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	$	1,708,000
Cost of goods sold		1,228,693
Gross margin		479,307
Selling and administrative expenses		550,000
Net operating loss	$	(70,693	)

Hi-Tek produced and sold 60,000 units of B300 at a price of $20 per unit and 12,700 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	$	400,800	$	162,600	$	563,400
Direct labor	$	120,400	$	42,400		162,800
Manufacturing overhead						502,493
Cost of goods sold					$	1,228,693

The company has created an activity-based costing system to evaluate the profitability of its products. Hi-Tek’s ABC implementation team concluded that $56,000 and $107,000 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)	$	209,473		90,700	62,200	152,900
Setups (setup hours)		131,120		78	220	298
Product-sustaining (number of products)		101,200		1	1	2
Other (organization-sustaining costs)		60,700		NA	NA	NA
Total manufacturing overhead cost	$	502,493

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

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

Predetermined OH Rate = Estimated OH/DL dollars

= $502493/$162800 = 308.6566%

	B300	T500	Total
Sales	$                          1,200,000	$             508,000	$    1,708,000
Cost of Goods Sold:
Direct Material	$                              400,800	$             162,600	$        563,400
Direct Labor	$                              120,400	$               42,400	$        162,800
Manufacturing Overhead	($120400 * 308.6566%) =$371,623	($42400 * 308.6566%) =$130870	$        502,493
COGS	$                              892,823	$             335,870	$    1,228,693
Product Margin	$                              307,177	$             172,130	$        479,307

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

Activity Cost Pool (and Activity Measure)	Manufacturing OH	Activity	Activity rate
Machining (machine-hours)	$                              209,473	152900	$               1.37
Setups (setup hours)	$                              131,120	298	$          440.00
Product-sustaining (number of products)	$                              101,200	2	$    50,600.00

	B300	T500	Total
Sales	$                          1,200,000	$             508,000	$    1,708,000
Cost of Goods Sold:
Direct Material	$                              400,800	$             162,600	$        563,400
Direct Labor	$                              120,400	$               42,400	$        162,800
Machining (machine-hours)	$                              124,259	$               85,214	$        209,473
Setups (setup hours)	$                                34,320	$               96,800	$        131,120
Product-sustaining (number of products)	$                                25,300	$               25,300	$          50,600
Advertising	$                                56,000	$             107,000	$        163,000
COGS	$                              761,079	$             519,314	$    1,280,393
Product Margin	$                              438,921	$             (11,314)	$        427,607

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

Traditional:

	B300	T500
Direct Material	(($400800/$563400) =71%	29%
Direct Labor	74%	26%
Manufactureing Overhead	74%	26%

ABC:

Direct Material	71%	29%
Direct Labor	74%	26%
Machining (machine-hours)	59%	41%
Setups (setup hours)	26%	74%
Product-sustaining (number of products)	50%	50%
Advertising	34%	66%