Comparing Two Products under Traditional and Activity-Based Costing

Compare two projects under development by the same company. The following are a few aspects of each product's development process relevant to costs.

Product S Product T

Requires 3,200 hours of testing Requires 800 hours of testing

Requires 4,550 units of computing power Requires 1,950 units of computing power

Requires 30 developer hours to implement Requires 70 developer hours to implement

Cost Items Cost of Each Activity

Testing: $31,200

Computing power: $46,800

Developer hourly cost: $14 per hour

Traditional Costing

Traditional costing would take the proportion of a direct cost, such as direct labor hours, and use it as the basis for allocating overhead costs, such as computing power and testing. In the following table, use developer hours as the basis for assigning overhead costs (computing and developer costs) to each project. If required, round your answers to the nearest dollar.

Product S Product T

Percentage of developer hours 30% Percentage of developer hours 70%

Testing cost $

Testing cost $

Computing cost $

Computing cost $

Developer cost $

Developer cost $

Total cost $

Total cost $

Percentage of developer hours

+ Percentage of developer hours for Product S (30%)

Allocation basis for Product S: The amount of labor hours associated directly with Product S, as a percentage of all developer hours worked (regardless of product). The amounts for overhead to be allocated are multiplied by this value to determine the overhead to be assigned to Product S under the traditional costing method.

30

(30+70)

+ Percentage of developer hours for Product T (70%)

Allocation basis for Product T: The amount of labor hours associated directly with Product T, as a percentage of all developer hours worked (regardless of product). The amounts for overhead to be allocated are multiplied by this value to determine the overhead to be assigned to Product T under the traditional costing method.

70

(30+70)

Review the resources each product (S and T) requires for production and compare that to the costs calculated above under traditional costing. Does traditional costing serve as an accurate gauge of costs?

No

Feedback

Using traditional cost assignment means pegging overhead costs based on a direct cost, such as direct labor or direct materials. In this case, you use direct labor (developer hours) as the basis for overhead allocation.

For product S, the percentage of developer labor costs as a proportion of the whole is already calculated. This is the figure that, when multiplied by the overhead values, will yield the overhead assigned to each project under traditional costing.

Activity-Based Costing

Using the data above for products S and T, calculate the costs using activity-based costing. Allocate the costs of testing, computing, and development based on the rates of activity consumed by each product's development process. If required in your computations, round per unit costs to the nearest cent. Round your final answers to the nearest dollar.

Cost Activity Base

Testing Hours of testing

Computing cost Units of computing power

Developer cost Development hours

Product S Product T

Testing cost $

Testing cost $

Computing cost $

Computing cost $

Developer cost $

Developer cost $

Total cost $

Total cost $

Feedback

The budgeted activity costs are assigned to products using factory overhead rates for each activity. These rates are called activity rates because they are related to activities. Activity rates are determined as follows:

Activity Rate = Budgeted Activity Cost / Total Activity Base Usage

The costs are allocated to the product by multiplying the activity-base usage by the computed activity rate.

Activity-based costing for varying batch production

A manufacturing company has the following two activities associated with completion of products:

1. The setting up of machines for running batches of products

2. The actual production of units produced

The company has annual manufacturing overhead costs of $2,000,000, of which $200,000 is directly involved in setting up machines for batch runs. During the year, the company expects to perform 400 machine setups, one setup per batch for a total of 400 batches of production. Assume that the batch sizes vary considerably, but the work involved in setting up the machines is not appreciably different from one job to the nex