Question

Aerotech International Inc. of Montreal has supported a research and development (R&D) department that for many years has been the sole contributor to the company’s new products. The R&D activity is an overhead cost centre that provides services only to in-house manufacturing departments (four different product lines), all of which produce aerospace-related products. The department has never sold its services outside, but because of its long history of success, larger manufacturers of aerospace products have approached Aerotech to hire its R&D department for special projects. Because the costs of operating the R&D department have been spiralling uncontrollably, Aerotech’s management is considering taking on these outside contracts to absorb the increasing costs. However, managers don’t have any cost basis for charging R&D services to outsiders, and they need to gain control of their R&D costs. Management decides to implement an activity-based costing system in order to determine the charges for both outsiders and the in-house users of the department’s services. R&D activities fall into four pools with the following annual costs: Market analysis $1,015,000 Product development $3,459,960 Product design 2,260,800 Prototype testing 1,340,160 Analysis determines that the appropriate cost drivers and their usage for the four activities are as follows: Activities Cost Drivers Total Estimated Drivers Market analysis Hours of analysis 14,500 hours Product design Number of designs 2,400 designs Product development Number of products 90 products Prototype testing Number of tests 480 tests

(a) Calculate the activity-based overhead rate for each activity cost pool. Market analysis $ per hour of analysis Product design $ per design Product development $ per product Prototype testing $ per test

Answer 1

Activities	Activity cost	Cost Drivers		Total Estimated Drivers			Overhead rate
Market analysis	$1,015,000	Hours of analysis		14,500		hours	1,015,000/14,500 = $70 per hour of analysis
Product design	2,260,800	Number of designs		2,400		designs	2,260,800/2,400 = $942 per design
Product development	$3,459,960	Number of products		90		products	3,459,960/90 = $38,444 per product
Prototype testing	1,340,160	Number of tests		480		tests	1,340,160/480 = $2,792 per test

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