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9
Activity-Based Costing
Solutions to Review Questions
9-1.
9-2.
The term “death spiral” refers to a process that begins by attempting to increase prices
9-3.
False. Department allocation is a two-stage process, so the first-stage assignment of
differ. This can affect the decisions managers make regarding individual products.
9-4.
Most companies produce multiple products and simply adding them up does not
9-5.
The costs include the systems and the software, but the most important cost is
managers’ time. Managers need to make many decisions about the activities and the
9-6.
1. Identify activities that consume resources.
2. Identify the cost driver associated with each activity.
9-7.
9-8.
9-9.
Activity-based costing will benefit most companies with high overhead costs and diverse
9-10.
A personnel department provides its services by completing a set of activities using
9-11.
9-12.
9-13.
Solutions to Critical Analysis and Discussion Questions
9-14.
9-15.
Activity-based costing does not change the process for direct costs, so the statement is
9-16.
Disagree. The services in a business school, as in any service business, require
9-17.
False. Activity-based costing is most useful when the first-stage allocation is to
9-18.
There is no rule that the price charged for a product has to exceed its cost. There may
9-19.
Activity-based costing is like any other information system; it has its benefits and its
9-20.
False. The lesson learned from activity-based costing is that costs are a function not
9-21.
False. Activity-based costing breaks down the costs into cost pools according to the
9-22.
9-23.
Without information on the use of overhead resources by products, it is difficult for
9-24.
when managers use product cost data to make decisions at the product level.
9-25.
Answers will vary based on the degrees offered and the nature of the school. Some
9-26.
Answers will vary. The function selected will determine the activities, but some
9-27.
Answers will vary. Elements of the system that suggest it is an ABC system include cost
9-28.
Although it appears that a time-driven activity-based cost system lacks a cost hierarchy,
Solutions to Exercises
9-29. (15 min.) Reported Costs and Decisions: McNulty, Inc.
Chairs
Desks
Total
a.
Sales revenue ....................................................
$1,150,000
$2,105,000
$3,255,000
b. After dropping chairs, the profit margin on desks falls below 20 percent.
Desks
Total
Sales revenue ....................................................
$2,105,000
$2,105,000
9-30. (15 min.) Reported Costs and Decisions: Kima Company.
Standard
Galaxy
Total
a.
Sales revenue ....................................................
$6,000,000
$2,700,000
$8,700,000
b. After dropping the standard model, the profit on the Galaxy model (and for the
company) becomes negative.
9-31. (30 min.) Plantwide versus Department Allocation: Munoz Sporting
Equipment.
Baseball
Bats
Tennis
rackets
a.
Sales revenue ....................................................
$2,700,000
$1,800,000
Direct Labor .......................................................
500,000
250,000
b. Maria was wrong; Baseball bats were more profitable.
Baseball
Bats
Tennis
rackets
Sales revenue ....................................................
$2,700,000
$1,800,000
c. The plantwide allocation method allocates overhead at 200% of direct labor for both
9-32. (35 min.) Plantwide versus Department Allocation: Main Street Ice Cream
Company.
Strawberry
Vanilla
Chocolate
a.
Direct Labor (per 1,000 gallons) ........................
$750
$825
$1,125
Raw Materials (per 1,000 gallons) .....................
800
500
600
c.
Strawberry
Vanilla
Chocolate
Direct Labor (per 1,000 gallons) ........................
$750
$825
$1,125
d. Charlene was correct in her belief that she was being allocated some of Department
9-33. (30 min.) Unitwide versus Department Allocation: Hernandez Bros.
a.
b.
Miami
New York
Employees .........................................................
1,900
600
Miami
New York
Employees .........................................................
1,900
600
9-34. (30 min.) Unit wide versus Department Allocation: Hernandez Bros.
a. First, note that the total to be allocated is $750,000 (= $570,000 + $180,000 in the
New York
Employees .........................................................
600
9-35. (30 min.) Activity-Based Costing: Joplin Industries.
a.
J25P
J40X
Direct material ..............................................................
$1,500,000
$2,400,000
Direct labor
Assembly .................................................................
$ 750,000
$ 600,000
Packaging ...............................................................
990,000
360,000
9-35. (continued)
b. Kris could have made the reductions he planned, but the effect on the product costs
would have been different. The $99,000 reduction in setup costs (25% of $396,000),
9-36. (30 min.) Activity-Based Costing in a Nonmanufacturing Environment:
Cathy’s Catering.
a. & b.
Activities
a.
Afternoon
Picnic
b.
Formal
Dinner
Advertising (parties) ...............................
$ 100
$ 100
Planning (parties) ...................................
75
125
9-37. (35 min.) Activity-Based versus Traditional Costing: Maglie Company.
a.
Rate
Handheld
Home
Total
Direct labora .......................................................
$1,160,400
$ 439,600
$1,600,000
Direct materialsb ................................................
$750,000
$ 684,000
$1,434,000
Overhead costs
9-37. (continued)
b.
Rate
Handheld
Home
Total
Direct labora .......................................................
$1,160,400
$ 439,600
$1,600,000
Direct materialsb ................................................
750,000
684,000
1,434,000
9-38. (35 min.) Activity-Based versus Traditional Costing: Doaktown Products.
a.
Rate
M-008
M-123
Total
Direct materialsa ................................................
$100,000
$ 80,000
$180,000
9-38. (continued)
b.
Rate
M-008
M-123
Total
Direct materialsa ................................................
$100,000
$ 80,000
$180,000
9-39. (30 min.) Activity-Based Costing in a Service Environment: EL&P.
Note: Answers may vary slightly due to rounding.
a.
Commercial
Residential
Total
Revenuea ...........................................................
$315,000
$780,000
$1,095,000
Direct Laborb .....................................................
175,000
325,000
500,000
b.
Rate
Commercial
Residential
Total
Revenue ............................................................
$315,000
$780,000
$1,095,000
Direct Labor .......................................................
175,000
325,000
500,000
Overhead
9-39. (continued)
c. The recommendation to EL&P is that they should reconsider dropping residential
9-40. (35 min.) Activity-Based versus Traditional Costing: Isadore’s
Implements, Inc.
a.
Cost Driver
Rate
Pencils
Pens
Setting up...........................................................
$1,440
a
$28,800
d
$ 43,200
b.
Pencils
Pens
Total
Direct Labor Hours .............................................
4,500
a
15,000
19,500
9-41. (35 min.) Activity-Based versus Traditional Costing—Ethical Issues:
Windy City Coaching.
a.
Account
Rate
Teen
Counseling
Executive
Coaching
Total
Revenue ............................................................
$66,000
$135,000
$201,000
Expenses:
Administrative support ....................................
$4,000
a
24,000
d
16,000
40,000
b.
Account
Rate
Teen
Counseling
Executive
Coaching
Total
Revenue .............................................................
$66,000
$135,000
$201,000
9-41. (continued)
e. Activity-based costing assigns higher costs to teen counseling than the traditional
method does, so using this would increase the chances of receiving the grant. If teen
9-42. (30 min.) Activity-Based Costing—Cost Flows Through T-accounts:
Southwest Components.
Materials Inventory
$600,000
Overhead Applied:
Machine Setups
25 setups x $5,400
per setup =
$135,000 to WIP
9-42. (continued)
Work in Process (WIP) Inventory
Fabrication Department
Direct Materials
600,000
9-43. (30 min.) Activity-Based Costing—Cost Flows Through T-accounts:
Catalina Sails.
Materials Inventory
$550,000 to WIP
Overhead Applied:
Quality Inspections
400 inspections x
$300 per inspection
= $120,000 to WIP
9-43. (continued)
Work in Process (WIP) Inventory
Department Y
Direct Materials
550,000
Direct Labor
275,000
9-44. (20 min.) Activity-Based Costing for an Administrative Service: LastCall
Enterprises.
a.
Rate
LaidBack
StressedOut
Total
Allocated costsa .................................................
$1,100
$220,000
b
$55,000
c
$275,000
b.
Rate
LaidBack
StressOut
Total
Employee maintenancea ....................................
$6,000
$60,000
b
$180,000
c
$240,000
Payrolld ..............................................................
$140
28,000
e
7,000
f
35,000
9-45. (20 min.) Activity-Based Costing for an Administrative Service: John’s
Custom Computer Shop.
a.
Rate
Personal
Business
Total
b.
Rate
Personal
Business
Total
Billinga ................................................................
$48
$28,800
b
$19,200
c
$48,000
9-46. (20 min.) Time-Driven Activity-Based Costing: Kim Distribution Services.
9-47. (20 min.) Time-Driven Activity-Based Costing: City Enterprises.
b.
$236.25
Solutions to Problems
9-48. (40 min.) Comparative Income Statements and Management Analysis: EZ-
Seat, Inc.
a. EZ-Seat, Inc. Income Statement
Account
Rate
Ergo
Standard
Total
Sales revenue ....................................................
$2,925,000
$2,760,000
$5,685,000
b. Activity-based costing highlights the activities that cause costs, and provides insight
9-48. (continued)
c. EZ-Seat, Inc. Income Statement
Account
Rate
Ergo
Standard
Total
Sales revenue ....................................................
$2,925,000
$2,760,000
$5,685,000
d. Dear Members of the Management Board:
9-49. (40 min.) Comparative Income Statements and Management Analysis:
Pepper’s Products.
a. Pepper’s Products: Income Statement
Account
Rate
Squeaky
Silent
Total
Sales revenue ....................................................
$43,200
$48,000
$91,200
a 25% = $6,000 administrative costs ÷ $24,000 direct labor costs.
b. Activity-based costing highlights the activities that cause costs, and provides insight
9-49. (continued)
c.
Pepper’s Products
Income Statement
Account
Rate
Squeaky
Silent
Total
Sales revenue ....................................................
$43,200
$48,000
$91,200
d. Dear Members of the Management Board:
The purpose of this report is to explain the differences between the profits in our
9-50. (15 min.) Ethics and Choice of Accounting Methods: Pepper’s Products.
Yes, you should show the results to management. You have an ethical responsibility
9-51. (50 min.) Activity-Based Costing and Predetermined Overhead Allocation
Rates: Kitchen Supply, Inc.
a. Computing overhead allocation rates
Activity
Cost
Driver
Est.
Costs
Driver
Units
Rate
Processing orders .........
No. of orders
$ 54,000
÷
200
=
$ 270
b. Production Costs using Direct Labor-Hours
Account
Institutional
Standard
Silver
Total
Direct materials ..................................................
$ 39,000
$24,000
$15,000
$ 78,000
9-51. (continued)
c. Production Costs using ABC
Account
Institutional
Standard
Silver
Total
Direct materials ..................................................
$39,000
$ 24,000
$15,000
$78,000
Direct labor ........................................................
6,750
6,750
9,000
22,500
Indirect costs
d. Internal Memorandum
The discrepancy between our product costs using direct-labor hours as the
allocation base versus activity-based costing is found in the way overhead costs are
9-52. (50 min.) Activity-Based Costing and Predetermined Overhead Rates:
College Supply Company.
a.
Activity
Recommended Base
Allocation Rate
Setting up production ...
No. of runs
$360 per run ($36,000 ÷ 100 runs)
Processing orders ........
No. of orders
$300 per order ($60,000 ÷ 200 orders)
b.
Short
Medium
Tall
Direct materials ..................................................
$ 6,000
$ 3,750
$ 3,000
9-52 (continued)
c.
Short
Medium
Tall
Direct materials ..................................................
$ 6,000
$ 3,750
$ 3,000
Direct labor ........................................................
3,000
3,600
3,300
d. Internal Memorandum
Re: Product Cost Discrepancy
9-53. (40 min.) Choosing an Activity-Based Costing System: Pickle
Motorcycles, Inc.
a.
Pickle Motorcycles
Income Statement
Route 66
Main Street
Alley Cat
Total
Sales revenue ....................................................
$7,600,000
$11,200,000
$9,500,000
$28,300,000
Direct costs:
9-53. (continued)
b.
Pickle Motorcycles
Income Statement
Route 66
Main Street
Alley Cat
Total
Sales revenue ....................................................
$7,600,000
$11,200,000
$9,500,000
$28,300,000
Direct costs:
Direct material ................................................
3,000,000
4,800,000
4,000,000
11,800,000
9-54. (40 min.) Activity-Based Costing, Cost Flow Diagram, and Predetermined
Overhead Rates: Churchill Products.
a.
Burden rate = (Total overhead costs ÷ Budgeted total direct labor-hours)
9-54. (continued)
b.
9-54. (continued)
d.
Unit Costs:
Oval
Round
Square
Direct Costs ............................................
$240,000
$240,000
$240,000
Overhead:
Utilities ...............................................
675,000a
225,000
450,000
e. If management implemented an activity-based costing system it should be provided
with a more thorough understanding of product costs. By breaking down costs into
9-55. (40 min.) Activity-Based Costing, Cost Flow Diagram, and Predetermined
Overhead Rates: Utica Manufacturing.
a.
Burden rate = (Total overhead costs ÷ Budgeted total machine-hours)
Budgeted total machine-hours = 60,000 + 90,000 = 150,000 hours
9-55. (continued)
b.
c.
Unit Costs:
308
510
Direct Costs ............................................
$216,000
$216,000
Overhead:
d. If management implemented an activity-based costing system it should be provided
with a more thorough understanding of product costs. By breaking down costs into
9-56. (40 min.) Activity-Based Costing and Predetermined Overhead Rates:
Cain Components.
a.
Burden rate = (Total overhead costs ÷ Budgeted total machine-hours)
Budgeted total machine-hours = 150,000 + 100,000 = 250,000 hours
9-56. (continued)
b.
Receiving ..........................
$600,000 ÷ $400,000 material dollars
=
150% of material dollars.
Unit Costs:
Standard
Deluxe
Direct Costs ............................................
$895,000
$405,000
Overhead:
c. If these results are typical, it will probably not be worth adopting the ABC system.
The difference in the reported product costs are not significant, meaning they would
9-57. (40 min.) Activity-Based Costing and Predetermined Overhead Rates:
Cain Components.
a.
Receiving ..........................
$600,000 ÷ $400,000 material dollars
=
150% of material dollars.
Unit Costs:
Standard
Deluxe
Direct Costs ............................................
$895,000
$405,000
Overhead:
Receiving ...........................................
367,500a
232,500
9-58. (15 min.) Benefits of Activity-Based Costing: Cawker Products.
Activity-based costing would help to clear his confusion by identifying the activities that
drive overhead costs.
9-59. (40 min.) Choosing an Activity-Based Costing System: MTI.
a. Total overhead to allocate is $8,700,000 (= $2,400,000 + $1,800,000 + $2,400,000 +
$1,200,000 + $900,000).
The overhead rate is $348 per machine-hour (= $8,700,000 ÷ 25,000 machine-hours).
MTI
Income Statement
M3100
M4100
M6100
Total
Sales revenue ....................................................
$9,000,000
$15,000,000
$13,500,000
$37,500,000
Direct costs:
b. Cost driver rates:
Activity
Cost
Activity Volume
Unit Rate
Setting up machines ....
$2,400,000
÷
50 runs
=
$48,000 per run
9-59. (continued)
Income Statement
M3100
M4100
M6100
Total
Sales revenue ....................................................
$9,000,000
$15,000,000
$13,500,000
$37,500,000
Direct costs:
Direct material. ...............................................
3,000,000
4,500,000
3,300,000
10,800,000
Direct labor .....................................................
600,000
900,000
1,800,000
3,300,000
Var. overhead ....................................................
c. Although both methods yield similar product costs, the activity-based costing method
provides a more detailed breakdown of the costs. This additional information should
9-60. (15 min.) Time-Based ABC – Time Equations: Kim Distribution Systems.
a.
Taking order = 10 minutes + 30 minutes (if retailer is new).
b.
c.
From the solution to Exercise 9-46 (a):
9-61. (15 min.) Time-Based ABC – Time Equations: City Enterprises.
a.
b.
c.
From the solution to Exercise 9-47 (a):
d.
Solutions to Integrative Cases
9-62. (50 Min) Cost Allocation and Environmental Processes—Ethical Issues:
California Circuits Company.
a.
= 120% of direct labor costs
b.
XL-D
XL-C
Raw material ...................................
$12.00
$14.00
a Overhead rate—Production Department = Production overhead ÷ Total machine-
hours
9-62. (continued)
d.
XL-D
XL-C
Raw material .........................................
$12.00
$14.00
Direct labor – Production .......................
$2.00
$2.00
a Production Department Overhead Calculations (Rate = Activity cost ÷ Driver volume):
Activity
Activity
Cost
Driver
Driver Volume
Rate
Supervision ........................................................
$100,000
Direct
labor-hrs
100,000 .1 + 25,000 .1
= 12,500 hours
$8.00
= $10 per direct labor-hour
9-62. (continued)
e. This question raises the issue of costs that are missing in the typical accounting
records of the firm. In this case, the ABC system suggests that XL-C, the model that
9-63. (60 min.) Distortions Caused By Inappropriate Overhead Allocation Base:
Chocolate Bars, Inc.
a.
Almond
Dream
Krispy
Krackle
Creamy
Crunch
Product costs:
Labor-hours per case .....................................
7
3
1
Total cases produced .....................................
1,000
1,000
1,000
Costs of products:
Material cost per case ....................................
$ 8.00
$ 2.00
$ 9.00
9-63. (continued)
c.
Krispy
Krackle
Creamy
Crunch
Direct labor cost per hour ..................................
$6.00
$6.00
Allocated production costs:
Krispy
Krackle
Creamy
Crunch
Material cost per case ........................................
$ 2.00
$ 9.00
Direct labor cost per case ..................................
18.00
6.00
Allocated overhead per case
9-63. (continued)
d.
Creamy
Crunch
Direct labor cost per hour ..................................
$6.00
Allocation rate per labor hour
=
Total overhead/Total labor hours
Allocated Production Costs:
Creamy
Crunch
Material cost per case ........................................
$ 9.00
The recommendation to management is to drop Creamy Crunch and sell out!
e. The policies and allocation method employed by CBI encourage poor decision
9-64. (90 min.) Multiple Allocation Bases: Chocolate Bars, Inc.
a.
Almond
Dream
Krispy
Krackle
Creamy
Crunch
Total
Total direct
labor hoursa ....................................................
7,000
(63.6%)
3,000
(27.3%)
1,000
(9.1%)
11,000
(100%)
Product allocation base:
Fraction:
Labor (%)
Machine hours (%)
Factory space (%)
Allocated Costs:
Total
Per Case
Almond Dream (63.6% x $24,500) + (13.3% x $30,000) +
Allocated production costs:
Almond
Dream
Krispy
Krackle
Creamy
Crunch
Material cost ......................................................
$ 8.00
$ 2.00
$ 9.00
9–64. (continued)
b. Based upon the table above and the gross profit margin rule, management would
recommend dropping Creamy Crunch. Two characteristics of Creamy Crunch
c.
Almond
Dream
Krispy
Krackle
Direct labor hours per case ................................
7
3
Machine hours per case ....................................
2
7
9-64. (continued)
Allocated Cost:
Total
Per Case
Almond Dream (82.4% x $24,500) +
(36.4% x $30,000) + (33.3% x $15,000) ...............
=
$36,108
$18.05
Krispy Krackle (17.6% x $24,500) +
Allocated production costs:
Almond
Dream
9-64. (continued)
If we compute the gross margin for the three products at maximum production, we
find Almond Dream and Krispy Krackle to be equally profitable, computed as follows:
Almond
Dream
or
Krispy
Krackle
or
Creamy
Crunch
Cases .................................................................
3,000
3,000
3,000
Costs
9-65. (90 min.) Activity-Based Costing – The Grape Cola Caper.
a. Percentage utilization of resource by activities:
Activity
Setups
Production
Runs
Products
Machine
Time
Indirect labor (including fringe benefits)
50%
40%
10%
0%
Costs assigned to activiities:
Activity
Cost
Setups
Production
Runs
Products
Machine
Time
Indirect labor
$28,000
$14,000
$11,200
$2,800
$ 0
9-65. (continued)
b.
Unit Costs on Cola Bottling Line
Diet
Regular
Cherry
Grape
Total
Materials
$ 25,000
$ 20,000
$ 4,680
$ 550
$ 50,230
Direct labor
10,000
8,000
1,800
200
20,000
9-65. (continued)
c.
Monthly Report on Cola Bottling Line
Diet
Regular
Cherry
Grape
Total
Sales revenue
$75,000
$60,000
$13,950
$1,650
$150,600
