Question 3 (20 marks)

WifiDigital Corp produces digital transmitters for use in normal environmental conditions. Recently it introduced a special model which is intended for use in extreme and more difficult environments. Since its introduction, sales of the special model have been strong but overall company profits have declined steadily. The company currently assigns manufacturing overheads to products based on direct labour costs. Material and labour costs for last month were as follows:

	Normal model	Special model	Total
Direct materials	$280,000	$240,000	$520,000
Direct labour	$330,000	$170,000	$500,000

Last month manufacturing overheads were $400,000 based on the production of 7,200 units of the Normal model and 2,400 units of the Special model.

Company management thinks that the current method of costing may not be accurate and wonders if using activity-based costing (ABC) could help to cost its products more accurately. Company management recently hired a consultant who discovered that overhead costs could be separated into three core activities. These activities, and their costs and cost drivers for last month, are summarised in the table below:

			Usage of cost driver
Activity	Cost	Cost driver	Normal	Special	Total
Setup	$260,000	Number of production runs	140	60	200
Quality Control	$50,000	Number of tests	15	35	50
Shipping	$90,000	Number of shipments	200	100	300
Total	$400,000

Required:

1. Compute the unit costs of each model if the overheads are assigned using direct labour costs. (5 marks)

2. Compute the unit cost of each model if the overheads are assigned based on the ABC method. (5 marks)

3. Should WifiDigital discontinue the Special model? In answering this question ensure that you discuss the implications of the ABC method and compare it to the direct labour cost method. (10 marks)