53. Jones Construction currently uses traditional costing where overhead is applied based on direct labor
hours. Using traditional costing, the applied overhead rate is $20 per direct labor hour.
They are considering a switch to activity-based costing (ABC). The company controller has come up
with preliminary overhead rates for each of the following activities:
Activity
Allocation Base
Overhead rate
Material delivery and handling
Number of deliveries
$100 per delivery
Inspections
Number of inspections
$75 per inspection
Supervision
Hours of supervisor time
$30 per supervisor hour
Purchasing
Number of purchase orders
$60 per purchase order
One of the company’s current jobs has the following information available:
Direct labor hours
50 hours
Number of deliveries
2
Number of inspections
3
Hours of supervisor time
2
Number of purchase orders
5
Which of the following statements is true when comparing the total overhead allocated to the job using
traditional versus ABC costing?
a.
ABC costing will yield $215 less in overhead cost being allocated to the job.
b.
ABC costing will yield $735 less in overhead cost being allocated to the job.
c.
ABC costing will yield $545 more in overhead cost being allocated to the job.
d.
ABC costing will yield $785 more in overhead cost being allocated to the job.
54. Which of the following statements regarding service companies and activity-based costing (ABC) is
true?
a.
Service companies are not permitted to use ABC costing.
b.
Service companies find it easier to use ABC costing than manufacturing companies.
c.
Fewer repetitive activities make ABC costing more difficult to implement in service
companies.
d.
Service companies have proportionately less facility-level costs than manufacturing
companies.
55. Activity-based costing (ABC):
a.
should not be applied to non-manufacturing activities.
b.
should not be applied to service companies.
c.
can be applied to administrative activities.
d.
can only be used by manufacturing companies.
56. Which of the following items might cause activity-based costing (ABC) to be more difficult to
implement in a service company than in a manufacturing company?
a.
The lack of direct labor.
b.
The lack of facility-level costs.
c.
The lack of repetitive activities.
d.
The lack of overhead costs.
57. Which of the following types of costs would service-oriented companies be more likely to have
proportionately more of than manufacturing companies?
a.
Facility-level costs
b.
Product-level costs
c.
Batch-level costs
d.
Unit-level costs
58. Which of the following is not a benefit of activity-based costing (ABC)?
a.
Increased product cost information
b.
Increased accuracy in the budgeting process
c.
Increased implementation costs
d.
Increased understanding of activities that drive overhead costs
59. Which of the following is false regarding activity-based costing (ABC)?
a.
Companies that have a high potential for cost distortions are more likely to benefit with
ABC.
b.
Opportunities for continuous improvement are rarely revealed by using ABC.
c.
The cost of implementing ABC may outweigh the benefits.
d.
Increased accuracy with budgeting resources is often realized.
60. Which of the following types of companies would be most likely to benefit from activity-based
costing?
a.
companies with a low potential for cost distortions
b.
companies that have a large proportion of unit-level costs
c.
companies that have a relatively high proportion of overhead compared to direct materials
and direct labor
d.
none of these
61. Which of the following would be a likely disadvantage of activity-based costing (ABC)?
a.
A decrease in a company’s ability to accurately prepare budgets for the upcoming period.
b.
A decrease in a company’s ability to find opportunities for continuous improvement.
c.
An increase in the accuracy of product cost information.
d.
An increase in the cost of obtaining accurate product cost information.
62. Which of the following is a likely advantage in activity-based costing (ABC)?
a.
A decrease in the need to maintain accurate cost driver information.
b.
A decrease in the need to maintain accurate overhead cost information.
c.
An increase in the ability to trace indirect costs to specific activities.
d.
As increase in the cost of accumulating, tracking, and assigning costs to products and
services.
63. Which of the following is true regarding activity-based costing (ABC)?
a.
The benefits of using ABC always outweigh its limitations.
b.
The lower the proportion of overhead costs as compared to direct materials and direct
labor costs, the more likely a company will benefit by using ABC.
c.
Companies with a high-proportion of non-unit-level costs should rarely use ABC.
d.
High measurement costs associated with ABC may deter some companies from its use.
SHORT ANSWER
1. Discuss how the shift from labor intensive manufacturing to automation has affected product costing.
2. Identify and define each of the four general types of cost classifications used with activity-based
costing (ABC).
Managerial ACCT Test Bank Chapter 5 16
3. Give two examples for each of the four types of cost classifications.
1.
2.
1.
2.
1.
2.
1.
2.
4. Classify each of the following costs as unit-level (U), batch-level (B), product-level (P), or facility-
level (F).
factory supplies
factory insurance
product development costs
depreciation of factory equipment
depreciation of set-up equipment
utilities costs for factory machinery
salaries of product engineers
salary of plant manager
repairs of factory machinery
factory rent
Unit-level:
1. supplies for factory
3. depreciation on factory machinery
4. repairs and maintenance on factory machinery
Batch-level:
1. salaries related to purchasing/receiving
2. quality control costs
3. salaries related to moving material
4. depreciation of setup equipment
Product-level:
1. salaries of engineers
2. product development (testing) costs
3. depreciation of engineering equipment
4. quality control costs
Facility-level:
1. depreciation of factory building or rent
2. factory insurance, taxes, etc.
3. salary of plant manager
4. employee training
factory supplies
factory insurance
product development costs
depreciation of factory equipment
depreciation of set-up equipment
utilities costs for factory machinery
salaries of product engineers
salary of plant manager
repairs of factory machinery
factory rent
5. What is meant by the term “activity” in activity-based costing (ABC)? How are costs allocated in
ABC?
6. For each of the following activities, identify one potential cost driver.
a.
repair and maintenance of factory equipment
b.
supplies for factory
c.
purchasing
d.
quality control inspections
e.
machine setups
potential cost driver:
a.
repair and maintenance of factory equipment
machine hours, labor hours, number
of units
b.
supplies for factory
machine hours, number of units
c.
purchasing
number of purchase orders, number
of parts
d.
quality control inspections
number of inspections, inspection hours
e.
machine setups
number of setups
7. Define “cross subsidies” and tell what kind of product costing system is likely to have them. What
happens to cross subsidies in activity-based costing (ABC)?
8. When comparing traditional product costing and activity-based costing (ABC), which kind(s) of costs
are allocated to products in a similar manner and which kind(s) are allocated to products in a different
manner? Explain your answers.
9. Can activity-based costing (ABC) be used by service companies? If so, is the implementation of an
ABC system in a service company different than that of a manufacturing company?
Managerial ACCT Test Bank Chapter 5 19
10. What are the benefits and limitations of activity-based costing (ABC) systems?
PROBLEM
1. Ken’s Carpets sells carpet for both residential and business use. To better estimate costs, the company
recently adopted an activity-based costing system. Last year, the company incurred $300,000 in
overhead costs. Based on an intense study of their company, the following activities, allocation bases,
and percentages of overhead costs were determined:
Activity
Allocation Base
Proportion of Overhead Cost
Purchasing
Number of purchase orders
25%
Materials processing
Number of square feet
50%
Sales
Number of sales orders
25%
The number of activities for residential and business is as follows:
Residential
Business
Number of purchase orders
700
500
Number of square feet
4,000,000
2,000,000
Number of sales orders
400
100
Required:
A.
Calculate the total overhead that should be allocated to each of the three activities.
B.
Calculate the overhead rates for each of the three activities.
C.
If a particular residential job requires 4 purchase orders and 1 sales order for total of 1,500
square feet of carpet, how much overhead should be allocated to the job?
Benefits include:
More accurate product cost information that enables managers to focus on opportunities
for continuous improvement.
Greater ability for managers to control business operations by understanding which
activities drive costs.
Limitations include:
Managerial ACCT Test Bank Chapter 5 20
2. Mountaineer Tents manufactures and sells heavy and light duty tents to various outdoor retailers. To
better estimate costs, the company recently adopted an activity-based costing system. Last year, the
company incurred $900,000 in overhead costs. Based on an intense study of their company, the
following activities, allocation bases, and percentages of overhead costs were determined:
Activity
Allocation Base
Proportion of Overhead Cost
Purchasing
Number of purchase orders
55%
Inspections
Number of inspections
20%
Sales
Number of sales orders
25%
The number of activities for heavy and light duty tents is as follows:
Heavy-duty
Light-duty
Number of purchase orders
5,000
4,000
Number of inspections
3,000
1,000
Number of sales orders
800
400
Required:
A.
Calculate the total overhead that should be allocated to each of the three activities.
B.
Calculate the overhead rates for each of the three activities.
C.
If a single sales order requires 10 purchase orders and 30 inspections to fill, how much
overhead should be applied to the order?
$75,000 1,200 = $62.50 per purchase order
$150,000 6,000,000 = $.025 per square foot
$75,000 500 = $150 per sales order
Overhead allocated to job
$495,000 9,000 = $55 per purchase order
$180,000 4,000 = $45 per inspection
$225,000 1,200 = $187.50 per sales order
$187.50 1 = 187.50
Overhead allocated to job
3. The following overhead cost information is available for Millennium Inc. for 2009:
Activity
Allocation Base
Overhead Cost
Purchasing
Number of purchase orders
$300,000
Machine setups
Number of setups
150,000
Quality control
Number of inspections
50,000
During the year, 4,000 purchase orders were issued; 8,000 machine setups were performed; and 2,000
inspections were conducted.
Required:
A.
Calculate the overhead rates for each of the three activities.
B.
If a particular job requires 10 purchase orders, 6 setups, and 5 inspections to fill, how
much overhead should be applied to the job?
$300,000 4,000 = $75.00 per purchase order
$150,000 8,000 = $18.75 per setup
$ 50,000 2,000 = $25.00 per inspection
Overhead allocated to job
Managerial ACCT Test Bank Chapter 5 22
4. The following overhead cost information is available for Lowman Inc. for 2006:
Activity
Allocation Base
Overhead Cost
Purchasing
Number of purchase orders
$200,000
Machine setups
Number of setups
80,000
Quality control
Number of inspections
60,000
During the year, 2,000 purchase orders were issued; 500 machine setups were performed; and 1,500
inspections were conducted.
Required:
A.
Calculate the overhead rates for each of the three activities.
B.
If a particular job requires 8 purchase orders, 3 setups, and 4 inspections to fill, how much
overhead should be applied to the job?
5. Thurman Brothers Construction manufactures and installs standard and custom-made cabinetry for
residential homes. Last year, the company incurred $600,000 in overhead costs when a total of 10,000
direct labor hours were incurred. After implementing activity-based costing (ABC), the company’s
accountant identified the following related information:
Proportion of
Activity
Allocation Base
Overhead Cost
Material delivery and handling
Number of deliveries
30%
Inspections
Number of inspections
25%
Supervision
Hours of supervisor time
20%
Purchasing
Number of purchase orders
25%
The number of activities for standard and custom-made cabinets is as follows:
Standard
Custom-made
Number of deliveries
500
700
Number of inspections
600
400
Hours of supervisor time
1,000
2,000
Number of purchase orders
800
400
$200,000 2,000 = $100 per purchase order
$ 80,000 500 = $160 per setup
$ 60,000 1,500 = $40 per inspection
Overhead allocated to job
During the past year, Thurman accepted a customer order for a set of custom-made cabinets that would
require the following:
Direct labor hours
45
Number of deliveries
4
Number of inspections
5
Hours of supervisor time
2
Number of purchase orders
4
Required:
A.
How much overhead would be applied to the job if traditional costing using direct labor
hours as the cost driver were used?
B.
Using activity-based costing (ABC), what would be the overhead rate for each of the four
activities?
C.
Using activity-based costing (ABC), what would be the total overhead applied to the
above job?
D.
Compare the overhead applied using traditional costing to ABC costing and remark on the
difference. Which one do you think is more accurate?
($600,000 25%) 1,000 = $150 per inspection
($600,000 20%) 3,000 = $ 40 per supervisor hour
($600,000 25%) 1,200 = $125 per purchase order
Total overhead allocated using ABC
If the company overprices their product (using traditional costing), possible sales may be
lost. ABC is more accurate.