Chapter 5

Activity-Based Costing and Management

McGraw-Hill/Irwin

Copyright 2011 by The McGraw-Hill Companies, Inc. All rights reserved.

Traditional, Volume-Based Product-Costing System

Aerotech produces three complex printed circuit boards referred to as Mode I, Mode II, and Mode III. The following information is obtained from company records:

Mode I Production: Units Runs 10,000 1 run of 10,000 units

$

Mode II 20,000 4 runs of 5,000 units

$

Mode III 4,000 10 runs of 400 units

Mode I I I $ 20.00 40.00 66.00 $ 126.00
Mode I I I $ 20.00 2 10 2
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Direct materials Direct labor Manufacturing overhead Total

Direct materials Direct labor (hr/board) S etup time (hr/run) Machine time (hr/board)

$
$

Mode I 50.00 60.00 99.00 209.00

Mode I 50.00 3 10 1

$
$

Mode I I 90.00 80.00 132.00 302.00

Mode I I 90.00 4 10 1.25

Manufacturing overhead is determined as follows

Traditional, Volume-Based Product-Costing System

Units produced Direct labor (hr/unit) Total hours Total hours required Mode I 10,000 3 30,000 Mode II 20,000 4 80,000 118,000 Mode III 4,000 2 8,000

Budgeted manufacturing overhead Budgeted direct-labor hours

Mode I Direct labor (hr/unit) Overhead rate per hour Overhead per unit $ $

$3,894,000 118,000
Mode II 3 33 99 $ $

= $33 per hour

Mode III 4 33 132 $ $ 2 33 66

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Traditional, Volume-Based Product-Costing System

With these product costs, Aerotech established target selling prices (Cost 125%).
Direct materials Direct labor Manufacturing overhead Total $ Mode I Mode II Mode III 50.00 $ 90.00 $ 20.00 60.00 80.00 40.00 99.00 132.00 66.00 209.00 $ 302.00 $ 126.00

Cost per unit Target selling price

Mode I 209.00 261.25

Mode II $ 302.00 377.50

Mode III $ 126.00 157.50

209.00 x 1.25
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Activity Based Costing System (ABC)

ABC systems follow a two-stage procedure to assign overhead costs to products. Stage One
Identify significant activities and assign overhead costs to each activity in proportion to resources used.

Stage Two
Identify cost drivers appropriate to each activity and allocate overhead to the products.

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STAGE ONE
Various overhead costs related to machinery

Maintenance Depreciation Computer Support

Lubrication Electricity Calibration

Activity cost pool

Machinery Cost Pool

Total budgeted cost = $1,212,600

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STAGE TWO
Calculate the pool rate
Budgeted Machinery Costs = $1,212,600 Budgeted Machine Hours 43,000 = $28.20/hour

Cost Assignment

Mode I: $28.20 per hr. 1 hr. per unit $28.20 per unit

Mode II: $28.20 per hr. 1.25 hr. per unit $35.25 per unit

Mode III: $28.20 per hr. 2 hr. per unit $56.40 per unit
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STAGE ONE
Calculation of total setup cost
Total budgeted setup cost $20 per hour 10 hr. per setup $200 cost per setup 15 production runs $ 3,000 Total

Activity cost pool

Setup Cost Pool

Total budgeted cost = $3,000

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STAGE TWO
Calculate the pool rate
Budgeted Setup Costs Planned Production Runs = $3,000 15 runs = $200 per run

Cost Assignment

Mode I: (1 Run) $200 per run 10,000 units per run = $.02 per unit

Mode II: (4 Runs) $200 per run 5,000 units per run = $.04 per unit

Mode III: (10 Runs) $200 per run 400 units per run = $.50 per unit
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STAGE ONE
Various overhead costs related to engineering
Engineering salaries Engineering supplies Engineering software Depreciation

Activity cost pool

Engineering Cost Pool

Total budgeted cost = $700,000

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STAGE TWO
Allocate based on engineering transactions

Engineering Cost Pool

Total budgeted cost = $700,000

Cost Assignment

Mode I: 25% $700,000 10,000 units = $17.50 per unit

Mode II: 45% $700,000 20,000 units = $15.75 per unit

Mode III: 30% $700,000 4,000 units = $52.50 per unit

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STAGE ONE
Various overhead costs related to general operations
Plant depr.
Plant mgmt. Plant maint.

Property taxes
Insurance Security

Activity cost pool

Facility Cost Pool

Total budgeted cost = $507,400

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STAGE TWO
Calculate the pool rate
Budgeted Facilities Cost = $507,400 Budgeted Direct-Labor Hours 118,000 = $4.30/hour

Cost Assignment

Mode I: $4.30 per hr. 3 hr. per unit $12.90 per unit

Mode II: $4.30 per hr. 4 hr. per unit $17.20 per unit

Mode III: $4.30 per hr. 2 hr. per unit $8.60 per unit
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Other Overhead Costs

Re c e ivin g an d In s pe c t ion Cos t P ool
Board Mode I Mode II Mode III Ove rh e ad $ 200,000 200,000 200,000 % 6% 24% 70% Un its 10,000 20,000 4,000 = Cos t/Un it = $ 1.20 = 2.40 = 35.00

Mat e rial-Han dlin g Cos t P ool

$14.82

Board Mode I Mode II Mode III

Ove rh e ad $ 600,000 600,000 600,000

% 7% 30% 63%

Un its 10,000 20,000 4,000

= Cos t/Un it = $ 4.20 = 9.00 = 94.50

Qu alit y-As s u ran c e Cos t P ool

Board Mode I Mode II Mode III Ove rh e ad $ 421,000 421,000 421,000 % 20% 40% 40% Un its 10,000 20,000 4,000 = Cos t/Un it = $ 8.42 = 8.42 = 42.10

P ac kagin g an d Sh ippin g Cos t P ool

Board Mode I Mode II Mode III Ove rh e ad $ 250,000 250,000 250,000 % 4% 30% 66% Un its 10,000 20,000 4,000 = Cos t/Un it = $ 1.00 = 3.75 = 41.25
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Product Cost from ABC

These are the new product costs when Aerotech uses ABC.
Mode I Direct materials $ 50.00 Direct labor 60.00 Machinery 28.20 Setup 0.02 Engineering 17.50 Facilities 12.90 Other 14.82 Total $ 183.44 Mode II $ 90.00 80.00 35.25 0.04 15.75 17.20 23.57 $ 261.81 Mode III $ 20.00 40.00 56.40 0.50 52.50 8.60 212.85 $ 390.85
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