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 $1,330,000 into a single overhead cost pool. Milton calculates a rate per​test-hour of $14 ($1,330,000 / 95,000 total test-hours). HT uses 63,000 test-hours, and ST uses 32,000 test-hours. Gary Savarese, 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. Savarese divides Milton’s costs into four ​activity-cost categories.

Requirement 1. Classify each activity cost as output unit-level, batch-level, product or service-sustaining, or facility-sustaining. Explain each answer. Cost Item Cost-type a. Direct labor b. Equipment-related costs (rent, maintenance, energy, etc.) C. Setup costs d. Costs of designing tests * Data Table * Requirements - X 1. Classify each activity cost as output unit-level, batch-level, productor service-sustaining, or facility-sustaining. Explain each answer. 2. Calculate the cost per test-hour for HT and ST. Explain briefly the reasons why these numbers differ from the $14 per test-hour that Milton calculated using its simple costing system. 3. Explain the accuracy of the product costs calculated using the simple costing system and the ABC system. How might Milton's management use the cost hierarchy and ABC information to better manage its business? a. Direct-labor costs, $269,000. These costs can be directly traced to HT, $189,000, and ST, $80,000 b. Equipment-related costs (rent, maintenance, energy, and so on), $475,000. These costs are allocated to HT and ST on the basis of test-hours. C. Setup costs, $385,000. These costs are allocated to HT and ST on the basis of the number of setup-hours required. HT requires 13,000 setup-hours, and ST requires 4,500 setup-hours. d. Costs of designing tests, $248,000. These costs are allocated to HT and ST on the basis of the time required to design the tests. HT requires 2,500 hours, and ST requires 1,500 hours. Print Done Print Done

Answer 1

Milton Test Laboratories Requirement 1 Cost Item a.Direct Labor b.Equipment related costs c.Setup Costs d.Costs of designing tests Cost Type Output Unit level Facility Sustaining Batch level Service Sustaining Requirement 2 Total 269000 95000 475000 17500 Direct labor Test hours Equipement rate per test hour Equipment-related costs Setup hours Setup cost rate Setup costs Design hours Design cost rate Design costs Total Cost Check ABC Heat Tesing Stress Testing 189000 80000 63000 32000 5 315000 160000 13000 4500 22 22 286000 99000 2500 1500 62 155000 93000 385000 4000 62 248000 1377000

Heat Testing (HT) Total Per Test Hour 63000 189000 3 Stress Testing (HT) Total Per Test Hour 32000 80000 2.5 315000 5 160000 5 Direct labor costs (given) Equipment-related costs $5 per hour* 63,000 hours $5 per hour* 32,000 hours Setup costs $22 per setup-hour 13.000 setup-hours $22 per setup-hour : 4,500 setup-hours Costs of designing tests $62 per hour** ' 2,500 hours $62 per hour** 1,500 hours Total costs 286000 4.54 99000 3.09 155000 2.46 93000 432000 15 2.91 13.5 945000 Simple Costing Difference 913500 31500 464000 -32000 15 - 14.50 = 0.50 13.5 - 14.50 = -1 (945000 + 432000) / 95000 = 14.5 Requirement 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. Vineyard'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. Vineyard should watch if competitors are underbidding Vineyard in stress testing and causing it to lose business. Vineyard 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.