Management Accounting 2

Abc Costing Question Pack

Question 1
A company manufactures two products, C and D, for which the following information is
available:
Product C Product D Total
Budgeted production (units) 1,000 4,000 5,000
Labour hours per unit / in total 8 10 48,000
Number of production runs 13 15 28
required
Number of inspections during 5 3 8
production
Total production set up costs $140,000
Total inspection costs $80,000
Other overhead costs $96,000
Other overhead costs are absorbed on a labour hour basis.

Using activity-based costing, what is the budgeted overhead cost per unit of product D?

Question 2
Brick by Brick (BBB) is a business which provides a range of building services to the public.
Recently they have been asked to quote for garage conversions (GC) and extensions to
properties (EX) and have found that they are winning fewer GC contracts than expected.

BBB has a policy to price all jobs at budgeted total cost plus 50%. Overheads are currently
absorbed on a labour hour basis, resulting in a budgeted total cost of $11,000 for each GC and
$20,500 for each EX. Consequently, the products are priced at $16,500 and $30,750
respectively.

The company is considering moving to an activity based cost approach. You are provided with
the following data:

Overhead category Annual overheads Activity driver Total number of activities per year
$
Supervisors 90,000 Site visits 500
Planners 70,000 Planning documents 250
Property related 240,000 Labour hours 40,000
Total 400,000

A typical GC costs $3,500 in materials and takes 300 labour hours to complete. A GC requires
only one site visit by a supervisor and needs only one planning document to be raised. The
typical EX costs $8,000 in materials and takes 500 hours to complete. An EX requires six site
visits and five planning documents. In all cases, labour is paid $15 per hour.
Required:
(a) Calculate the cost and the quoted price of a GC and an EX using activity based costing
(ABC).
Question 3

A company makes two products using the same type of materials and skilled workers.

The following information is available:

Product A Product B

Budgeted volume (units) 1,000 2,000

Material per unit (kg) 10 20

Labour per unit (hr) 5 20

Fixed costs relating to material handling amount to $100,000.

General fixed costs, absorbed on the basis of labour hours, amount to $180,000.

Using activity-based costing, what is the total fixed overhead amount to be absorbed into each
unit of product B (to the nearest whole $).

Question 4

Roche has recently set up a small business, which manufactures three different types of chair to
customer order. Each type is produced in a single batch per week and dispatched as individual
items. The size of the batch is determined by the weekly customer orders. The three different
types of chair are known as the Type A, the Type B and theType C. The Type A is a fully
leather-upholstered chair and is the most expensive of the range. The Type B is the middle-of-
the-range chair, and has a comfortable leather seat. The cheapest of the range, the Type C,is
purely a wooden chair, but Roche feels it has great potential and hopes it will provide at least
50% of the sales revenue.
Roche has employed Mr F, an experienced but unqualified accountant, to act as the
organisation's accountant. Mr F has produced figures for the past month, July 2010, which is
considered a normal month in terms of costs:
Profit statement
for July 2010:
Roche hopes to use these figures as the basis for budgets for the next three months. The
managers are pleased to see that the organisation has made its first monthly profit, however
small it might be. On the other hand, they are unhappy with Mr F's advice about the loss-making
Type C, which is, either to reduce its production or to increase its price. Roche's managers are
concerned because this advice goes against its marketing strategy. After much discussion Mr F
says that he has heard of a newer type of costing system, known as activity-based
costing(ABC), and that he will recalculate the position on this basis. In order to do this, Mr F has
extracted the following information:

The overheads included in Julys profit statement comprised:

Required:
(a) Use the ABC technique to prepare a revised product cost statement for July 2010 such as Mr F might
produce.
(b) Drawing upon the information form Roche to illustrate your answer, explain why the use of ABC
provides an adequate basis for Roche's managers to make decisions on the future production volume and
price of the Type C

Question 5
Hensau Ltd has a single production process for which the following costs have been estimated
for the period ending 31 December 20X8:

Three products - X, Y and Z are produced by workers who perform number of operations on
material blanks using hand held electrically powered drills. The workers have a wage rate of $9
per hour.
The following budgeted information has been obtained for the period ending 31 December
20X8:

Overhead costs for material receipt and inspection, process power and material handling are
presently each absorbed by product units using rates per direct labour hour.
An activity based costing investigation has revealed that the cost drivers for the overhead costs
are as follows:
 Material receipt and inspection: number of batches of material.
 Process power: number of power drill operations.
 Material handling: quantity of material (sq. metres) handled.
Required:
(a) to prepare a summary which shows the budgeted product cost per unit for each of the
products X, Y and Z for the period ending 31 December 20X8 detailing the unit costs for each
cost element:
(i)using the existing method for the absorption of overhead costs and
(ii) using an approach which recognises the cost drivers revealed in the activity based costing
investigation;
(iii)discuss the implications of Hensau making the decision to switch to ABC

Question 6
Jola Publishing Co publishes two forms of book. The company publishes a children’s
book (CB), which is sold in large quantities to schools. The book is produced in only four
large production runs The paper used is strong, designed to resist the damage that can
be caused by the young children it is produced for. The book has only a few words and
relies on pictures to convey meaning.

The second book is a comprehensive technical journal (TJ). It is produced in monthly

The directors are concerned about the performance of the two books and are wondering
what the impact would be of a switch to an activity based costing (ABC) approach to
accounting for overheads. They currently use absorption costing, based on machine
hours for all overhead calculations.

The directors are keen to introduce ABC for the coming year and have provided the
following cost and selling price data:

1. The paper used costs $2 per kg for a CB but the TJ paper costs only $1 per kg. The
CB uses 400g of paper for each book, four times as much as the TJ uses.

2. Printing ink costs $30 per litre. The CB uses one third of the printing ink of the larger
TJ. The TJ uses 150ml of printing ink per book.

3. The CB needs six minutes of machine time to produce each book, whereas the TJ
needs 10 minutes per book. The machines cost $12 per hour to run.

4. The sales prices are to be $9·30 for the CB and $14·00 for the TJ.
Required:

(a) Calculate the cost per unit and the margin for the CB and the TJ using machine hours to absorb the
overheads.
(b) Calculate the cost per unit and the margin for the CB and the TJ using activity based costing principles
to absorb the overheads.

Question 7

Triple Limited makes three types of gold watch – the Diva (D), the Classic (C) and the Poser (P). A
traditional product costing system is used at present; although an activity based costing (ABC) system is
being considered. Details of the three products for a typical period are:
Direct labour costs $6 per hour and production overheads are absorbed on a machine hour basis. The
overhead absorption rate for the period is $28 per machine hour

Required:

(a) Calculate the cost per unit for each product using traditional methods, absorbing overheads on the basis
of machine hours.

(b) Calculate the cost per unit for each product using ABC principles (work to two decimal places).

(c) Explain why costs per unit calculated under ABC are often very different to costs per unit calculated
under more traditional the information from Triple Limited to illustrate.

(d) Discuss the implications of a switch to ABC on pricing and profitability.

Question 8

Duff Co manufactures three products, X, Y and Z. Demand for products X and Y is relatively elastic whilst
demand for product Z is relatively inelastic. Each product uses the same materials and the same type of
direct labour but in different quantities. For many years, the company has been using full absorption costing
and absorbing overheads on the basis of direct labour hours. Selling prices are then determined using cost
plus pricing. This is common within this industry, with most competitors applying a standard mark-up.

Budgeted production and sales volumes for X, Y and Z for the next year are 20,000 units, 16,000 units and
22,000 units respectively.
The budgeted direct costs of the three products are shown below:

Duff Co wants to boost sales revenue in order to increase profits but its capacity to do this is limited
because of its use of cost plus pricing and the application of the standard mark-up. The finance director has
suggested using activity based costing (ABC) instead of full absorption costing, since this will alter the cost
of the products and may therefore enable a different price to be charged.

Required:

1. (a) Calculate the budgeted full production cost per unit of each product using Duff Co’s current
method of absorption costing. All workings should be to two decimal places.
2. (b) Calculate the budgeted full production cost per unit of each product using activity based
costing. All workings should be to two decimal places.
3. (c) Discuss the impact on the selling prices and the sales volumes OF EACH PRODUCT which a
change to activity based costing would be expected to bring about.

Question 9