problem 7-16 Comparing traditional and activity based product margin

Hi Tek Manufacturing Inc makes two types of industrial component parts - the B300 and the T500. An absorption costing income statement for the most recent period is shown below:

HI Tek Income Statement

Sales..............................$2,100,000

COGS..............................1,600,000

Gros Margin.....................500,000

Selling and admin expenses...550,000

Net operating Income..........$(50,000)

Hi Tek produced and sold 70,000 units of B300 at a price of $20 per unit and 17,500 units of T500 at a price of $40 per unit. The company's traditional cost system allocates manufacturing overhead to products using a plant wide overhead rate and direct labor dollars as the allocation base. Addtional information relating to the company's two product lines is shown below:

B300 T500 Total

Direct Materials $436,300 $251,700 $688,000

Direct Labor $200,000 $104,000 $304,000

Manufacturing overhead $608,000

COGS $1,600,000

The company has created an activity-based costing system to evaluate the profitablity of its products. Hi Tek's ABC implementation team concluded that $50,000 and $100,000 of the comapny's advertising expenses could be directly traced to B300 and T500 respectively. The remainder of the selling and admin expenses was organization sustaining in nature. The ABC team also distributed the manufacturing overhead to four activites as shown below:

Activity Cost pool (and activity measure) Manufacturing Overhead B300 T500 Total

Machining (machine hours).............................. $213,500 90,000 62,500 152,500

Setups (setup hours) ....................................... 157,500 75 300 375

Product Sustaining (number of products) ....... 120,000 1 1 2

Other (organizational sustaining costs) ......... 117,000 NA NA NA

Total manufacturing overhead cost............... $608,000

REQUIRED (exhibits below)

1. Using exhibit 7-13 as guide, compute the product margins for B300 and T500 under the company's traditional costing system.

2. Using exhibit 7-11 as a guide, compute the the product margins for B300 and T500 under the activity based costing system.

3. Using exhibit 7-14 as a guide, prepare a quantitative comparison of the traditional and activity based cost assignments. Explain why the traditional and activity based differ.