Exercise 7-5 (15 minutes)

Sales ($1,850 per standard model glider × 20

standard model gliders + $2,400 per custom
designed glider × 3 custom designed gliders) . $44,200
Costs:
Direct materials ($564 per standard model
glider × 20 standard model gliders + $634
per custom designed glider × 3 custom
designed gliders) ....................................... $13,182
Direct labor ($19.50 per direct labor-hour ×
26.35 direct labor-hours per standard model
glider × 20 standard model gliders +
$19.50 per direct labor-hour × 28 direct
labor-hours per custom designed glider × 3
custom designed gliders) ............................ 11,915
Supporting direct labor ($26 per direct labor-
hour × 26.35 direct labor-hours per
standard model glider × 20 standard model
gliders + $26 per direct labor-hour × 28
direct labor-hours per custom designed
glider × 3 custom designed gliders) ............ 15,886
Order processing ($284 per order × 4 orders) 1,136
Custom designing ($186 per custom design ×
3 custom designs)...................................... 558
Customer service ($379 per customer × 1
customer) ................................................. 379 43,056
Customer margin ............................................ $ 1,144

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Exercise 7-15 (30 minutes)
1. First-stage allocations of overhead costs to the activity cost pools:
Distribution of Resource Consumption
Across Activity Cost Pools
Supporting Order Customer
Direct Labor Processing Support Other Totals
Wages and salaries ......... 40% 30% 20% 10% 100%
Other overhead costs ...... 30% 10% 20% 40% 100%

Direct Labor Order Customer

Support Processing Support Other Totals
Wages and salaries ......... $120,000 $ 90,000 $ 60,000 $ 30,000 $300,000
Other overhead costs ...... 30,000 10,000 20,000 40,000 100,000
Total cost ....................... $150,000 $100,000 $ 80,000 $ 70,000 $400,000
Example: 40% of $300,000 is $120,000.

2. Computation of activity rates:

(a) (b) (a) ÷ (b)

Activity Cost Pools Total Cost Total Activity Activity Rate
Supporting direct
labor .................... $150,000 20,000 DLHs $7.50 per DLH
Order processing ..... $100,000 400 orders $250 per order
Customer support .... $80,000 200 customers $400 per customer

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Exercise 7-15 (continued)
3. Computation of the overhead costs for the Shenzhen Enterprises order:

(a) (b) (a) × (b)

Activity Cost Pool Activity Rate Activity ABC Cost
Supporting direct
labor ................. $7.50 per DLH 20 DLHs* $150
Order processing .. $250 per order 1 order 250
Customer support . $400 per customer 1 customer 400
Total .................... $800
*2 DLHs per unit × 10 units = 20 DLHs.

4. The customer margin for Shenzhen Enterprises is computed as follows:

Customer Margin—ABC Analysis
Sales (10 units × $300 per unit) .................... $3,000
Costs:
Direct materials ($180 per unit × 10 units) ... $1,800
Direct labor ($50 per unit × 10 units) ........... 500
Support direct labor overhead (see part 3
above) .................................................... 150
Order processing overhead (see part 3
above) .................................................... 250
Customer support overhead (see part 3
above) .................................................... 400 3,100
Customer margin .......................................... $ (100)

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Solutions Manual, Chapter 7 3
Problem 7-16 (45 minutes)
1. Under the traditional direct labor-dollar based costing system,
manufacturing overhead is applied to products using the predetermined
overhead rate computed as follows:

Predetermined = Estimated total manufacturing overhead cost

overhead rate Estimated total direct labor dollars

$608,000
= = $2.00 per DL$
$304,000

The product margins using the traditional approach would be computed

as follows:
B300 T500 Total
Sales .................................. $1,400,000 $700,000 $2,100,000
Direct materials ................... 436,300 251,700 688,000
Direct labor ......................... 200,000 104,000 304,000
Manufacturing overhead
applied @ $2.00 per direct
labor-dollar ....................... 400,000 208,000 608,000
Total manufacturing cost...... 1,036,300 563,700 1,600,000
Product margin .................... $ 363,700 $136,300 $ 500,000
Note that all of the manufacturing overhead cost is applied to the
products under the company’s traditional costing system.

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Solutions Manual, Chapter 7 4
Problem 7-16 (continued)
2. The first step is to determine the activity rates:
(a)
Total (b) (a) ÷ (b)
Activity Cost Pools Cost Total Activity Activity Rate
Machining .............. $213,500 152,500 MH $1.40 per MH
Setups .................. $157,500 375 setup hrs $420 per setup hr
Product sustaining.. $120,000 2 products $60,000 per product

*The Other activity cost pool is not shown above because it includes
organization-sustaining and idle capacity costs that should not be
assigned to products.

Under the activity-based costing system, the product margins would be

computed as follows:
B300 T500 Total
Sales.................................. $1,400,000 $700,000 $2,100,000
Direct materials .................. 436,300 251,700 688,000
Direct labor ........................ 200,000 104,000 304,000
Advertising expense ............ 50,000 100,000 150,000
Machining .......................... 126,000 87,500 213,500
Setups ............................... 31,500 126,000 157,500
Product sustaining .............. 60,000 60,000 120,000
Total cost ........................... 903,800 729,200 1,633,000
Product margin ................... $ 496,200 $(29,200) $ 467,000
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Solutions Manual, Chapter 7 5
Problem 7-16 (continued)

3. The quantitative comparison is as follows:

B300 T500 Total

Traditional Cost System (a) (a) ÷ (c) (b) (b) ÷ (c) (c)
Amount % Amount % Amount
Direct materials ........................ $436,300 63.4% $251,700 36.6% $ 688,000
Direct labor .............................. 200,000 65.8% 104,000 34.2% 304,000
Manufacturing overhead ............ 400,000 65.8% 208,000 34.2% 608,000
Total cost assigned to products .. $1,036,300 $563,700 $1,600,000
Selling and administrative .......... 550,000
Total cost ................................. $2,150,000

Activity-Based Costing System

Direct costs:
Direct materials ........................ $436,300 63.4% $251,700 36.6% $ 688,000
Direct labor .............................. 200,000 65.8% 104,000 34.2% 304,000
Advertising expense .................. 50,000 33.3% 100,000 66.7% 150,000
Indirect costs:
Machining................................. 126,000 59.0% 87,500 41.0% 213,500
Setups ..................................... 31,500 20.0% 126,000 80.0% 157,500
Product sustaining .................... 60,000 50.0% 60,000 50.0% 120,000
Total cost assigned to products .. $903,800 $729,200 1,633,000
Costs not assigned to products:
Selling and administrative .......... 400,000

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Other .................................... 117,000
Total cost ................................. $2,150,000

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Solutions Manual, Chapter 7 6
Problem 7-16 (continued)

The traditional and activity-based cost assignments differ for three

reasons. First, the traditional system assigns all $608,000 of
manufacturing overhead to products. The ABC system assigns only
$491,000 (= $213,500 + $157,500 + $120,000) of manufacturing
overhead to products. The ABC system does not assign the $117,000 of
Other activity costs to products because they represent organization-
sustaining costs. Second, the traditional system uses one unit-level
activity measure, direct labor dollars, to assign 65.8% of all overhead to
the B300 product line and 34.2% of all overhead to the T500 product
line. The ABC system assigns 59.0% of Machining costs to the B300
product line and 41.0% to the T500 product line. The ABC system
assigns 20.0% of Setup costs (a batch-level activity) to the B300
product line and 80.0% to the T500 product line. The ABC system
assigns 50% of Product sustaining costs (a product-level activity) to
each product line. Third, the traditional system does not trace any
advertising expenses to the two products. The ABC system traces
$50,000 of advertising to the B300 and $100,000 of advertising to the
T500 product line.

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Solutions Manual, Chapter 7 7
Problem 7-20 (45 minutes)
1. The first-stage allocation of costs to activity cost pools appears below:

Distribution of Resource Consumption

Across Activity Cost Pools
Cleaning Travel Job
Carpets to Jobs Support Other Total
Wages ....................................... 70% 20% 0% 10% 100%
Cleaning supplies ........................ 100% 0% 0% 0% 100%
Cleaning equipment depreciation . 80% 0% 0% 20% 100%
Vehicle expenses ........................ 0% 60% 0% 40% 100%
Office expenses .......................... 0% 0% 45% 55% 100%
President’s compensation ............ 0% 0% 40% 60% 100%

Cleaning Travel Job

Carpets to Jobs Support Other Total
Wages ....................................... $105,000 $30,000 $ 0 $ 15,000 $150,000
Cleaning supplies ........................ 40,000 0 0 0 40,000
Cleaning equipment depreciation . 16,000 0 0 4,000 20,000
Vehicle expenses ........................ 0 48,000 0 32,000 80,000
Office expenses .......................... 0 0 27,000 33,000 60,000
President’s compensation ............ 0 0 32,000 48,000 80,000
Total cost ................................... $161,000 $78,000 $59,000 $132,000 $430,000
Example: 70% of $150,000 = $105,000
Other entries in the table are determined in a similar manner.

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Solutions Manual, Chapter 7 8
Problem 7-20 (continued)
2. The activity rates are computed as follows:
(a) (b) (a) ÷ (b)
Activity Cost Pool Total Cost Total Activity Activity Rate
Cleaning carpets .. $161,000 20,000 hundred $8.05 per hundred
square feet square feet
Travel to jobs ...... $78,000 60,000 miles $1.30 per mile
Job support ......... $59,000 2,000 jobs $29.50 per job

3. The cost for the Flying N Ranch job is computed as follows:

(a) (b) (a) × (b)
Activity Cost Pool Activity Rate Activity ABC Cost
Cleaning carpets .. $8.05 per hundred 5 hundred $ 40.25
square feet square feet
Travel to jobs ...... $1.30 per mile 75 miles 97.50
Job support ......... $29.50 per job 1 job 29.50
Total ................... $167.25

4. The margin earned on the job can be easily computed by using the
costs calculated in part (3) above.
Sales ........................ $140.00
Costs:
Cleaning carpets..... $40.25
Travel to jobs......... 97.50
Job support............ 29.50 167.25
Margin ..................... $(27.25)
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Solutions Manual, Chapter 7 9
Problem 7-20 (continued)
5. Gallatin Carpet Cleaning appears to be losing money on the Flying N
Ranch job. However, caution is advised. Some of the costs may not be
avoidable and hence would have been incurred even if the Flying N
Ranch job had not been accepted. An action analysis (discussed in
Appendix 7A) is a more appropriate starting point for analysis than the
simple report in part (4) above.
Nevertheless, there is a point at which travel costs eat up all of the
profit from a job. With the company’s current policy of charging a flat
fee for carpet cleaning irrespective of how far away the client is from
the office, there clearly is some point at which jobs should be turned
down. (What if a potential customer is located in Florida?)

6. The company should consider charging a fee for travel to outlying

customers based on the distance traveled and a flat fee per job. At
present, close-in customers are in essence subsidizing service to
outlying customers and large-volume customers are subsidizing service
to low-volume customers. With fees for travel and for job support, the
fee per hundred square feet can be dropped substantially. This may
result in losing some low-volume jobs in outlying areas, but the lower
fee per hundred square feet may result in substantially more business
close to Bozeman. (If the fee is low enough, the added business may
not even have to come at the expense of competitors. Some customers
may choose to clean their carpets more frequently if the price were
more attractive.)

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Solutions Manual, Chapter 7 10
Problem 7A-4 (45 minutes)
Requirements 1a through 1c:

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Solutions Manual, Chapter 7 11