Question 3 Humber Limited is a UK manufacturing company which has been using a direct labour hour-based absorption costing method to cost its products. The standard cost card for 2018 reveals the following information: Girls Cool Boys Coat Direct Material cost () 60.00 30.00 Direct Labour (hours) 2.00 1.50 Total budgeted overheads for the year are 600,000. Budgeted manufacturing capacity is estimated to be 60,000 direct labour hours. Direct labour is paid at an hourly rate of 6. Recently, the company appointed a new management accountant Lily Love. Lily was not happy with the costing system, she believed the system encourages lots of inefficiencies. To change the costing system, Lily carried out an activity analysis, which revealed the following: Direct labour was occupied in four different activity sections: cutting stitching, finishing and packing. Their labour deployment was 20%, 40%, 20% and 20% respectively of total budgeted labour hours. All these workers were paid the same basic wage rate of 6 per hour. Cost drivers and the cost driver volumes for these activities are given below. Activity Cost driver Cost driver volume Cuttings Number of cuts 122.000 Cuts Stitching Metres of stitching 244,000 Metres Finishing Number of buttons and holes 1.920,000 buttons/holes Packing Number of coats produced 96.000 Coats 2. Of the 600,000 overheads, 150,000 represents the costs of running, maintaining and depreciating the cutting and stitching machines. The management accountant understands that these costs should be included in the activity costs of cuttings and stitching rather than in production 2. Of the 600,000 overheads, 150,000 represents the costs of running, maintaining and depreciating the cutting and stitching machines. The management accountant understands that these costs should be included in the activity costs of cuttings and stitching rather than in production overheads. Of this 150,000, it is estimated that 100,000 relates to stitching while the rest is for cutting. 3. The rest of the overhead represents the activity categories of customer handling, accounting and administration, quality inspection, and shipping and logistics. It is understood that all these activity categories are driven by the volume of sales/production. The production/sales mix is to be 40:60 between girls Coat and boys Coat. 4 Design differences between the two products are: Per Coat Girls Coat Boys Coat Number of cuts 16 12 Metres of stitching 14 10 Number of buttons and holes 12 8 Required: () Estimate the cost of two products if the traditional absorption costing was used. (6 marks) (b) Suppose that the management wanted to change its costing method to activity-based costing (ABC). Show the new costs of the two products (24 marks) (c) Assess the strengths and weaknesses of the Required: (a) Estimate the cost of two products if the traditional absorption costing was used. (6 marks) (b) Suppose that the management wanted to change its costing method to activity-based costing (ABC). Show the new costs of the two products (24 marks) (c) Assess the strengths and weaknesses of the proposed systems including any assumptions in your analysis. (10 marks) (d) Discuss the strategic significance of changing the costing method to ABC. In your discussion, draw attention to the following issues: (i) cost leadership strategy; (ii) competitive pricing strategy; (iii) product differentiation strategy. (10 marks) Total 50 marks Question 3 Humber Limited is a UK manufacturing company which has been using a direct labour hour-based absorption costing method to cost its products. The standard cost card for 2018 reveals the following information: Girls Cool Boys Coat Direct Material cost () 60.00 30.00 Direct Labour (hours) 2.00 1.50 Total budgeted overheads for the year are 600,000. Budgeted manufacturing capacity is estimated to be 60,000 direct labour hours. Direct labour is paid at an hourly rate of 6. Recently, the company appointed a new management accountant Lily Love. Lily was not happy with the costing system, she believed the system encourages lots of inefficiencies. To change the costing system, Lily carried out an activity analysis, which revealed the following: Direct labour was occupied in four different activity sections: cutting stitching, finishing and packing. Their labour deployment was 20%, 40%, 20% and 20% respectively of total budgeted labour hours. All these workers were paid the same basic wage rate of 6 per hour. Cost drivers and the cost driver volumes for these activities are given below. Activity Cost driver Cost driver volume Cuttings Number of cuts 122.000 Cuts Stitching Metres of stitching 244,000 Metres Finishing Number of buttons and holes 1.920,000 buttons/holes Packing Number of coats produced 96.000 Coats 2. Of the 600,000 overheads, 150,000 represents the costs of running, maintaining and depreciating the cutting and stitching machines. The management accountant understands that these costs should be included in the activity costs of cuttings and stitching rather than in production 2. Of the 600,000 overheads, 150,000 represents the costs of running, maintaining and depreciating the cutting and stitching machines. The management accountant understands that these costs should be included in the activity costs of cuttings and stitching rather than in production overheads. Of this 150,000, it is estimated that 100,000 relates to stitching while the rest is for cutting. 3. The rest of the overhead represents the activity categories of customer handling, accounting and administration, quality inspection, and shipping and logistics. It is understood that all these activity categories are driven by the volume of sales/production. The production/sales mix is to be 40:60 between girls Coat and boys Coat. 4 Design differences between the two products are: Per Coat Girls Coat Boys Coat Number of cuts 16 12 Metres of stitching 14 10 Number of buttons and holes 12 8 Required: () Estimate the cost of two products if the traditional absorption costing was used. (6 marks) (b) Suppose that the management wanted to change its costing method to activity-based costing (ABC). Show the new costs of the two products (24 marks) (c) Assess the strengths and weaknesses of the Required: (a) Estimate the cost of two products if the traditional absorption costing was used. (6 marks) (b) Suppose that the management wanted to change its costing method to activity-based costing (ABC). Show the new costs of the two products (24 marks) (c) Assess the strengths and weaknesses of the proposed systems including any assumptions in your analysis. (10 marks) (d) Discuss the strategic significance of changing the costing method to ABC. In your discussion, draw attention to the following issues: (i) cost leadership strategy; (ii) competitive pricing strategy; (iii) product differentiation strategy. (10 marks) Total 50 marks