Question 2

The manufacturing division of X Sdn. Bhd. uses a traditional system in costing its products. Using this system, the company allocates all indirect production cost to products in proportion to their direct material cost.

As the company has recently decided to change its costing system to the Activity Based Costing (ABC) system, the following three activities and related cost drivers for indirect production costs were identified:

Activity	Cost Driver
Materials procurement	Direct-materials cost
Engineering	Engineering change notices
Power	Kilowatt hours

Three types of products are produced: products 1, 2, and 3. Direct costs and cost-driver activity for each product for a recent month are as follows:

Product 1 Product 2 Product 3

Direct-materials cost RM25,000 RM50,000 RM125,000

Direct-labour cost RM 4,000 RM 1,000 RM 3,000

Kilowatt hours 50,000 200,000 150,000

Engineering change notices 13 5 2

Indirect production cost for the month was: -

Materials procurement RM10,000

Engineering RM22,000

Power RM16,000

Total indirect production cost RM48,000

Required:

1. Compute the overhead rate and the indirect production costs allocated to products 1, 2, and 3 using the currently used traditional costing system. (4 marks)
2. Compute the cost driver rates and the indirect production cost allocated to products 1, 2, and 3 using the ABC system. (15 marks)
3. Explain the problems that takes place when using the traditional costing system to allocate indirect production costs to products. (5 marks)