Rat Ltd is a small company which manufactures cricket bats. For a number of years the management accountant has dealt with the recovery of overheads in a traditional manner based on absorption costing principles.

The business has three major production cost centres: shaping, finishing and packing.

PART A

The traditional costing method has produced the following figures for period ended June 2003:

Cost Centre

Shaping

Finishing

Packing

Overhead

$75,000

$30,000

$17,500

Machine hours

12,000

6,500

Direct labour hours

3300

Overhead recovery rates per machine or labour hour

$6.25

$4.62

$5.30

A new product The Driver is estimated to take the following hours to produce per unit:

Shaping 3.50

Finishing 1.60

Packing 0.30

The Management Accountant together with the Production Manager agrees to the following predetermined costs per unit for The Driver:

Direct Material $17.50

Direct Labour $5.40 per hour

Direct Labour hours 8 hours

Required:

Calculate the unit cost of The Driver using the company's traditional costing method.

(12 marks)

PART B

The management accountant have recently analysed its value adding processes. They have identified various activities, cost drivers within those activities and production volume information, as below:

Activity

Cost Pool

Cost Driver

Process set up

$47,500

100 set-ups

Material procurement

$9,500

50 purchase orders

Maintenance

$10,000

10 standard maintenance plans

Material Handling

$22,500

2,000 material movements

Quality control

$20,500

250 inspectors

Order Processing

$13,000

300 customers

$122,500

In the period ended June 2018 the company plans to produce 800 units of its new product, The Driver, in addition to its existing product range. To achieve this level of output of The Driver, the following activity levels will be required:

5 set ups

4 purchase orders

2 standard maintenance plans

100 material movements

70 inspections

8 sales customers

1. Calculate the unit cost of The Driver using activity-based costing method. (12 marks)
2. Explain why costs per unit calculated under ABC are often very different to costs per unit calculated under traditional costing method. ( 6 marks)