Spirits were high at the monthly meeting of the top management of Waterways. Installation was proceeding nicely on the 10 jobs for the city, and the company had just received confirmation that the local school board had accepted its bid to install irrigation systems in 25 school playgrounds. Unfortunately, not everyone was celebrating. Lee Williams, the vice-president of the installation and training division, was troubled. He has been supervising the city jobs and he believes the current system of assigning overhead costs to the jobs does not reflect accurately the actual cost of overhead.

"Several major things have changed since we set our overhead rate at 120% of direct labour cost," Lee explained. "I've noticed that the new systems are requiring a lot of the more expensive glue and they were designed to accommodate only titanium fasteners. We are using special packaging to transport the systems to the sites, not to mention the new heavy equipment we had to purchase to prepare the ground for the install."

Madison Tremblay, vice-president of sales and marketing, was quick to respond. "I can't believe that you're suggesting there's some- thing wrong with our bids," he retorted. He was visibly annoyed. "This is the first time in several years that our sales group has been successful in increasing our market share," he continued, "and now you want to mess with the pricing! I want you to explain that to the salespeople who have just received their first bonus commission cheques in a very long time."

Ben Clark, who designed the new system, agreed with Madison, suggesting that maybe the problem was not with the cost, but was more likely cost control.

Their accountant, Jordan Leigh, did not like conflict. "I have an idea," he said. "We have been investigating using a new costing system in our manufacturing plant called activity-based costing, or ABC. ABC is sup- posed to lead to more accurate overhead costing and it provides a better way to control overhead costs. With a little work I think we could adapt it to our installation services." When he offered to do an analysis and bring his recommendations back to the next management meeting, the rest of the group agreed to wait for the results before making any changes.

Jordan's first action was to identify and classify all the activities that consume resources during this specific type of installation into a number of cost pools, and then determine the overhead costs that should be assigned to each cost pool. At the same time he determined a cost driver for each pool. The following table shows these cost pools along with the estimated overhead allocation to each one.

Then, based on the information used to prepare the bids, Jordan determined that each of the 25 projects for the school board would require the following overhead activities.

The material costs for each project were expected to be $13,000.
Instructions
(a) Calculate the expected cost of this type of installation using both the traditional method and activity-based costing.
(b) Given the information calculated in part (a), make are commendation to the management of Waterways as to what action they should take.
(c) Explain why you think Waterways' current bidding process would lead to increased market share.

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Activity Cost Pools Supervision, security, maintenance Number of workdays Liability insurance Equipment costs Indirect supplies and deliveryLength in metres Employee benefits Cost DriversEstimated Overhead Expected Use per Activity 450,000 100,000 90,000 250,000 150,000 $1,040,000 1,500 800 12,000 250,000 600,000 Number of employees Hours of operation Direct labour cost Activity Cost Pools Supervision, security maintenance Liability insurance Equipment costs Indirect supplies and delivery Employee benefits Cost Drivers Number of workdays Number of employees Hours of operation Length in metres Direct labour cost Expected Use per Job 30 4 240 3,000 $12,000