Question

*11.12 ABC, activity area cost driver rates (continuation of Exercise 11.11) (30 minutes) Exercise 11.11 reports ABC data for the three activity areas (cleaning, cutting and packaging) on a per output unit basis (per kilogram of chips). This format emphasises product costing. An alternative approach that emphasises the costs of individual processes (activities) is to identify (a) the costs at each activity area, and (b) the rate per unit of the cost driver at each activity area. The following information pertains to (a) and (b): • Cleaning activity area: McCarthy used 1.2 million kilograms of raw potatoes to yield 1 million kilograms of chips. No distinction is made as to the end-product when cleaning potatoes. The cost driver is kilograms of raw potatoes cleaned. Exercises 339 Cutting activity area: McCarthy processes raw potatoes for the retail market independently of those processed for the institutional market. The production line produces (a) 250 kg of retail chips per cutting-hour, and (b) 400 kg of institutional chips per cutting-hour. The cost driver is cutting-hours on the production line. Packaging activity area: McCarthy packages chips for the retail market independently of those packaged for the institutional market. The packaging line packages (a) 25 kg of retail chips per packaging-hour, and (b) 100 kg of institutional chips per packaging-hour. The cost driver is packaging-hours on the production line. Required 1 What are the total activity costs in the (a) cleaning, (b) cutting and (c) packaging activity areas? 2 What is the cost rate per unit of the cost driver in the (a) cleaning, (b) cutting and (c) packaging activity areas? 3 How might McCarthy Potatoes use information about the cost driver rates calculated in requirement 2 to better manage the Longford plant?

Answer 1

1. CURRENT COSTING SYSTEM
PARTICULARS	RETAIL CHIPS	INSTITUTIONAL CHIPS
DIRECT MATERIAL	€       135,000.00	€                     15,000.00
PRODUCTION SUPPORT
983,000/1,000,000 * 900,000	€       884,700.00
983,000/1,000,000 * 100,000		€                     98,300.00
TOTAL COSTS	€   1,019,700.00	€                   113,300.00
UNITS PROCESSED	900,000	100,000
COST PER KILO GRAM	€                    1.13	€                                1.13
2. REFINED COSTING SYSTEM
PARTICULARS	RETAIL CHIPS	INSTITUTIONAL CHIPS
DIRECT MATERIAL	€       135,000.00	€                     15,000.00
PRODUCTION SUPPORT
PACKAGING MATERIAL	€       180,000.00	€                       8,000.00
CLEANING
900,000 * 0.120	€       108,000.00
100,000 * 0.120		€                     12,000.00
CUTTING
900,000 * 0.24	€       216,000.00
100,000 * 0.15		€                     15,000.00
PACKAGING
900,000 * 0.48	€       432,000.00
100,000 * 0.120		€                     12,000.00
TOTAL COSTS	€   1,071,000.00	€                     62,000.00
UNITS PROCESSED	900,000	100,000
COST PER KILO GRAM	€                    1.19	€                                0.62

3. UNDER CURRENT SYSTEM, ALLOCATION IS NOT ON THE BASIS OF ACTIVITIES AND COST DRIVERS UNDER REFINED SYSTEM COST IS ALLOCATED ON THE BASIS OF THE COST DRIVERS.

METHOD 2 GIVES MUCH CLEAR RESULT AS IT SHOWS THAT HOW MUCH COST IS ACTUALLY USED IN PROCESSING INSTITUTIONAL CHIPS ONLY.