Activity-Based Costing in a Service Environment We-Clean, Inc., is a home-cleaning service. It originally specialized in serving small residential clients but recently started contracting for work in large apartment and office buildings. John Lodge, the owner, believes that the commercial sector has more growth opportunities and is considering dropping the residential service.

Ten cleaning employees worked a total of 40,000 hours last year, 26,000 on residential jobs and 14,000 on commercial jobs. Wages were $15 per hour for all work done. Any materials used are included in overhead as supplies. All overhead is allocated on the basis of labor-hours worked, which is also the basis for customer charges. Because of increased competition for commercial accounts, John can charge $35 per hour for residential work but only $27 per hour for commercial work.

Required

a. If overhead for the year was $124,000, what were the profits of the commercial and of the residential services using labor-hours as the allocation base?

b. Overhead consists of costs of traveling, using equipment, and using supplies, which can be traced as follows:

Recalculate profits for commercial and residential services based on these activity bases.

c. What recommendations do you have for management regarding the profitability of these two types of services?

Transcribed Image Text:

Activity Traveling. Using equipment Total overhead . Cost Driver Number of clients served Equipment hours Using supplies... Area serviced in square yards Cost Commercial Cost Driver Volume Residential $ 16,000 15 45 36,000 3,500 2,100 72,000 130,000 70,000 $124,000