MANAGERIAL ACCOUNTING – CHAPTER # 5 ANSWERS

Exercise 5-22 (Activity-Based Costing: Quality Control Costs)

1. a. Quality-control costs assigned to the Satin Sheen line under the traditional system:
Quality-control
Costs assigned to
Satin Sheen line = 14.5% x Rs. 27,500
= Rs. 3,988 (rounded)
b. Quality-control costs assigned to the Satin Sheen line under activity-based costing:

C Pool Rate (Rs.) Quantity for Assigned

Satin Sheen Cost (Rs.)
Incoming material 11.50 per type 12 types 138
Inspection
In-process inspection .14 per unit 17,500 units 2,450
Product certification 77.00 per order 25 orders 1,925
Total quality-control costs assigned 4,513

2. The traditional product-costing system under-costs the Satin Sheen product line, with respect to
quality-control costs, by Rs. 525 (Rs. 4,513 – Rs. 3,988).

Exercise 5-23 (Cost Drivers; Activity Cost Pools)

There is no single correct answer to this exercise. There are many reasonable solutions.

Cost pool 1:
Rs.
Raw materials and components 2,950,000
Inspection of finished goods 30,000
Total 2,980,000
Cost driver: raw-material cost
Cost pool 2:
Rs.
Depreciation, machinery 1,400,000
Electricity, machinery 120,000
Equipment maintenance, wages 150,000
Equipment maintenance, parts 30,000
Total 1,700,000

Cost driver: number of units produced.

Cost pool 3:
Rs.
Setup wages 40,000
Total 40,000

Cost driver: number of production runs.

Cost pool 4:
Rs.
Engineering design 610,000
Total 610,000

Cost driver: number of parts in a product.

Cost pool 5:
Rs.
Depreciation, plant 700,000
Insurance, plant 600,000
Electricity, light 600,000
Custodial wages, plant 40,000
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 MANAGERIAL ACCOUNTING – CHAPTER # 5 ANSWERS
Property taxes 120,000
Natural gas, beating 30,000
Total 1,550,000

Cost driver: for costs allocated to support departments, square footage; for costs assigned to products,
number of units produced.

Exercise 5-28 (Winery; Classification of Activities)

The activity of the Finger Lakes Winery may be classified as follows:

U: Unit-level
B: Batch-level
P: Product-sustaining-level
F: Facility-level Activity

Activity Classification Activity Classification

(1) P (11) B
(2) P (12) B
(3) P (13) U
(4) P (14) U
(5) P (15) U
(6) P (16) U
(7) P (17) B
(8) B (18) F
(9) B (19) F
(10) B

Exercise 5-30 (ABC; Selling Costs)

REDWOOD COMPANY
COMPUTATION OF SELLING COSTS
By Order Size and per Skein Within Each Order Size
Order Size
Small Medium Large Total
(Rs.) (Rs.) (Rs.) (Rs.)
Sales commissions a
(Unit cost: Rs. 675,000/225,000
= Rs. 3.00 per box) 6,000 135,000 534,000 675,000

Catalogs b
(Unit cost: Rs. 295,400/590,800
= Rs. 0.50 per catalog) 127,150 105,650 62,600 295,400

Costs of catalog sales c

(Unit cost: Rs. 105,000/175,000
= Rs. 0.60 per skein) 47,400 31,200 26,400 105,000

Credit and collection d

(Unit cost: Rs. 60,000/6,000
= Rs. 10.00 per order) 4,850 24,150 31,000 60,000

Total cost for all orders of a given size 185,400 296,000 654,000 1,135,400

Units (skeins) sold e 103,000 592,000 2,180,000

Unit cost per order of a given size f 1.80 0.50 0.30

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a
Retail sales in boxes x unit cost:
small, 2,000 x Rs. 3
medium, 45,000 x Rs. 3
large, 178,000 x Rs. 3
b
Catalogs distributed x unit cost
c
Catalog sales x unit cost
d
Number of retail orders x unit cost
e
Small: (2,000 x 12) + 79,000 = 103,000
Medium: (45,000 x 12) + 52,000 = 592,000
Large: (178,000 x 12) + 44,000 = 2,180,000
f
Total cost for all orders of a given size / units sold

Problem 5-32 (Activity-Based Costing; Cost Analysis)

1. Predetermined overhead rate = budgeted overhead / budgeted direct labor hours

= Rs. 800,000 *-/ 25,000* = Rs. 32 per direct labor hour
*25,000 budgeted direct labor hours = (3,000 units of Standard) (3 hrs./unit) / (4,000 units of Enhanced)
(4 hrs. / unit)

Standard Enhanced
(Rs.) (Rs.)
Direct material 25 40
Direct labor
3 hours x Rs. 12 36
4 hours x Rs. 12 48
Manufacturing overhead:
3 hours x Rs. 32 96
4 hours x Rs. 32 ____ 128
Total cost 157 216

2. Activity based overhead application rates:

Activity Cost Activity Cost Driver Application

(Rs.) Rate (Rs.)
Order processing 150,000 / 500 orders processed (OP) = 300 per OP

Machine processing 560,000 / 40,000 machine hrs. (MH) = 14 per MH

Product inspection 90,000 / 10,000 inspection hrs. (IH) = 9 per IH

Order processing, machine processing, and product inspection costs of a standard unit and an Enhanced
unit:

Activity Standard Enhanced

(Rs.) (Rs.)
Order process:
300 OP x Rs. 300 90,000
200 OP x Rs. 300 60,000
Machine processing
18,000 MH x Rs. 14 252,000
22,000 MH x Rs. 14 308,000
Product inspection:
2,000 IH x Rs. 9 18,000
8,000 IH x Rs. 9 72,000
Total 360,000 440,000
Production volume (units) 3,000 4,000
Cost per unit 120* 110**

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 MANAGERIAL ACCOUNTING – CHAPTER # 5 ANSWERS
* Rs. 360,000 / 3,000 units = Rs. 120
** Rs. 440,000 / 4,000 units = Rs. 110

The manufactured cost of a Standard unit is Rs. 181, and the manufactured cost of an Enhanced unit is Rs.
198:

Standard Enhanced
(Rs.) (Rs.)
Direct material 25 40
Direct labor
3 hours x Rs. 12 36
4 hours x Rs. 12 48
Order processing, machine processing,:
and product inspection 120 110
Total cost 181 198

a. The enhanced product is over-costed by the traditional product costing system. The labor hour
application base resulted in a Rs. 216 unit cost; in contracts, the more accurate ABC approach
yielded a lower unit cost of Rs. 198. The opposite situation occurs with the Standard product,
which is under-costed by the traditional approach (Rs. 157 vs. Rs. 181 under ABC).

b. Yes, especially since the company’s selling prices are based heavily on cost. An overcosted
product will result in an inflated selling price, which could prove detrimental in a highly
competitive marketplace. Customers will be turned off and will go elsewhere, which hurts
profitability. With undercosted products, selling prices may be too low to adequately cover a
product’s more accurate (higher) cost. This situation is also troublesome and will result in a lower
income being reported for the company.

Problem 5-34 (Continuation of preceding problem; Explaining ABC)

Cost
Driver Activity Activity
Activity Quantity Cost for Product Cost per
Cost Cost Pool for Product Line Unit of
Pool Cost Driver Rate Product Product Line Production Product
Activity (Rs.) Driver Quantity (Rs.) Line Line (Rs.) on Volume (Rs.)
Material 52,500 4.20
Handing 0 Production 100 525.00 REG 40 21,000 5,000
5.25
Runs ADV 40 21,000 4,000
GMT 20 10,500 1,000 10.50
Total 100 52,500

The results of the ABC calculations are in columns E, H and J. The ABC calculations are as follows:

(1) Compute pool rate for material – handling activity:

Activity cost pool / cost driver quantity = pool rate
Rs. 52,500 / 100 = Rs. 525.00

(2) Compute total activity cost for each product line:

Product Line Pool Rate Cost Driver Activity Cost

(Rs.) Quantity for for Each
Product Line Product Line
(Rs.)
REG 525.00 x 40 = 21,000
ADV 525.00 x 40 = 21,000
GMT 525.00 x 20 = 10,500

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(3) Compute product cost per unit for each product line:

Product Line Activity Product Line Activity Cost

cost for Production for Each
each Volume Product
product (Rs.)
line (Rs.)
REG 21,000 / 5,000 = 4.20
ADV 21,000 / 4,000 = 5.25
GMT 10,500 / 1,000 = 10.50

Problem 5-36 (Activity-Based Costing; Analysis of Operations)

1. Activity based costing results in improved costing accuracy for two reasons. First, companies that
use ABC are not limited to a single driver when allocating costs to products and activities. Not all
costs vary with units, and ABC allows users to select a host of non unit-level cost drivers. Second
consumption ratios often differ greatly among activities. No single cost driver will accurately
assign costs for all activities in this situation.

2. Allocation of administrative cost based on billable hours:

Information systems: 3,100 / 5,000 = 62%; Rs. 342,000 x 62% = Rs. 212,040
E-commerce consulting: 1,900 / 5,000 = 38%; Rs. 342,000 x 38% = 129,960

Information E-Commerce
Systems Consulting
Services (Rs.)
Billings:
3,100 hours x Rs. 125 387,500
1,900 hours x Rs. 125 237,500
Less: professional staff cost:
3,100 hours x Rs. 45 (139,500)
1,900 hours x Rs. 45 (85,500)
Administrative cost (212,040) (129,960)
Income 35,960 22,040

Income / billings 9.28% 9.28%

3. Activity based application rates:

Activity Cost Activity Cost Driver Application

(Rs.) Rate (Rs.)
Staff Support 180,000 / 250 clients = 720 per client

In-house computing 136,400 / 4,400 computer hours (CH) = 31 per CH

Miscellaneous office charges 25600 / 1,000 client transactions (CT) = 25.60 per CT

Staff support, in-house computing, and miscellaneous office charges of information systems services and e-
commerce consulting:

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 MANAGERIAL ACCOUNTING – CHAPTER # 5 ANSWERS
Activity Information E-Commerce
Systems Consulting
Service (Rs.)
(Rs.)
Staff support:
200 clients x Rs. 720 144,000
50 clients x Rs. 720 36,000
In-house computing:
2,600 CH x Rs. 31 80,600
1,800 CH x Rs. 31 55,800
Miscellaneous office charges:
400 CT x Rs. 25.60 10,240
600 CT x Rs. 25.60 15,360
Total 234,840 107,160

Profitability of information systems services and e-commerce consulting:

Activity Information E-Commerce

Systems Consulting
Service (Rs.)
(Rs.)
Billings:
3,100 hours x Rs. 125 387,500
1,900 hours x Rs. 125 237,500
Less: Professional staff costs:
3,100 hours x Rs. 45 (139,500)
1,900 hours x Rs. 45 (85,500)
Administrative cost (234,840) (107,160)
Income 13,160 44,840

Income / billings 3.40% 18.88%

4. Yes, his attitude should change. Even though both services are needed and professionals are paid
the same rate, the income percentages show that e-commerce consulting provides a higher return
per sales rupees then information systems services (18.88% vs. 3.40%). Thus, all other things
being equal, professionals should spend more time with e-commerce.

5. Probably not. Although both services produce and attractive return, the firm is experiencing a very
tight labor market and will likely have trouble finding qualified help. In addition, the professional
staff is currently overworked, which would probably limit the services available to new clients.

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