DETERMINING UNIT COSTS USING ABC
3. The cash sale of 90 percent of the merchandise completed during June at a total sales
The following information relates to the manufacturing operations of O’Shaughnessy Mfg. Co.
during the month of March. The company uses job order costing.
a. Purchases of direct materials during the month amount to $59,700. (All purchases were made on account.)
b. Materials requisitions issued by the Production Department during the month total $56,200.
c. Time cards of direct workers show 2,000 hours worked on various jobs during the month, for a total direct labor cost of $30,000.
d. Direct workers were paid $26,300 in March.
e. Actual overhead costs for the month amount to $34,900 (for simplicity, you may credit Accounts Payable).
f. Overhead is applied to jobs at a rate of $18 per direct labor hour.
g. Jobs with total accumulated costs of $116,000 were completed during the month.
h. During March, units costing $128,000 were sold for $210,000. (All sales were made on account.)
Instructions
Prepare general journal entries to summarize each of these transactions in the company’s general ledger accounts.
PROBLEM 17.2A Job Order Costing:
Journal Entries and Cost Flows
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Problem Set A accounting
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Georgia Woods, Inc., manufactures furniture to customers’ specifications and uses job order cost- ing. A predetermined overhead rate is used in applying manufacturing overhead to individual jobs.
In Department One, overhead is applied on the basis of machine-hours, and in Department Two, on the basis of direct labor hours. At the beginning of the current year, management made the follow- ing budget estimates to assist in determining the overhead application rate:
PROBLEM 17.3A Job Order Costing:
A Comprehensive Problem
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Department Department
One Two
Direct labor cost . . . $300,000 $225,000 Direct labor hours . . . 20,000 15,000 Manufacturing overhead . . . $420,000 $337,500 Machine-hours . . . 12,000 7,500
Department Department
One Two
Direct labor hours—month of January . . . 1,600 1,200 Machine-hours—month of January . . . 1,100 600 Manufacturing overhead incurred in January. . . . $39,010 $26,540
Department Department
One Two
Job order for City Furniture ( job no. 58):
Direct materials cost . . . $10,100 $ 7,600 Direct labor cost . . . $16,500 $11,100 Direct labor hours . . . 1,100 740 Machine-hours . . . 750 500
Department A Department B Direct labor . . . $420,000 $300,000 Manufacturing overhead . . . $540,000 $412,500 Machine-hours . . . 18,000 1,900 Direct labor hours . . . 28,000 25,000
Production of a batch of custom furniture ordered by City Furniture (job no. 58) was started early in the year and completed three weeks later on January 29. The records for this job show the following cost information:
Selected additional information for January is as follows:
Instructions
a. Compute the predetermined overhead rate for each department.
b. What is the total cost of the furniture produced for City Furniture?
c. Prepare the entries required to record the sale (on account) of the furniture to City Furniture.
The sales price of the order was $147,000.
d. Determine the over- or underapplied overhead for each department at the end of January.
Precision Instruments, Inc., uses job order costing and applies manufacturing overhead to indi- vidual jobs by using predetermined overhead rates. In Department A, overhead is applied on the basis of machine-hours, and in Department B, on the basis of direct labor hours. At the beginning of the current year, management made the following budget estimates as a step toward determining the overhead application rates:
PROBLEM 17.4A Job Order Costing:
A Comprehensive Problem
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Confirming Pages
Problem Set A 791
Production of 4,000 tachometers (job no. 399) was started in the middle of January and com- pleted two weeks later. The cost records for this job show the following information:
Instructions
a. Determine the overhead rate that should be used for each department in applying overhead costs to job no. 399.
b. What is the total cost of job no. 399, and what is the unit cost of the product manufactured on this production order?
c. Prepare the journal entries required to record the sale (on account) of 1,000 of the tachometers to SkiCraft Boats. The total sales price was $19,500.
d. Assume that actual overhead costs for the year were $517,000 in Department A and $424,400 in Department B. Actual machine-hours in Department A were 17,000, and actual direct labor hours in Department B were 26,000 during the year. On the basis of this information, deter- mine the over- or underapplied overhead in each department for the year.
Ye Olde Bump & Grind, Inc., is an automobile body and fender repair shop. Repair work is done by hand and with the use of small tools. Customers are billed based on time (direct labor hours) and materials used in each repair job.
The shop’s overhead costs consist primarily of indirect materials (welding materials, metal putty, and sandpaper), rent, indirect labor, and utilities. Rent is equal to a percentage of the shop’s gross revenue for each month. The indirect labor relates primarily to ordering parts and processing insurance claims. The amount of indirect labor, therefore, tends to vary with the size of each job.
Henry Lee, manager of the business, is considering using either direct labor hours or number of repair jobs as the basis for allocating overhead costs. He has estimated the following amounts for the coming year:
PROBLEM 17.5A Poor Drivers Are Cost Drivers
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Instructions
a. Compute the overhead application rate based on ( 1 ) direct labor hours and ( 2 ) number of repair jobs.
b. Shown below is information for two repair jobs:
Job 1 Repair a dented fender. Direct material used, $25; direct labor hours, 5; direct labor cost, $75.
Job 2 Repair an automobile involved in a serious collision. Direct materials used, $3,800;
direct labor hours, 200; direct labor cost, $3,000.
Determine the total cost of each repair job, assuming that overhead costs are applied to each job based on:
1. Direct labor hours.
2. Number of repair jobs.
c. Discuss the results obtained in part b. Which overhead application method appears to provide the more realistic results? Explain the reasoning behind your answer, addressing the issue of what “drives” overhead costs in this business.
Department A Department B Job no. 399 (4,000 units of product):
Cost of materials used on job . . . $6,800 $4,500 Direct labor cost . . . $8,100 $7,200 Direct labor hours . . . 540 600 Machine-hours . . . 250 100
Estimated total overhead . . . $123,000 Estimated direct labor hours . . . 10,000 Estimated number of repair jobs . . . 300
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Norton Chemical Company produces two products: Amithol and Bitrite. The company uses activity- based costing (ABC) to allocate manufacturing overhead to these products. The costs incurred by Norton’s Purchasing Department average $80,000 per year and constitute a major portion of the company’s total manufacturing overhead.
Purchasing Department costs are assigned to two activity cost pools: (1) the order cost pool and (2) the inspection cost pool. Costs are assigned to the pools based on the number of employ- ees engaged in each activity. Of the department’s five full-time employees, one is responsible for ordering raw materials, and four are responsible for inspecting incoming shipments of materials.
Costs assigned to the order pool are allocated to products based on the total number of purchase orders generated by each product line. Costs assigned to the inspection pool are allocated to prod- ucts based on the number of inspections related to each product line.
For the upcoming year, Norton estimates the following activity levels:
PROBLEM 17.6A Applying Overhead Costs Using ABC P
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Total Amithol Bitrite
Purchase orders generated . . . 10,000 2,000 8,000 Inspections conducted . . . 2,400 1,800 600
Estimated Estimated Units Model Machine-Hours of Production
A3B4 20,000 6,250
BC11 15,000 5,000
C3PO 5,000 2,500
In a normal year, the company conducts 2,400 inspections to sample the quality of raw materi- als. The large number of Amithol-related inspections is due to quality problems experienced in the past. The quality of Bitrite materials has been consistently good.
Instructions
a. Assign the Purchasing Department’s costs to the individual cost pools.
b. Allocate the order cost pool to the individual product lines.
c. Allocate the inspection cost pool to the individual product lines.
d. Suggest how Norton might reduce manufacturing costs incurred by the Purchasing Department.
Dixon Robotics manufactures three robot models: the A3B4, the BC11, and the C3PO. Dixon allocates manufacturing overhead to each model based on machine hours. A large portion of the company’s manufacturing overhead costs is incurred by the Maintenance Department. This year, the department anticipates that it will incur $100,000 in total costs. The following estimates pertain to the upcoming year:
PROBLEM 17.7A ABC versus Use of a Single Activity Base P
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Ed Smith, Dixon’s cost accountant, suspects that unit costs are being distorted by using a single activity base to allocate Maintenance Department costs to products. Thus, he is considering the implementation of activity-based costing (ABC).
Under the proposed ABC method, the costs of the Maintenance Department would be allo- cated to the following activity cost pools using the number of work orders as an activity base:
(1) the repairs pool and (2) the janitorial pool. Of the 2,000 work orders filed with the Maintenance Department each year, approximately 400 relate to repair activities, and 1,600 relate to janitorial activities.
Machinery repairs correlate with the number of production runs of each robot model. Thus, the repairs pool would be allocated to robots based on each model’s corresponding number of produc- tion runs. Janitorial services correlate with square feet of production space. Thus, the janitorial pool would be allocated to products based on the square feet of production space devoted to each robot model. The following table provides a summary of annual production run activity and square footage requirements:
Confirming Pages
Problem Set A 793
Instructions
a. Calculate the amount of Maintenance Department costs that would be allocated to each robot model (on a per-unit basis) using machine-hours as a single activity base.
b. Calculate the amount of Maintenance Department costs that would be allocated to each robot model (on a per-unit basis) using the proposed ABC method.
c. Are cost allocations distorted using machine-hours as a single activity base? Explain your answer.
Healthy Hound, Inc., makes two lines of dog food: (1) Basic Chunks, and (2) Custom Cuts. The Basic Chunks line is a dry food that is processed almost entirely by an automated process. Custom Cuts is a canned food made with real horsemeat. The slabs of meat are cut and trimmed by hand before being shoveled into a automated canning machine. Basic Chunks sells very well and is priced significantly below competitive brands. Sales of Custom Cuts have been on the decline, as the company has failed to keep the brand price competitive. Other information concerning each product line is provided below.
PROBLEM 17.8A ABC versus Use of a Single Activity Base P
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The company currently allocates manufacturing overhead to each product line on the basis of direct labor hours. Budgeted manufacturing overhead per month is $24,600, whereas budgeted direct labor hours amount to 2,500 per month.
Healthy Hound recently hired a consultant to examine its cost accounting system. The consul- tant recommends that the company adopt activity-based costing to allocate manufacturing over- head. She proposes that the following cost pools and cost drivers be used:
Estimated Number of Estimated Square Feet of Model Production Runs Production Space Used
A3B4 50 5,000
BC11 150 10,000
C3PO 200 25,000
Cost Driver Basic Chunks Custom Cuts Kilowatt-hours . . . 90,000 kWh 10,000 kWh Machine-hours . . . 160 mh 40 mh Square feet occupied . . . 60,000 sq. ft. 20,000 sq. ft.
Direct labor hours . . . 500 DLH 2,000 DLH Basic Chunks Custom Cuts Number of units* produced and sold per month . . . 50,000 20,000 Direct materials cost per unit . . . $2 $4 Direct labor cost per hour . . . $12 $12 Direct labor hours per unit . . . 0.01 0.10
*Units for Basic Chunks refer to bags; units for Custom Cuts refer to cases.
Amount Total Driver
Cost Pool Allocated Cost Driver Volume
Utilities $ 8,000 Kilowatt-hours 100,000 kWh
Maintenance 1,000 Machine-hours 200 mh
Depreciation of plant and equipment 15,000 Square feet occupied 80,000 sq. ft.
Miscellaneous 600 Direct labor hours 2,500 DLH
Total allocation $24,600
The amount of driver activity corresponding to each product line is as follows:
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Instructions
a. Allocate manufacturing overhead costs to each product line using direct labor hours as a sin- gle cost driver.
b. Allocate manufacturing overhead costs to each product line using the activity-based costing approach recommended by the consultant.
c. Compute the total monthly manufacturing costs assigned to each product line when activity- based costing is used to allocate manufacturing overhead.
d. Assume that the company sets selling prices as a fixed percentage above the total manufacturing costs allocated to each product line. On the basis of your results from parts a and b, discuss a possible reason why sales of the Custom Cuts product line are currently experiencing a decline.
e. Discuss reasons why the company should adopt the recommendation of the consultant and implement an activity-based costing system.
Problem Set B
Hastings International uses job order costing. Manufacturing overhead is charged to individual jobs through the use of a predetermined overhead rate based on direct labor costs. The following information appears in the company’s Work in Process Inventory account for the month of April:
Problem Set B
PROBLEM 17.1B Job Order Costing:
Computations and Journal Entries
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Debits to account:
Balance, April 1 . . . $12,000 Direct materials . . . 18,000 Direct labor . . . 15,000 Manufacturing overhead (applied to jobs as 160% of direct labor cost) . . . 24,000 Total debits to account . . . $69,000 Credits to account:
Transferred to Finished Goods Inventory account . . . 55,000 Balance, April 30 . . . $14,000
Instructions
a. Assuming that the direct labor charged to the jobs still in process at April 30 amounts to
$3,750, compute the amount of manufacturing overhead and the amount of direct materials that have been charged to these jobs as of April 30.
b. Prepare general journal entries to summarize:
1. The manufacturing costs (direct materials, direct labor, and overhead) charged to produc- tion during April.