Question

Rachel's Pet Supply Corporation manufactures two models of grooming stations, a standard and a deluxe model. The following activity and cost information has been compiled:

                             Number of           Number of                       Number of

Product                       Setups         Components        Direct Labor Hours

Standard                               3                          30                                    650

Deluxe                                  7                          50                                    150

Overhead costs          $40,000               $120,000

Assume a traditional costing system applies the $160,000 of overhead costs based on direct labor hours.

a.   What is the total amount of overhead costs assigned to the standard model?

b.   What is the total amount of overhead costs assigned to the deluxe model?

Assume an activity-based costing system is used and that the number of setups and the number of components are identified as the activity-cost drivers for overhead.

c.   What is the total amount of overhead costs assigned to the standard model?

d.   What is the total amount of overhead costs assigned to the deluxe model?

e.   Explain the difference between the costs obtained from the traditional costing system and the ABC system. Which system provides a better estimate of costs? Why?

Answer 1

(e) Reason for the difference between the costs obtained from the traditional costing system and the ABC system -

The difference is due to different bases used for apportioning the overhead costs in both the methods.

In the traditional method, only direct labor is used whereas in ABC costing, number of setups, as well as the number of components, are used for apportioning overhead costs.

ABC method provides a better estimate of costs because it is more specific in nature than the traditional method.

Traditional shall apportion every cost based upon labor hours whereas ABC shall apportion Rent based upon area utilized, Setup cost based upon the number of setups performed.

So, ABC method provides a better estimate of costs.

For formulas and calculations, refer to the image below -