Question
Dynamic Ltd Ltd produces two types of gas heaters, indoors and outdoors. Dynamic Ltd is currently using simple costing systems that have two direct costs
Dynamic Ltd Ltd produces two types of gas heaters, indoors and outdoors. Dynamic Ltd is currently using simple costing systems that have two direct costs categories (material and labour) and one indirect cost pool. The simple costing systems use total budgeted direct labour hours of 8,050 to allocate its indirect costs. Due to the increase of the competition in the market and companys declining profit, the management is considering changing its cost systems from simple to Activity Based Costing (ABC). The production information for the most recent year is as follow:
| Indoor | Outdoor |
Units produced and sold | 3,200 | 1,800 |
Selling price | $125 | $200 |
Direct materials costs per unit | $30 | $45 |
Direct manufacturing labour cost per hour | $16 | $16 |
Direct manufacturing labour hours per unit | 1.5hours | 2.25 hours |
After analysing its indirect costs pools, the company found six activities that generate the indirect costs: Production scheduling, materials handling, Machine set-up, Assembly and Inspection. The company has done research on its indirect cost activities and provides the following:
Activity | Activity Cost | Activity-cost driver | Activity Usage | |
Indoor | Outdoor | |||
Production scheduling | $95,000 | production runs | 40 | 85 |
Materials handling | $45,000 | Material moves | 72 | 168 |
Machine set-up | $25,000 | Machine set-ups | 45 | 155 |
Assembly | $60,000 | Machine hours | 5,500 | 4,500 |
Inspection | $16,500 | Number of inspections | 250 | 150 |
$241,500 |
Required:
(a) Using the simple costing system, calculate the product cost per unit for Indoor and Outdoor heaters.
(B) Using Activity-Based Costing System, calculate the product cost per unit for Indoor and Outdoor heaters.
(c) Comparing the product costs under two costing systems, briefly explain why the product cost under the simple and activity-based costing system differ and identify the factors that may account for the companys declining profits.
(d) Identify the circumstances under which a company might benefit from introducing an ABC system, and explain their relevance.
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