Question 1

ABC is a manufacturing company within the BC group. ABC has been asked to provide a quotation for a contract for a new customer and is aware that this could lead to further orders. As a consequence, ABC will produce the quotation by using relevant costing instead of its usual method of full cost plus pricing.

The following information has been obtained in relation to the contract:

Material D

40 tonnes of material D would be required. This material is in regular use by ABC and has a current purchase price of R38 per tonne. Currently, there are 5 tonnes in inventory which cost R35 per tonne. The resale value of the material in inventory is R24 per tonne.

Components

4 000 components would be required. These could be bought externally for R15 each or alternatively they could be supplied by QBC, another company within the BC manufacturing group. The variable cost of the component if it were manufactured by QBC would be R12.48 per unit. QBC has sufficient capacity to produce the 4 000 components.

Labour Hours

850 direct labour hours would be required. All direct labour within ABC is paid on an hourly basis with no guaranteed wage agreement. The grade of labour required is currently paid R10 per hour, but department W is already working at 100% capacity.

Possible ways of overcoming this problem are:

• Use workers in department Z, because it has sufficient capacity. These workers are paid R15 per hour.
• Arrange for sub-contract workers to undertake some of the other work that is performed in department W. The sub contract workers would cost R13 per hour.

Specialist Machine

The contract would require a specialist machine. The machine could be hired for R15 000 or it could be bought for R50 000. At the end of the contract if the machine were bought, it could be sold for R30 000. Alternatively it could be modified at a cost of R5 000 and then used on other contracts instead of buying another essential machine that would cost R45 000. The operating costs of the machine are payable by ABC whether it hires or buys the machine. These costs would total R12 000 in respect of the new contract.

Supervisor

The contract would be supervised by an existing manager who is paid an annual salary of R50 000 and has sufficient capacity to carry out this supervision. The manager would receive a bonus of R500 for the additional work.

Development Time

15 hours of development time at a cost of R3 000 have already been worked in determining the resource requirements of the contract.

Fixed overhead absorption rate

ABC uses an absorption rate of R20 per direct labour hour to recover its general fixed overhead costs. This includes R5 per hour for depreciation.

REQUIRED

1.1 Calculate the relevant cost of the contract to ABC. You should present your answer in a schedule that clearly shows the relevant cost value for each of the items identified above.

1.2 Explain each relevant cost value you have included in your schedule and why the values you have excluded are not relevant.