Question

Green Thumb, Inc., is a lawn care service. The company originally specialized in serving residential clients but has recently started contracting for work with larger commercial clients. Mr. Green, the owner, is considering reducing residential services and increasing commercial lawn care. Five field employees worked a total of 11,000 hours last year—7,500 on residential jobs and 3,500 on commercial jobs. Wages were $10.00 per hour for all work done. Direct materials used were minimal and are included in overhead. All overhead is allocated on

the basis of labor hours worked, which is also the basis for customer charges. Because of greater competition for commercial accounts, Mr. Green can charge $17.50 per hour for residential work, but only $15.50 per hour for commercial work.

Required:

a. If overhead for the year was $72,000, what were the profits of commercial and residential service using labor hours as the allocation base?

b. Overhead consists of office supplies, garden supplies, and depreciation and maintenance on equipment. These costs can be traced to the following activities:

Recalculate profits for commercial and residential services based on these activity bases. (Show your work-Round to the nearest dollar)

			Activity Level
Activity	Cost Driver	Cost	Commercial	Residential
Office Supplies	Number of Clients Served	$14,000	16	44
Equipment Depreciation & Maintenance	Equipment Hours	25,000	3,500	6,500
Garden Supplies	Area Covered (sq. yds)	33,000	65,000	35,000
Total Overhead		$72,000

.

3. What are the major differences between the costing methods?

d. Explain why using drivers might help management make better decisions in pricing jobs?

e. Should management use all three drivers, if not provide an explanation as to why they should or should not for each costs.

Answer 1

Answer (a):

All overhead is allocated on the basis of labor hours worked,

Overhead rate = Total overhead / labor hours worked =72000 /11000

Hence:

Overhead allocated to residential jobs = 72000 /11000 *7500 = $49090.91

Overhead allocated to commercial jobs =72000 /11000 *3500 = $22909.09

Answer (b):

Let us calculate the activity rates and assignment of overhead costs:

Answer (c):

Major differences between the costing methods

1. Traditional method use generic allocation bases like direct labor hour or machine hour which may not have any cause and effect relationship. Activity based costing (ABC) method determines the activity cost pools, cost drivers (based on what drives those costs establishing a cause and effect relationship), calculates activity rates and then allocates costs.

2. Traditional methods is not rational whereas ABC method have rationals

3. The stakeholders (Production department) who uses these cost data, will understand cost allocation done based on ABC better and can take specific actions. Cost data based on traditional method lacks such analysis and does not help in taking any specific actions to control overhead costs.

4. Cost data based ABC are much more precise than cost data based on traditional data. As such it results in better decisions. Cost data based on traditional methods may result in erroneous decisions impacting the future of business.

Answer (d):

Traditional method use generic allocation bases like direct labor hour or machine hour which may not have any cause and effect relationship. Activity based costing (ABC) method determines the activity cost pools, cost drivers (based on what drives those costs establishing a cause and effect relationship), calculates activity rates and then allocates costs.

Cost data based ABC are much more precise than cost data based on traditional data. As such it results in better decisions in pricing jobs. Cost data based on traditional methods may result in erroneous decisions on pricing impacting the sales / business.

As per Chegg's policy 4 parts need to be answered and I have answered 4 parts