QUESTION 1 (20 marks) BT Inc. manufactures telephone sets, Regular and Specialized. The Managing Director wants to initiate a program of cost reduction at BT Inc. His plan is to use activity-based costing to allocate costs more accurately and to identify non-value adding activities. The first department to be studied is the Customer Care Department because it is believed that the current method of cost allocation is giving unrealistic results for the two product types Regular and Specialized. Currently, the Finance Manager absorbs the cost of Customer Care Department into the product cost on a per unit basis using the following data: Rent Electricity Salaries Stationery and sundries Depreciation of equipment $'000 900 30 258 54 172 1.414 Note: Customer Care Department cost is currently allocated to each telephone set based on 16,000 orders a year, 14,400 for Regular telephone set order and 1,600 for Specialized telephone set order. The Finance Manager tries to correct the problem of unrealistic costing, he simply adds $50 above the standard absorbed costs to the cost of a Specialized telephone set to cover the assumed extra work involved at Customer Care Department. The Cost Accountant has gathered information for the Customer Care Department from interviews with the Finance and Customer Care Departments staff. The Finance Manager wants you, as a Cost Accountant, to complete the work required for a comparison of the results of the current standard absorption costing to activity-based costing for the Regular and Specialized telephone sets. Below are the activity-based costing data: Activities of Customer Care Department Staff time Comments 40% Handling enquiries and preparing quotes for potential orders Relates to 35,000 enquiries/quotes per year 35% Receiving actual orders and Customer credit checks Relates to 16,000 orders in the year Complaints handling 25% Relates to 3,200 complaints per year Notes: 1 Each Regular telephone set order contains an average of six telephone sets and each Specialized telephone set order contains an average of one telephone set. 2 Total Customer Care Department cost is allocated using staff time as this drives all of the other costs in the department. 3 Handling enquires and preparing quotes for Specialized telephone sets takes 20% of the time allocated to this activity. 4 90% of receiving actual orders and customer credit checks are for Regular telephone sets. The remainder are for Specialized telephone sets. 5 50% of the complaints received are for Specialized telephone sets. Required: Compare the Customer Care Department cost allocation on the two products using (1) the existing costing system and (ii) activity-based costing system. (Show workings and round to 2 decimal places) (20 marks)
