Question

Hi-Tek Manufacturing, Inc., makes two types of industrial component parts—the B300 and the T500. An absorption costing income statement for the most recent period is shown:

Hi-Tek Manufacturing Inc. Income Statement
Sales	$	1,712,000
Cost of goods sold		1,239,003
Gross margin		472,997
Selling and administrative expenses		610,000
Net operating loss	$	(137,003	)

Hi-Tek produced and sold 60,400 units of B300 at a price of $20 per unit and 12,600 units of T500 at a price of $40 per unit. The company’s traditional cost system allocates manufacturing overhead to products using a plantwide overhead rate and direct labor dollars as the allocation base. Additional information relating to the company’s two product lines is shown below:

	B300		T500		Total
Direct materials	$	400,300	$	162,200	$	562,500
Direct labor	$	120,400	$	42,700		163,100
Manufacturing overhead						513,403
Cost of goods sold					$	1,239,003

The company has created an activity-based costing system to evaluate the profitability of its products. Hi-Tek’s ABC implementation team concluded that $51,000 and $108,000 of the company’s advertising expenses could be directly traced to B300 and T500, respectively. The remainder of the selling and administrative expenses was organization-sustaining in nature. The ABC team also distributed the company’s manufacturing overhead to four activities as shown below:

	Manufacturing Overhead			Activity
Activity Cost Pool (and Activity Measure)				B300	T500	Total
Machining (machine-hours)	$	200,823		90,700	62,600	153,300
Setups (setup hours)		150,480		72	270	342
Product-sustaining (number of products)		101,800		1	1	2
Other (organization-sustaining costs)		60,300		NA	NA	NA
Total manufacturing overhead cost	$	513,403

Required:

1. Compute the product margins for the B300 and T500 under the company’s traditional costing system.

2. Compute the product margins for B300 and T500 under the activity-based costing system.

3. Prepare a quantitative comparison of the traditional and activity-based cost assignments.

Answer 1

Solution 1: Predetermined overhead rate = Estimated overhead / Estimated direct labor cost = $513,403 / $163,100 = $3.15 per direct labor dollar

Computation of Product Margin - Traditional Costing System
Particulars	B300	T500	Total
Sales (B300 - 60,400*$20, T500 - 12600*$40)	$1,208,000	$504,000	$1,712,000
Direct material	$400,300	$162,200	$562,500
Direct labor	$120,400	$42,700	$163,100
Manufacturing overhead (Direct labor * $3.15)	$379,260	$134,505	$513,765
Product Margin	$308,040	$164,595	$472,635

Solution 2:
Determination of activity rate for each activity & allocation of overhead
Activity	Estimated Overhead Cost	Activity Base	Usage of Activity Base	Activity Rate	B300	T500
Usage	Allocated Costs	Usage	Allocated Costs
Machining	$200,823.00	Machine hours	153300	$1.31	90700	$118,817.00	62600	$82,006.00
Setups	$150,480.00	Setup hours	342	$440.00	72	$31,680.00	270	$118,800.00
Product sustaining	$101,800.00	Number of products	2	$50,900.00	1	$50,900.00	1	$50,900.00
Other	$60,300.00	No allocation
Total	$513,403.00					$201,397.00		$251,706.00

Computation of Product Margin - Activity based Costing System
Particulars	B300	T500	Total
Sales (B300 - 60,400*$20, T500 - 12600*$40)	$1,208,000	$504,000	$1,712,000
Direct material	$400,300	$162,200	$562,500
Direct labor	$120,400	$42,700	$163,100
Allocated Manufacturing overhead	$201,397.00	$251,706.00	$453,103
Advertising Expense	$51,000.00	$108,000.00	$159,000.00
Product Margin	$434,903.00	-$60,606.00	$374,297.00

Solution 3:
Quantity comparison of traditional cost assignment
Particulars	B300	T500	Total
Amount	% of total Amount	Amount	% of total Amount	Amount
Direct Material Cost	$400,300	71.2%	$162,200	28.8%	$562,500
Direct Labor Cost	$120,400	73.8%	$42,700	26.2%	$163,100
Manufacturing Overhead cost	$379,260	73.8%	$134,505	26.2%	$513,765
Total cost assigned to products	$899,960		$339,405		$1,239,365
Total cost not assigned to product:
Selling and adminstrative Expenses					$610,000.00
Total Cost					$1,849,365