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	$	1,693,400
Cost of goods sold		1,227,800
Gross margin		465,600
Selling and administrative expenses		590,000
Net operating loss	$	(124,400	)

Hi-Tek produced and sold 60,100 units of B300 at a price of $20 per unit and 12,600 units of T500 at a price of $39 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	$	120,100	$	42,100		162,200
Manufacturing overhead						503,100
Cost of goods sold					$	1,227,800

The company has created an activity-based costing system to evaluate the profitability of its products. Hi-Tek’s ABC implementation team concluded that $55,000 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)	$	199,940		90,900	62,900	153,800
Setups (setup hours)		142,560		74	250	324
Product-sustaining (number of products)		100,400		1	1	2
Other (organization-sustaining costs)		60,200		NA	NA	NA
Total manufacturing overhead cost	$	503,100

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

Hi-Tek Requirement 1 Predetermined overhead rate (POHR) = Estimated total manufacturing overhead cost Estimated total amount of the allocation base = 503100 /162200 = 310% B300 1202000 T500 491400 Total 1693400 Sales Cost of goods sold DM DL MOH COGS Product margin 400300 120100 372517 892917 309083 162200 42100 130583 334883 156517 562500 162200 503100 1227800 465600 Requirement 2 Machining activity rates = 199,940 / 153,800 = 1.3 Setups activity rates = 142,560 / 324 = 440 Product sustaining activity rates = 100,400 / 2 = 50,200 B300 1202000 T500 491400 Total 1693400 Sales Cost of goods sold DM 562500 162200 DL Machining Setups Product sustaining Advert expenses COGS Product margin 400300 120100 118170 32560 50200 55000 776330 425670 162200 42100 81770 110000 50200 108000 554270 -62870 142560 100400 163000 1330600 362800 Requirement 3 The traditional and activity-based cost assignments differ for three reasons. First, the traditional system assigns all $503,100 of manufacturing overhead to products. The ABC system assigns only $442,900 of manufacturing overhead to products. The ABC system does not assign the $60,200 of other activity costs to products because they represent organization-sustaining costs. Second, the traditional system uses one unit-level activity measure, direct labor dollars, to assign 74.04% of all overhead to the B300 product line and 25.96% of all overhead to the T500 product line. The ABC system assigns 59.10% of Machining costs to the B300 product line and 40.9% to the 1500 product line. The ABC system assigns 22.84% of Setup costs (a batch-level activity) to the B300 product line and 77.16% to the T500 product line. The ABC system assigns 50% of Product sustaining costs (a product-level activity) to each product line. Third, the traditional system does not trace any advertising expenses to the two products. The ABC system traces $55,000 of advertising to the B300 and $108,000 of advertising to the T500 product line. Traditional costing Total DM DL мон Product cost S&A expense Total cost B300 a:C 400300 44.83% 120100 13.45% 372517 41.72% 892917 T500 b b :c 162200 48.43% 42100 12.57% 130583 38.99% 334883 562500 162200 503100 1227800 590000 1817800 ABC Costing b 400300 120100 118170 55000 a:C 44.75% 13.43% 13.21% 6.15% 162200 42100 81770 110000 b:C 25.42% 6.60% 12.82% 17.24% 562500 162200 199940 165000 Direct Cost DM DL Advert expenses Indirect cost: Machining Setups Product sustaining Product cost Cost not assigned: S&A expense Others Total cost 118170 32560 50200 894500 13.21% 3.64% 5.61% 81770 110000 50200 638040 12.82% 17.24% 7.87% 199940 142560 100400 1532540 590000 60200 2182740