I came back a little late from work. I do not know what happen, may be it was cut off. Nonetheless, here are the 2 questions.
P4-4A Mendocino Corporation produces two grades of wine from grapes that it buys from California growers. It produces and sells roughly 3,000,000 liters per year of a low-cost, high-volume product called CoolDay. It sells this in 600,000 5-liter jugs. Mendocino also produces and sells roughly 300,000 liters per year of a low-volume, high-cost product called LiteMist. LiteMist is sold in 1-liter bottles. Based on recent data, the CoolDay product has not been as profitable as LiteMist. Management is considering dropping the inexpensive CoolDay line so it can focus more attention on the LiteMist product.
The LiteMist product already demands considerably more attention than the CoolDay line.
Tyler Silva, president and founder of Mendocino, is skeptical about this idea. He points out that for many decades the company produced only the CoolDay line, and that it was always quite profitable. It wasn't until the company started producing the more complicated LiteMist wine that the profitability of CoolDay declined. Prior to the introduction of LiteMist, the company had simple equipment, simple growing and production procedures, and virtually no need for quality control. Because LiteMist is bottled in 1-liter bottles, it requires considerably more time and effort, both to bottle and to label and box than does CoolDay. The company must bottle and handle 5 times as many bottles of LiteMist to sell the same quantity as CoolDay. CoolDay requires 1 month of aging; LiteMist requires 1 year. CoolDay requires cleaning and inspection of equipment every 10,000 liters; LiteMist requires such maintenance every 600 liters. Tyler has asked the accounting department to prepare an analysis of the cost per liter using the traditional costing approach and using activity-based costing. The following information was collected.
Direct materials per liter $0.40 $1.20
Direct labor cost per liter $0.25 $0.50
Direct labor hours per liter 0.05 0.09
Total direct labor hours 120,000 25,000
Expected Expected Use
Use of of Cost Drivers
Estimated Cost per Product
Activity Cost Pools Cost Drivers Overhead Drivers CoolDay LiteMist
Grape processing Cart of grapes $ 145,860 6,600 6,000 600
Aging Total months 396,000 6,600,000 3,000,000 3,600,000
Bottling and Number of
corking bottles 270,000 900,000 600,000 300,000
and Number of
boxing bottles 189,000 900,000 600,000 300,000
Maintain and in- Number of
spect equipment inspections 240,800 800 350 450
Answer each of the following questions. (Round all calculations to three decimal places.)
(a) Under traditional product costing using direct labor hours, compute the total manufacturing cost per liter of both products.
(b) Under ABC, prepare a schedule showing the computation of the activity-based overhead rates (per cost driver).
(c) Prepare a schedule assigning each activity's overhead cost pool to each product, based on the use of cost drivers. Include a computation of overhead cost per liter.
(d) Compute the total manufacturing cost per liter for both products under ABC.
(e) Write a memo to Tyler Silva discussing the implications of your analysis for the company's plans. In this memo provide a brief description of ABC, as well as an explanation of how the traditional approach can result in distortions.
BYP 4-2 Ideal Manufacturing Company of Sycamore, Illinois has supported a research and development (R&D) department that has for many years been the sole contributor to the company's new farm machinery products. The R&D activity is an overhead cost center that provides services only to in-house manufacturing departments (four different product lines), all of which produce agricultural/farm/ranch related machinery products.
The department has never sold its services outside, but because of its long history of success, larger manufacturers of agricultural products have approached Ideal to hire its R&D department for special projects. Because the costs of operating the R&D department have been spiraling uncontrollably, Ideal's management is considering entertaining these outside approaches to absorb the increasing costs. But, (1) management doesn't have any cost basis for charging R&D services to outsiders, and (2) it needs to gain control of its R&D costs. Management decides to implement an activity-based costing system in order to determine the charges for both outsiders and the in-house users of the department's services.
R&D activities fall into four pools with the following annual costs.
Market analysis $1,050,000
Product design 2,280,000
Product development 3,600,000
Prototype testing 1,400,000
Activity analysis determines that the appropriate cost drivers and their usage for the four activities are:
Activities Cost Drivers Estimated Drivers
Market analysis Hours of analysis 15,000 hours
Product design Number of designs 2,500 designs
Product development Number of products 90 products
Prototype testing Number of tests 700 tests
(a) Compute the activity-based overhead rate for each activity cost pool.
(b) How much cost would be charged to an in-house manufacturing department that consumed 1,800 hours of market analysis time, was provided 280 designs relating to 10 products, and requested 92 engineering tests?
(c) How much cost would serve as the basis for pricing an R&D bid with an outside company on a contract that would consume 800 hours of analysis time, require 178 designs relating to 3 products, and result in 70 engineering tests?
(d) What is the benefit to Ideal Manufacturing of applying activity-based costing to its R&D activity for both in-house and outside charging purposes?