Activity-based costing. Sandy O'Neal has just joined the Ciudad Juarez factory (text example) as the new production manager. He was pleased to see the company uses activity-based costing. O'Neal believes he can reduce production costs if he reduces the number of machine setups. He has spent the last month working with purchasing and sales to better coordinate raw material arrivals and the anticipated demand for the company's products. In March, he plans to produce 1.000 mountain bikes and 200 racing bikes. O'Neal believes that with his efficient production scheduling he can reduce the number of setups for both mountain and racing bikes by about 50 percent.

a. Refer to Exhibit 4.6. Compute the amount of overhead allocated to each product line — mountain bikes and racing bikes — assuming a 50-percent annual reduction in setups. Assume the number of machine setups in March is seven setups tor mountain bikes and 15 setups tor racing bikes. Assume the overhead costs of setting up m achines decrease proportionately with the reduction in the number of setups;

thus, the setup rate remains at $2,000 per setup.

b. What information did activity-based costing provide that enabled Sandy O'Neal to pursue reducing overhead costs ' In general, what are the advantages of activitybased costing over the traditional volume-based allocation methods? What are the disadvantages'.'