PROBLEM 3A-4 Activity-Based Absorption Costing as an Alternative to Traditional Product Costing

Ellix Company manufactures two models of ultra-high fidelity speakers, the X200 model and the X99 model. Data regarding the two products follow:

DirectAnnualTotal Direct

ProductLabor-HoursProductionLabor-Hours

X200 . . . . . . . . . . . . . .1.8 DLHs per unit5,000 units9,000 DLHs

X99 . . . . . . . . . . . . . . .0.9 DLHs per unit30,000 units27,000 DLHs

36,000 DLHs

Additional information about the company follows:

a. Model X200 requires $72 in direct materials per unit, and model X99 requires $50.

b. The direct labor rate is $10 per hour.

c. The company has always used direct labor-hours as the base for applying manufacturing overhead cost to products.

d. Model X200 is more complex to manufacture than model X99 and requires the use of special equipment.

e. Because of the special work required in (d) above, the company is considering the use of activity-based absorption costing to apply manufacturing overhead cost to products. Three activity cost pools have been identified as follows:

Estimated Estimated Total Activity

Activity Cost Pool Activity MeasureTotal Cost X200 X99 Total

Machine setups . . . . . . . . . Number of setups$ 360,000 50 100 150

Special processing . . . . . . Machine-hours 180,000 12,000012,000

General factory . . . . . . . . . Direct labor-hours 1,260,000 9,00027,000 36,000

$1,800,000

Required:

1. Assume that the company continues to use direct labor-hours as the base for applying overhead cost to products.

a. Compute the predetermined overhead rate.

b. Compute the unit product cost of each model.

2 Assume that the company decides to use activity-based absorption costing to apply overhead cost to products.

a. Compute the activity rate for each activity cost pool and determine the amount of overheadcost that would beapplied to each model using the activity-based approach.

b. Compute the unit product cost of each model.

3. Explain why overhead cost shifted from the high-volume model to the low-volume model underthe activity-based approach.