Question

Smoky Mountain Corporation makes two types of hiking boots—the Xtreme and the Pathfinder. Data concerning these two product lines appear below:

	Xtreme			Pathfinder
Selling price per unit	$	121.00		$	88.00
Direct materials per unit	$	64.70		$	54.00
Direct labor per unit	$	10.80		$	9.00
Direct labor-hours per unit		1.2	DLHs		1.0	DLHs
Estimated annual production and sales		25,000	units		71,000	units

The company has a traditional costing system in which manufacturing overhead is applied to units based on direct labor-hours. Data concerning manufacturing overhead and direct labor-hours for the upcoming year appear below:

Estimated total manufacturing overhead	$	2,020,000
Estimated total direct labor-hours		101,000	DLHs

Required:

1. Compute the product margins for the Xtreme and the Pathfinder products under the company’s traditional costing system.

2. The company is considering replacing its traditional costing system with an activity-based costing system that would assign its manufacturing overhead to the following four activity cost pools (the Other cost pool includes organization-sustaining costs and idle capacity costs):

	Estimated Overhead Cost			Expected Activity
Activities and Activity Measures				Xtreme	Pathfinder	Total
Supporting direct labor (direct labor-hours)	$	606,000		30,000	71,000	101,000
Batch setups (setups)		693,000		360	270	630
Product sustaining (number of products)		700,000		1	1	2
Other		21,000		NA	NA	NA
Total manufacturing overhead cost	$	2,020,000

Compute the product margins for the Xtreme and the Pathfinder products under the activity-based costing system.

Answer 1

Solution 1:

Overhead Allocation - Traditional Costing System
Particulars	Xtreme	Pathfinder	Total
Estimated annual Production (In units)	25000	71000
Direct Labour Hours Per unit	1.2	1
Total Direct Labour Hours	30000	71000	101000
Overhead Cost Allocation basis direct labour hours (Overhead / Total hours * Labor hours of model)	$600,000.00	$1,420,000.00	$2,020,000.00
Manufacturing overhead cost per unit (Allocated Overhead / Nos of units)	$24.00	$20.00

Computation of Product Margin - Traditional Costing System
Particulars	Xtreme	Pathfinder	Total
Selling price per unit	$121.00	$88.00
Direct material per unit	$64.70	$54.00
Direct labor per unit	$10.80	$9.00
Manufacturing overhead cost per unit	$24.00	$20.00
Product Margin per unit	$21.50	$5.00
Nos of units sold	25000	71000
Total Margin (Product margin per unit * Nos of unit sold)	$537,500.00	$355,000.00	$892,500.00

Solution 2:

Determination of activity rate for each activity & allocation of overhead
Activity	Estimated Overhead Cost	Activity Base	Total Expected Activity	Activity Rate	Xtreme		Pathfinder
					Usage	Allocated Costs	Usage	Allocated Costs
Supporting direct labor cost	$606,000.00	Direct Labor hours	101000	$6.00	30000	$180,000.00	71000	$426,000.00
Batch Setups	$693,000.00	Setups	630	$1,100.00	360	$396,000.00	270	$297,000.00
Product sustaining	$700,000.00	Number of products	2	$350,000.00	1	$350,000.00	1	$350,000.00
Other	$21,000.00	No allocation
Total	$2,020,000.00					$926,000.00		$1,073,000.00
Nos of units						25000		71000
Allocated overhead per unit						$37.04		$15.11

Computation of Product Margin - Activity based Costing System
Particulars	Xtreme	Pathfinder	Total
Selling price per unit	$121.00	$88.00
Direct material per unit	$64.70	$54.00
Direct labor per unit	$10.80	$9.00
Allocated Manufacturing overhead cost per unit	$37.04	$15.11
Product Margin per unit	$8.46	$9.89
Nos of units sold	25000	71000
Total Margin (Product margin per unit * Nos of unit sold)	$211,500.00	$702,000.00	$913,500.00