George Jefferson, the accounting manager at MI, has just returned from a conference on activity-based costing and thinks MI should consider implementing an ABC system. George has identified five primary activities taking place in the production facilities at MI, has traced Year 2 overhead costs to each activity, and has identified a cost driver for each activity as follows:

Estimated Year 2 Overhead Costs Using ABC

Activity

Monthly Overhead Cost

Cost Driver

Materials delivery and handling

$4,620

Number of shipments

Molding and cleaning

$3,150

Number of molds

Painting and finishing

$5,670

Direct labor hours

Packaging

$1,260

Number of figurines

Quality inspections

$2,100

Number of inspections

Based on information about production needs and the differences for each type of product (replicas are not uniform in size, dolls need more inspection, etc.) George has estimated the following activity for each cost driver:

Dolls

Replicas

Total

Number of shipments

52

108

160

Direct labor hours

87,500

7,000

94,500

Number of figurines

352,800

25,200

378,000

Number of molds

2,500

500

3,000

Number of inspections

80,000

4,000

84,000

Required:

A. Using the preceding activities and cost drivers, calculate a predetermined overhead rate for each activity.

B. Using ABC, how much estimated overhead would be allocated to a doll? to a replica?

C. Compare the estimated overhead allocation using ABC to the estimated overhead allocation using direct labor hours. What do you think is the cause of the differences?

D. What are some of the advantages and disadvantages of using ABC in this case?

E. Would you suggest that MI adopt an ABC system? Why or why not?

F. Does the information provided by the ABC system give you some insight into areas of possible cost reduction? What areas have the greatest potential for cost reduction, and what are the potential impacts on the business from these cost reductions?