Question

Problem 2 (Supplemental Problem #2) – Activity-based costing versus traditional costing Lovelace Company produces only two products: reading glasses and sunglasses. The company uses a normal cost system and overhead costs are currently allocated using a plant-wide overhead rate based on direct labor hours. Outside cost consultants have recommended that the company use activity-based costing to charge overhead to products. The company expects to produce 4,000 reading glasses and 8,000 sunglasses this year. Each pair of reading glasses requires two direct labor hours to produce and each pair of sunglasses requires one-half hour to produce. The direct material and direct labor costs per unit are as follows: Estimated total factory overhead data for the year is as follows: Required (Traditional Method):

1. Using the traditional cost assignment method, calculate the plant-wide overhead rate: Plant-wide overhead rate: $___________________per direct labor hour

2. Under the traditional cost assignment method using the plant-wide overhead rate, how much is the overhead cost per unit for the: Reading glasses: $________________per unit Sunglasses: $________________per unit

3. Using the traditional cost assignment method how much is the product cost per unit for the: Reading glasses: $________________per unit Sunglasses: $________________per unit *** Problem 2 is continued on the next page *** Reading Glasses Direct Material (per unit) $ 30.00 Direct Labor (per unit) $ 16.00 Sunglasses $ 17.00 $ 4.00 Activity Production setups Material handling Packaging and shipping Total factory overhead Budgeted Overhead Reading Glasses 5 setups 1,000 lbs. 4,000 boxes Sunglasses 15 setups 4,000 lbs. 2,000 boxes Total 20 setups 5,000 lbs. 6,000 boxes $ $ $ $ 80,000 70,000 120,000 270,000 4 Required (ABC Method):

4. Using the Activity-based Costing (ABC) assignment method, calculate the activity cost rates for the following activities: (a) Setup costs: $___________________per production run (b) Materials handling costs: $___________________per materials move (c) Packaging and shipping costs: $___________________per shipment

5. Using the Activity-based Costing (ABC) assignment method how much is the overhead cost per unit for the: Reading glasses: $________________per unit Sunglasses: $________________per unit 6. Using the Activity-based Costing (ABC) assignment method how much is the product cost per unit for the: Reading glasses: $________________per unit Sunglasses: $________________per unit 5

Answer 1

1. Plant-wide overhead rate = Total budgeted overhead/Estimated direct labor hours

Estimated direct labor hours = (4000 x 2) + (8000 x 0.5) = 8000 + 4000 = 12000

Plant-wide overhead rate = $270000/12000 = $22.50 per direct labor hour

2.

	Reading Glasses	Sunglasses
Overhead rate per direct labor hour	22.50	22.50
Direct labor hours per unit	2	0.5
Overhead cost per unit $	45.00	11.25

3.

	Reading Glasses	Sunglasses
Direct materials	30.00	17.00
Direct labor	16.00	4.00
Factory overhead	45.00	11.25
Product cost per unit $	91.00	32.25

4.

Activity	Activity Cost $	Cost Driver Usage	Activity Cost Rate $
Production setups	80000	20	4000	per production run
Material handling	70000	5000	14	per materials move
Packaging and shipping	120000	6000	20	per shipment

5.

Activity	Activity Cost Rate $	Reading Glasses		Sunglasses
		Cost Driver Usage	Allocated Overhead $	Cost Driver Usage	Allocated Overhead $
Production setups	4000	5	20000	15	60000
Material handling	14	1000	14000	4000	56000
Packaging and shipping	20	4000	80000	2000	40000
Total overhead cost $			114000		156000
÷ Number of units produced			4000		8000
Overhead cost per unit $			28.50		19.50

6.

	Reading Glasses	Sunglasses
Direct materials	30.00	17.00
Direct labor	16.00	4.00
Factory overhead	28.50	19.50
Product cost per unit $	74.50	40.50