Problem 4-16 Contrasting ABC and Conventional Product Costs [LO4-2, LO4-3, LO4-4]

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For many years, Thomson Company manufactured a single product called LEC 40. Then three years ago, the company automated a portion of its plant and at the same time introduced a second product called LEC 90 that has become increasingly popular. The LEC 90 is a more complex product, requiring 0.60 hours of direct labor time per unit to manufacture and extensive machining in the automated portion of the plant. The LEC 40 requires only 0.20 hours of direct labor time per unit and only a small amount of machining. Manufacturing overhead costs are currently assigned to products on the basis of direct labor-hours.

Despite the growing popularity of the companys new LEC 90, profits have been declining steadily. Management is beginning to believe that there may be a problem with the companys costing system. Direct material and direct labor costs per unit are as follows:

	LEC 40		LEC 90
Direct materials	$	30.00	$	40.00
Direct labor (0.20 hours and 0.60 hours @ $15.00 per hour)	$	3.00	$	9.00

Management estimates that the company will incur $1,008,000 in manufacturing overhead costs during the current year and 80,000 units of the LEC 40 and 40,000 units of the LEC 90 will be produced and sold.

Problem 4-16 Part 2

2. Management is considering using activity-based costing to assign manufacturing overhead cost to products. The activity-based costing system would have the following four activity cost pools:

Activity Cost Pool	Activity Measure	Estimated Overhead Cost
Maintaining parts inventory	Number of part types	$	324,000
Processing purchase orders	Number of purchase orders		140,000
Quality control	Number of tests run		75,000
Machine-related	Machine-hours		469,000
		$	1,008,000

	Expected Activity
Activity Measure	LEC 40	LEC 90	Total
Number of part types	950	1,750	2,700
Number of purchase orders	1,200	800	2,000
Number of tests run	1,800	1,950	3,750
Machine-hours	4,000	6,000	10,000

Determine the activity rate for each of the four activity cost pools.