1. Define activity-based costing. Explain why this approach to cost assignment is superior to the traditional method of using a plantwide overhead cost pool and overhead rate.
2. In the early 19900, president Will Thomas, son of the founder, realised that Thomas Britt could not depend on government contracts for long-term growth and stability. Consequently, he began planning for diversified commercial growth. By the end of 2003. Thomas-Britt had succeeded in reducing government contract sales to 50% of total sales

Traditionally, the costs of the Material Handling Department have been allocated to other departments as a percentage of the dollar value of direct materials. Peter Anderson, manger of the green contract unit, haben omplaining about the allocation for several months. He believe that belot unit's materials costs are high and materials handling activities are low relatives the commercial unit, he is absorbing more than his face of this everhead. He wants to find a way to transfer some of these charges to another unit, thereby increasing the government contracts unit's profitability and his year-end performance bonus

Petar shared his views in a recent meeting with Sarah Lindley, the newly hired cost accounting manager, and Reese Muson, manager of the commercial urit. Aftur ad dicuri, Sarah greed to investigate the current allocation method and, if appropriate, recommend an alternative method.

After doing some research, Sarah learned the following:

• The majority of the direct materials purchases for government contracts are high-dollar, low-volume purchases. Direct materials purchases for commercial contracts are mostly low-doilar, high-volume purchases.
• There are other departments that use the services of the Material Handling Department on a limited basis, but they have never been charged for materials handling costs.
• One purchasing agent with a direct phone lint is sigsed clusively to purchasing high-dollar, bow-volume materials for government contracts, at an annual salary of $36,000. His employer benefits an estimated to amount to 20% of his annual salary. The dedicated phone line costs $2,800 a year. The Material Hesding Department budget for 2017, proposed by Sarah Lindley's predecessor follow:

Payroll $100,000

Errployee benef'ts 36,000

Telephone 5,000

Other utility 32,000

Materials and applies 8,000

Depreciation 6,000

Total materials handlirg costs $288,000

Direct materials budget

Government contracts $1,958,400

Commercial product 921,600

Total direct materials budget 2,800,000

After reviewing the situation, Lindley has recommended that allocating materials handling costs based on the rumber of purchase orders issued is preferable to the current allocation based on direct materials coet. She estimated the number of purchase orders to be processed in 2017 bollows:

Government contracts 79,865

Commercial products 154,885

Other 7,260

Total 242,000

Using the 2017 time, the provided the following analysis to Anderson and Mason

	Government Contract Unit	Commercial Unit
Material handling based on purchase orders issued	95,040	$184,320
Materials handling cost and direct materials cost	195,840	92,160
Difference in cost allocated	100,800	92,160

When Mana saw the projected increase in commercial unit's cost. He was to be any of hiyo end performance boas just beca Lindey wanted to change the way she alculated the number. He marched inno Landwyn dice and reminded her that he had been with the company for 25 years and had plenty of pulwith Thomas as a member of the senior manager tram. He then ddler to adjust her numbers and mod fy ber recommendation so that the results would be more forable to the commercial unit. He aded that in material handlings were only allocated to the pomernment contract and commercial thashe could just hide some of the commercial unit's purchase order rolume in those other units. Ciren her er position, Lindley la noore how to prod. the won Malmhaion. To sempre mers, Thomas Bahrad har te propun a tirar kreat of the two unita' result, for which she belie the new alati method would provide the most case data. Using the method would put her direct opposition to Mason's directius, boyur. Lindley has embled the following bed data pt the united material budget

	2017	2018	2019
Total materials handling costs	$288,000	$ 326,785	$ 374420
Direct materials cost
Government contracts unit	$1,958,400	$2,215,000	$2576,000
Commercial unit	921,600	975,000	1,104,000
Total direct materials cost	2,880,000	$3,250,000	$3,680,000

	2017	2018	2019
Purchase orders
Government contracts	79,860	85,024	89,400
Commercial unit	154,880	164734	172,840
Other unite	7,260	15,942	35,760
Total purchase orders	242,000	265,700	298,000

Required

. Using the forecasted information, calculate the materials handling costs that would be allocated to each unit under both allocation methods. Show the cumulative dollar impact over the three-year period 2017-2019,

b. Why might the number of purchase orders be a better coet driver for materials handling costs than direct materials cost?

c. Are there other factors in the allocation that Lindley should consider

d. In a recent meeting between Sarah Lindley and Reese Mason, Mason said that there is nothing in any accounting pronouncement that requires the use of activity-based costing. Therefore, there is no reason to make Lindley's recommended change in allocation methods. Do you agree with Mason? Why or why not?