Case scenario

ABC Corporation commenced operations thirty years ago

producing custom made two types ofequipments

two types of EQUIPMENTSs:

1. the simple equipment 1- 4TDELUXE - The market for this EQUIPMENTS is quite competitive and price sensitive.

ABC Corporation plans to sell 71,500 equipment 1- 4TDELUXE UNITSin the 2020/2021 year at $150 each.

2. AVANCEequipment 2-2TADVANCE

To manufacture 2 2TADVANCErequires advancetechnology that is more sophisticated and the materials used in its production are different to those used for 4TDELUXE EQUIPMENTS.

ABC Corporation plans to sell 44,000 equipments of2TADVANCEat $325 each.

Other information :

1. There is no beginning or ending inventory budgeted for the year.

2. the company's profitability over thelast two years has not met expectations,

Some managers believe thatthe market share for 4TDELUXE could be expanded and some managersbelieve thatthe company should go after a bigger market for the2TADVANCEEQUIPMENTS as they pointed that the costing sheets shows the contribution from the2TADVANCEEQUIPMENTS is approximately four times the contribution from the 4TDELUXE EQUIPMENTS. As we get a premium price for the 2TADVANCEequipments , focusing on expanding its sales should help overall profitability".

ABC Corporation currently uses a traditional costing system. Budgeted direct materials costs are $12,826,000 in total, for production of the two types of equipments with $6,534,000 being the total budgeted cost for 2TADVANCE direct materials.

Direct labour is budgeted at $15.40 per direct labour hour (DLH). The company expects to use 4 DLH and 1.5 machine hours (MH) each 2TADVANCE and 1.5 DLH and 0.5 MH for each 4TDELUXE EQUIPMENTS produced.

This traditional costing system uses three types of manufacturing overhead: material-related overhead, variable overhead and machine-related overhead. ABC Corporation applies a materials handling charge at 10 percent of direct materials cost, which is not included in variable factory overhead. Variable manufacturing overhead is applied on the basis of direct labour hours.

For 2020/2021 the budgeted variable manufacturing overhead rate is $4.75/DLH. In addition, machine-related overhead is applied on the basis of MH and is budgeted at $20.50/MH.

The two equipmentsinformation on the basis of the activities involved in their production. To apply ABC COSTING also

So , it is identified that the three overhead categories used under the traditional costing system involved a series of different activities. Approximately 30% of material related overhead involved the procurement of material parts; 25% involved the scheduling of production for each of the 4TDELUXE and 2TADVANCE EQUIPMENTSs;

10% involved moving materials around the production facility and the remaining overhead was incurred for packaging and shipping of the EQUIPMENTSs.

Quality control accounted for half of the variable overhead .

The other half of the variable overhead comprised of: setting machines up in preparation for production; disposing of waste; and ordering and maintaining general supplies, which are used in producing the completed equipments controls

. These were incurred in the ratio of 0.9: 0.09: 0.01 respectively.

Production/machine-related overhead, now considered a conversion cost, involved machine soldering of the 4TDELUXE and 2TADVANCE equipmentsand inserting material components into 4TDELUXE and 2TADVANCE equipmets . The cost of soldering the equipmentsamounted to $151,497.50.

Inserting material components into the equipmentswas a different process, where some of the material components were inserted by machines, and accounted for 30% of the activity cost pool. Other components involved a more manual insertion process where a number of employees manually inserted individual components into the EQUIPMENTSs.

Thedirect labour category was no longer relevant and the only cost that would remain the same under both the traditional costing method and the ABC method is the cost of direct materials.

Each 4TDELUXE equipment required two machine setups whilst each 2TADVANCE equipment required fourteen setups. A total of forty one components were used to produce the 4TDELUXE and 2TADVANCE equipmets ..

Of these, eight specific components were used in the production of each 4TDELUXE and only one of these components, were inserted manually onto the 4TDELUXE by production line employees. The remaining components were used in the production of each 2TADVANCE equipment and production line employees inserted 22 of these manually onto the 2TADVANCE equipment . Materials were moved two times for each 4TDELUXE equipment and eleven times for each 2TADVANCE equipment . Both types of EQUIPMENTSs passed an inspection process where the 2TADVANCE equipment was inspected a total of two times and the 2TADVANCEequipment was inspected a total of eight times. On average 0.50kg of waste would arise from the production of two EQUIPMENTSs i.e. from one 4TDELUXE and one 2TADVANCE equipment , where approximately 94% of this came from the production of each 2TADVANCE equipment

As part of the analysis, management team also identified a number of activity cost drivers. These are in Figure 1 below.

Figure 1: Identified Activity Cost Drivers

COST DRIVER

Number of EQUIPMENTSs

Number of Components

Number of Material Moves

Number of Setups

Number of Inspections

Number of Insertions**

Kilograms of Waste

** manual and automated insertions

Questions

1. You are required to discuss, in general, how ABC and ABM can be used to gain a competitive advantage.

2. Based on ABC Corporation's current traditional costing system, as outlined in the case, calculate the total and unit cost expected for the 4TDELUXE and 2TADVANCE equipmets ...

3.as a manager design a new costing system based on the observations of their activity analysis and on the principles of ABC. As part of this task you are required to:

(i) Describe in detail the elements of this new costing system justifying the activity cost pools and activity cost drivers included. You will need to quantify the normal capacity of each activity cost driver.

(ii) Calculate the total cost and unit cost expected for the 4TDELUXE and 2TADVANCE equipmets ... EQUIPMENTSs using this new ABC system designed above.

4. Compare and contrast ABC Corporation's current traditional and new ABC costings for 4TDELUXE and 2TADVANCE equipmets as presented in your answers to Requirements 2 and 3 above. Discuss in detail your ABC results for ABC Corporation's with an emphasis on analysing the activity costs and highlight the differences to the original costing approach.

5. In light of your ABC/ABM research in Requirement 1, and your ABC costings and analysis so far, discuss in detail what information ABC Corporation's management may consider before making product line decisions and also advise ABC Corporation's on a strategy for increasing company profits.