Weston Corporation manufactures a product that is available in both a deluxe and a regular model. The company has made the regular model for years; the deluxe model was introduced several years ago to tap a new segment of the market. Since introduction of the deluxe model, the company's profits have steadily declined. Sales of the deluxe model have been increasing rapidly.

Overhead is applied to products on the basis of direct labor-hours. At the beginning of the current year, management estimated that $3,080,000 in overhead costs would be incurred and the company would produce and sell 10,000 units of the deluxe model and 50,000 units of the regular model. The deluxe model requires 2.0 hours of direct labor time per unit, and the regular model requires 1.0 hours. Materials and labor costs per unit are given below:

Deluxe Regular

Direct materials cost per unit $50.00 $30.00

Direct labor cost per unit $30.00 $15.00

Required

1. Compute the predetermined overhead rate using direct labor-hours as the basis for allocating overhead costs to products. Compute the unit product cost for one unit of each model. An intern suggested that the company use activity-based costing to cost its products. A team was formed to investigate this idea. . It came back with the recommendation that four activity cost pools be used. These cost pools and their associated activities are listed below:

Activity Cost Pool and Activity Measure

Estimated Overhead cost

Activity

Deluxe

Regular

Total

Purchase orders (number of orders)

$ 60,000

500

1,000

1,500

Rework requests (number of requests)

280,000

800

2,000

2,800

Product testing (number of tests)

240,000

7,000

3,000

10,000

Machine-related (machine-hours)

2,500,000

4,500

8,000

12,500

$3,080,000

Required:

1. Compute the activity rate (i.e., predetermined overhead rate) for each of the activity cost pools.
2. Assume that actual activity is as expected for the year. Using activity-based costing, do the following:

Determine the total amount of overhead that would be applied to each model for the year.

Compute the unit product cost for one unit of each model.

1. Can you identify a possible explanation for the company's declining profits? If so, what is it?