You are a Consultant for the professional service firm, BUSI 2083 LLP. Your firm specializes in providing a wide variety of internal business solutions for different clients. It is your first day on the job and a Manager asks you for some help with a client in the aerospace sector. Eager to please on your first day, you head over to Galaxy Incorporated and sit down with the Executive Vice President to obtain more information.

"That R2D2 model is such a stinker! I think it's time to cut back its production and shift our resources toward the new BB8 model," said Justin Medakiewicz, Executive VP of Galaxy Incorporated. "Take a look at this Income Statement I've received from accounting. The BB8 is generating over eight times as much profit as the R2D2 on one-sixth of the unit sales. I'm convinced that we should focus on the BB8 going forward." The year-end statement which Justin was referring

below

Model

Total

R2D2

BB8

Sales

$11,125,000

$9,000,000

$2,125,000

Cost of Goods Sold

6,900,000

5,490,000

1,410,000

Gross Margin

4,225,000

3,510,000

715,000

Less: Selling and Administrative Expenses

3,675,000

3,450,000

225,000

Operating Income

$550,000

$60,000

$490,000

Number of Units Produced and Sold

30,000

5,000

"The numbers sure look that way," replied Melissa Montoro, the company's sales manager. "But why isn't the competition interested in replicating the BB8? I know we've been producing the model for only three years, but I'm surprised that more of our competitors haven't recognized what a cash cow it is."

"I think it's our new automated plant," replied Justin. "Now it takes only two direct labour hours to produce a unit of the R2D2 and three direct labour hours to produce a unit of the BB8. That's considerably less than it used to take us."

"I agree that automation is very beneficial," replied Melissa. "I suppose that's how we're able to hold down the price of the BB8. Trekkie Corporation in the UK tried to bring out a BB8 but discovered they couldn't come close to matching our price. But Trekkie is killing us on the R2D2 by undercutting our price with some of our best customers. I suppose they'll pick up all of our R2D2 business if we move out of that market. But who cares? We don't even have to advertise the BB8; it just seems to sell itself."

"My only concern about automation is how our manufacturing overhead rate has shot up," said Justin. "Our total manufacturing overhead cost is $2,700,000. That comes out to be a hefty amount per direct labour hour, but Timothy down in accounting has been using direct labour hours as the base for computing overhead rates for years and doesn't want to change. I don't suppose it matters as long as costs get assigned to products."

"I've never understood that debit and credit stuff," replied Melissa. "But I think you've got a problem in production. I had lunch with Lily yesterday and she complained about how complex the BB8 is to produce. Apparently they have to take lot of setups, special soldering, and other work on the BB8 just to keep production moving. And they have to inspect every single unit."

"It'll have to wait," said Justin. "I'm writing a proposal to the board of directors to phase out the R2D2. We've got to increase our bottom line or we'll all be looking for jobs."

Compute the predetermined overhead rate based on direct labour hours that the company used during the year. (There was no underapplied or overapplied overhead for the year.)

Direct materials and direct labour costs per unit for the two products are as follows: R2D2

BB8

Direct Materials

r2d2 $75

bb8= $120

Direct Labor

r2d2= $36

bb8= $54

Using these data and the rate computed in (1) above, determine the unit product cost of each product under the company's traditional costing system.

Assume that the company's $2,700,000 in manufacturing overhead cost can be assigned to six activity cost pools as follows:

Activity Cost Pool

(a) Estimated Overhead Costs

(b) Total

(c) R2D2

(D) BB8

Machine setups (number of setups)

$ 312,000

$1,600

1,000

600

Quality control (number of inspections)

540,000

9,000

4,000

5,000

Purchase orders (number of orders)

135,000

1,200

840

360

Soldering (number of solder joints)

675,000

200,000

60,000

140,000

Shipments (number of shipments)

198,000

600

400

200

Machine-related (machine-hours)

840,000

70,000

30,000

40,000

$2,700,000

Given these data, support a recommendation to expand sales of the BB8?

From the data in (3) above, why do we suppose the BB8 "just seems to sell itself"?

If you were president of Galaxy Incorporated, what strategy would you follow from this point forward to improve the company's overall profits?

How might Galaxy Incorporated find the ABC information helpful in managing its business?