Question

Milton Test Laboratories does heat testing (HT) and stress testing (ST) on materials and operates at capacity. Under its current simple costing system, Milton aggregates all operating costs of $1,360,000 into a single overhead cost pool. Milton calculates a rate per test-hour of $16 ($1,360,000 / 85,000 total test-hours). HT uses 55,000 test-hours, and ST uses 30,000 test-hours. Gary Daley, Milton's controller, believes that there is enough variation in test procedures and cost structures to establish separate costing and billing rates for HT and ST. The market for test services is becoming competitive. Without this information, any miscosting and mispricing of its services could cause Milton to lose business. Daley divides Milton's costs into four activity-cost categories. the icon to view the activity-cost categories.) Read the requirements.

Answer 1

Answer-1:

Output-unit level costs a. Direct labor cost, $338,000 b. Equipment related costs, $340,000 Batch-level cost c. Set-up costs, $357,000 Service sustaining cost d. Cost of designing test, $399,000 These costs are batch-level costs These costs are service-sustaining because they are incurred each costs because they are incurred to These costs are output unit-level costs time a batch of materials is set up design the HT and ST tests, because they are incurred on each unit for either HT or ST, regardless of regardless of the number of of materials tested, that is, for every the number of hours for which the batches tested or the number of hour of testing tests are subsequently run. hours of test time

Answer-2:

Total (1) 275,000 HT Per hour (2) = (1) / 55,000 $ 5.00 ST Total Per hour (3) (4) = (3) / 30,000 63,000 $ 2.10 $ $ 220000 4.00 120000 4.00 Direct labor cost Equipment related costs (55,000 $4.00) (30,000 $4.00) Set-up cost (13,000 $21.00) (4,000 $21.00) Cost of designing tests (3,000 $63.00) (1,500 $63.00) Total costs 273000 4.96 84000 2.80 189000 3.44 94500 361,500 3.15 12.05 $ 957,000 $ 17.40 $ $

At a cost per test-hour of $16, the simple costing system under costs heat testing ($17.40) and over costs stress testing ($12.05). The reason is that heat testing uses direct labor, setup, and design resources per hour more intensively than stress testing. Heat tests are more complex, take longer to set up, and are more difficult to design. The simple costing system assumes that testing costs per hour are the same for heat testing and stress testing.

Answer-3:

The ABC system better captures the resources needed for heat testing and stress testing because it identifies all the various activities undertaken when performing the tests and recognizes the levels of the cost hierarchy at which costs vary. Hence, the ABC system generates more accurate product costs.

Milton‘s management can use the information from the ABC system to make better pricing and product mix decisions. For example, it might decide to increase the prices charged for the more costly heat testing and consider reducing prices on the less costly stress testing. Milton should watch if competitors are underbidding Milton in stress testing and causing it to lose business. Milton can also use ABC information to reduce costs by eliminating processes and activities that do not add value, identifying and evaluating new methods to do testing that reduce the activities needed to do the tests, reducing the costs of doing various activities, and planning and managing activities.