.00 = $262,400
We are also told that the cost of materials is $107,200. The total
manufacturing cost is the sum of all three activity costs with the cost
of materials, or
($14,080 + $98,560 + $262,400) + $107,200 = $482,240.
To calculate the unit cost of a product, we divide the total manufacturing
cost by the total output, which is a number indicating how many units of
the product are made in a given time period. Here, we are told that 3,200
units of the product were manufactured in July. Hence, the unit cost is
$482,240 / 3,200 = $150.70
2)
The mention of direct labor hours is a red herring, since traditional
overhead allocation does not take into account the actual amount of labor
committed to the manufacture of a product in a specific month. Instead,
the manufacturing overhead is computed for the whole year, using an
advance estimate of the amount of direct labor that will be employed
in production.
To answer this question, then, we disregard the allocation rate and
allocation base of each activity, considering instead the budgeted cost
of each activity. For each of the three activities, the annual budgeted
cost is given in the second column of the upper table. Over the course
of the entire year, the total cost budgeted for these activities is
$250,000 + $1,750,000 + $4,000,000 = $6,000,000.
This is the total overhead for the year. Since 2004 is a leap year,
it has 366 days, so the overhead per day is
$6,000,000 / 366 = $16393.4426 .
There are 30 days in June. Hence, the budgeted overhead for the month
of June is
30 * $16393.4426 = $491,803.28 .
To obtain the total manufacturing cost, we must add to this the cost of
materials in the month of June, as follows.
$491,803.28 + $107,200 = $599,003.28
As before, the unit cost is the ratio of the total manufacturing cost
to the number of units produced.
$599,003.28 / 3,200 = $187.19
3)
Assuming that the activities responsible for the production of coffee
tables have all been identified and that their cost allocation rates have
been accurately estimated, ABC should give a better idea than traditional
accounting methods of the month-to-month manufacturing costs of a given
product.
The trouble with traditional overhead allocation is that not only
might the output of a product fluctuate drastically, but the costs of
the activities may also change over the course of a year. Instead of
using an average activity cost or an annualized estimate, ABC lets us
compute the total production cost according to the current costs of
the activities that go into manufacturing a given product. Of course,
the success of ABC depends on properly identifying all the activities
that add value to the manufacturing process.
For further information on the benefits of ABC, you might like to consult
the following web document.
Under-Secretary of Defense: Activity-Based Costing Concept Paper
http://www.defenselink.mil/comptroller/icenter/learn/abconcept.htm
Regards,
leapinglizard |
