Example-2

Inc. makes two styles of trophies, basic and deluxe, and operates at capacity. Acclaim does
large custom orders. Acclaim budgets to produce 10,000 basic trophies and 5,000 deluxe
trophies. Manufacturing takes place in two production departments: forming and assembly. In
the forming department, indirect manufacturing costs are accumulated in two cost pools,
setup and general overhead. In the assembly department, all indirect manufacturing costs are
accumulated in one general overhead cost pool. The basic trophies are formed in batches of
200 but because of the more intricate detail of the deluxe trophies, they are formed in batches
of 50.
The controller has asked you to compare plant-wide, department, and activity-based cost
allocation.

Required

1. Calculate the budgeted unit cost of basic and deluxe trophies based on a single plant-wide
overhead rate, if total overhead is allocated based on total direct costs. (Don’t forget to
include direct material and direct manufacturing labor cost in your unit cost calculation.)
2. Calculate the budgeted unit cost of basic and deluxe trophies based on departmental
overhead rates, where forming department overhead costs are allocated based on direct
manufacturing labor costs of the forming department and assembly department overhead
costs are allocated based on total direct manufacturing labor costs of the assembly
department.
3. Calculate the budgeted unit cost of basic and deluxe trophies if Acclaim allocates
overhead costs in each department using activity-based costing, where setup costs are
allocated based on number of batches and general overhead costs for each department are
allocated based on direct manufacturing labor costs of each department.
4. Explain briefly why plant-wide, department, and activity-based costing systems show
different costs for the basic and deluxe trophies. Which system would you recommend
and why?

SOLUTION

Plantwide, department, and activity-cost rates.

1.
Basic Deluxe Total
Direct materials
Forming $ 60,000 $35,000
 Assembly 5,000 10,000
Total 65,000 45,000
Direct manufacturing labor
Forming 30,000 20,000
Assembly 15,000 25,000
Total 45,000 45,000
Total direct costs $110,000 $90,000 $200,000

= =

Basic Deluxe Total

Direct materials $ 65,000 $ 45,000 $110,000
Direct manuf. labor 45,000 45,000 90,000
Total direct cost 110,000 90,000 200,000
Allocated overhead ($0.60 × 110,000;90000) 66,000 54,000 120,000
Total costs $176,000 $144,000 $320,000
Unit cost ($176,000÷10,000; $144,000÷5,000) $17.60 $28.80

2. =

= $1.60 per Forming Department direct manuf.-labor dollar

= $1 per Assembly Department direct manuf.-labor dollar

Basic Deluxe Total

Direct materials $ 65,000 $ 45,000 $110,000
Direct manufacturing labor 45,000 45,000 90,000
Total direct cost 110,000 90,000 200,000
Allocated overhead
Forming Dept.($1.60 × 30,000;20,000) 48,000 32,000 80,000
Assembly Dept. ($1 × 15,000;25,000) 15,000 25,000 40,000
Total costs $173,000 $147,000 $320,000
Unit cost ($173,000÷10,000; $147,000÷5,000) $17.30 $29.40

3.
Number of batches of basic trophies = 10,000 ÷ 200 trophies per batch = 50 batches
Number of batches of deluxe trophies = 5,000 ÷ 50 trophies per batch = 100 batches
Total number of batches = 50 + 100 = 150 batches

Forming Department

= = $320 per batch

= = $0.64 per direct manuf.-labor dollar

Assembly Department

= = $1 per direct manuf.-labor dollar

Basic Deluxe Total

Direct material costs $ 65,000 $ 45,000 $110,000
Direct labor costs 45,000 45,000 90,000
Total direct costs 110,000 90,000 200,000
Forming Dept. overhead
Set up
$320  50; 100 16,000 32,000 48,000
General overhead
$0.64 $30,000; $20,000 19,200 12,800 32,000
Assembly Department overhead
General overhead
$1 $15,000; $25,000 15,000 25,000 40,000

Total costs $160,200 $159,800 $320,000

Unit cost ($160,200÷10,000; $159,800÷5,000) $16.02 $31.96

4. As Triumph uses more refined cost pools, the costs of basic trophies decreases, and
costs of deluxe trophies increases. This is because deluxe trophies use a higher proportion of
cost drivers (batches of set ups and direct manufacturing labor costs) than basic trophies,
whereas the direct costs (the allocation base used in the simple costing system) are slightly
smaller for deluxe trophies compared to basic trophies. This results in deluxe trophies being
undercosted and basic trophies overcosted in the simple costing system.
Department costing systems increase the costs of deluxe trophies relative to basic
trophies because the forming and assembly department costs are allocated based on direct
manufacturing labor costs in the respective departments. When compared to basic trophies,
deluxe trophies use direct manufacturing labor more intensively in each department
compared to direct materials.
 I would recommend that Acclaim use the activity-based costing system because
disaggregated information can improve decisions by allowing managers to see the details that
help them understand how different aspects of cost influence total cost per unit. Even though
the cost per unit of basic trophies and deluxe trophies does not change much, activity-based
costing can help managers understand the drivers of different cost categories and use this
information for pricing and product-mix decisions, cost reduction and process-improvement
decisions, design decisions, and to plan and manage activities. However, too much detail can
overload managers who don’t understand the data or what it means. Acclaim’s ABC system
is intuitive and easy to understand. Also, managers looking at per-unit data may be misled
when considering costs that aren’t unit-level costs.