Activity Based Costing: Case Study No$.1$: EDI

Espresso Dopio, Inc. $($EDI$)$ is a distributor and processor of two different blends of coffee that it offers to gourmet shops in one$-$pound bags. One coffee, Spanish Blend is very popular and sells in large volumes. The other French Roast, sells in much smaller quantities. To assure freshness, EDI must purchase French Roast in small quantities and produce it in small batches.

EDI buys roasted coffee beans, which it packages for resale. It has a single facility where it conducts all of its production activities. Its major cost is raw materials $($coffee beans$).$ However, there is a substantial amount of manufacturing overhead in the purchasing, handling and packaging activities. Most of these activities are highly automated and the company uses very little direct labor. The expected direct manufacturing cost for a one$-$pound bag of each coffee is shown below :

Particulars Spanish Blend French Roast

Direct Material $$3\mathrm{.}00$ $$4\mathrm{.}00$

Direct Labor $\mathrm{.}50\mathrm{.}50$

EDI$$s budget includes manufacturing overhead of $$1,580,000$ which currently is allocated on the basis of machine hours. However, EDI$$s controller believes that this approach may be providing misleading information. She has developed an analysis of the budgeted manufacturing overhead costs, shown below:

Activity Cost Driver Budgeted Activity Units Budgeted Cost

Purchasing Purchase Orders $1,200$ $$600,000$

Material Handling Batches $1,800720,000$

Packaging Packaging Hours $26,000260,000$

Total MOH $1,580,000$

Budget data for the production of the two coffees are shown below.

Particulars Spanish Blend French Roast Total

Pounds produced

$($and sold$)800,000200,0001,000,000$

Machine hours $400,000100,000500,000$

Purchase orders $4008001,200$

Batches $5001,3001,800$

Packaging hours $17,0009,00026,000$

Based on the budget data, and using the table below, determine the cost of a pound of each coffee, first using the traditional approach of absorbing overhead based on machine hours, and then using an ABC approach.

What accounts for the difference?