Kiddo Corporation makes toys of two varieties, Standard (25,000 units sold) and Premium (6000 units sold). The Standard variety is a high-volume product, while the Premium variety is customized for the cities it is sold in. Currently the company applies the absorption costing system to account for overheads and there is ongoing debate within the organization about the effectiveness of the same. Under the current absorption costing system the fixed overheads are absorbed based on direct labor hours.

The production manager is of the opinion that the Standard variety is a loss-making product and should be discontinued, diverting all the resources to the production of the Premium variety. The costing manager disagrees, as he believes that the absorption costing system conceals the profitability of the Standard variety and besides the Premium variety has a considerably smaller market.

The production details to produce each unit of Standard and Premium are

Standard

Premium

Direct Material (Input) Cost per unit

$5

$75

Direct Labor Hours Cost per unit

$7

$21

Apart from the costs listed above Kiddo also incurs fixed overheads amounting to $430,000.

Required:

1. Compute the profitability of the product lines based on the Absorption Costing System.

2. Compute the profitability of the product lines based on the Activity Based Costing System.

To implement the activity based costing system, the costing manager suggests the following:

a.Production set up costs of $172,000 be allocated based on the number of setups.

b.Packaging costs of $255,000 be allocated based on the number of packages.

c.Material delivery costs of $175,000 be allocated based on the number of deliveries.

Details about the activities are listed below

Standard

Premium

Units Sold

25000

6000

Units produced per setup

250

20

Units per package

25

1

Units per delivery

250

15

Selling Price per unit

100

250