Question

Singapore Fabrication Co. produces parts for the steel industry. It pools overhead costs in to 3 categories: machine operating costs, engineering and inspecting costs. The expected costs for the coming year are as follows: Machining S160000 Faging 220.000 Inspecting 1 00 SO DOO Singapore Fabrication currently uses machine hours to apply overhead. Expected capacity is 100.000 machine hours. The plant manager, Peter, has been asked to submit a bid on a potential job. He provides you with the following data for this job: Det er Director $12.00 Overload Number of inspections Number of m ine hus 2000 Engineering hours Other firms will also be competing for the job. Most of the competitors are using the ABC overhead allocation method. Peter wants to compare his bid using his existing and ABC approaches. He estimates that there will be 6,000 inspections, and 10,000 engineering hours consumed in the plant next year. Required 1. Determine the total cost of the potential job under Singapore Fabrication's existing method, using machine hours to apply overhead. Assume that the bid price is based on full manufacturing cost plus 25% mark up. What is Peter's bid price? (2 marks) 2. Determine the total cost of the job using an ABC approach, with the number of inspections to assign inspection costs, engineering hours to assign engineering costs, and machine hours to assign machining costs. Assume the same bid pricing approach as in (1): what is Peter's bid price? (4 marks) 3. Which approach, the existing method or ABC approach, do you think better reflects the real cost of the job? Explain in full (in your own words) you must apply the relevant theoretical concepts to the case-facts provided. You cannot state the theoretical concepts alone, without relating it to the case-facts. (6 marks) 4. The production manager suggested to Peter that inspection hours would provide a better cost assignment for jobs than using number of inspections. The plant can carry out 12.000 inspection hours per year. The job in question is expected to consume 60 inspection hours. Calculate the effect of this change on the job's bid price. Explain why inspection hours is a better or worse driver than number of inspections.

Answer 1

Answer is given below

Traditional Overhead rate- Machine hour based Total Overheads $840,000 Total machine hours 100,000 Share see $8.40 Per machine hour per machine hour ] 1 Total manufacturing cost Direct Material Direct Labor Total Overhead allocated Total manufacturing cost Job $8,000 $12,000 $16,800|(2,000 * $8.40) $36,800 400% of Direct labor cost Calculation of Bid price Total manufacturing cost Mark up 25% Selling price $36,800 $9,200 $46,000 2 Calculation of Activity rates Activity Activity rate Machining Engineering Inspecting Total budgeted indirect costs Total Overheads $440,000 $220,000 $180,000 $840,000 Total Activities 100,000 10,000 6,000 $4.40 Per machine hour $22.00 Per engineering hour $30.00 Per inspection Total manufacturing cost ABC method Job $8,000 $12,000 Direct Material Direct Labor Total Overhead allocated Machining Engineering Inspecting Total manufacturing cost $8,800 (2,000*$4.4) $220 (10*$22) $30 (1*$30) $29,050 Calculation of Bid price Total manufacturing cost Mark up 25% Selling price $29,050.00 $7,262.50 $36,312.50 3 Traditional costing allocates cost based on single driver-machine hour rate in this case But in Activity based costing allocation is based on activities consumed. Allocation of overhead as per machine hour method does not correlate the cost with activities consumed ABC method helps in allocation of cost for each activity cost pool In the given case as per machine hour method the bid price is higher and is not competitive bid ABC method should be used because -It helps in accurate product costing - It helps in Product pricing - It helps in better cost management through cost control and cost reduction 4 Total manufacturing cost ABC method Job $8,000 $12,000 Direct Material Direct Labor Total Overhead allocated Machining Engineering Inspecting Total manufacturing cost $8,800 (2,000*$4.4) $220(10*$22) $900 (60*$15) $29,920 Calculation of Bid price Total manufacturing cost Mark up 25% Selling price $29,920.00 $7,480.00 $37,400.00 Increase in Bid price $1,087.50 The bid price has increased by applying inspection hour based cost driver rate working notes: Calculation of Activity rates Activity Activity rate Machining Engineering Inspecting Total budgeted indirect costs Total Overheads $440,000 $220,000 $180,000 $840,000 Total Activities 100,000 10,000 12,000 $4.40 Per machine hour $22.00 Per engineering hour $15.00 Per inspection hour