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# Order Size and Annual Costs

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1. A large law firm uses an average of 40 boxes of copier paper a day. The firm operates 260 days a year. Storage and handling costs for the paper are \$30 a year per box, and it costs approximately \$60 to order and receive a shipment of paper.

a. What order size would minimize the sum of annual ordering and carrying costs?
b. Compute the total annual cost using your order size from Part a.
c. Except for rounding, are annual ordering and carrying costs always equal at the EOQ?
d. The office manager is currently using an order size of 200 boxes. The partners of the firm expect the office to be managed "in a cost efficient manner". Would you recommend that the office manager use the optimal order size instead of 200 boxes? Justify your answer.

2. A chemical firm produces sodium bisulfate in 100-pound bags. Demand for this product is 20 tons per day. The capacity for producing the product is 50 tons per day. Setup costs \$100, and storage and handling costs are \$5 per ton a year. The firm operates 200 days a year. (Note: 1 ton = 2,000 pounds.)

a. How many bags per run are optimal?
b. What would the average inventory be for this lot size?
c. Determine the approximate length of a production run, in days.
d. About how many runs per year would be there?
e. How much could the company save annually if the setup cost could be reduced to \$25 per run?

3. A mail-order house uses 18000 boxes a year. Carrying costs are .60 cents per box a year, and ordering costs are \$96. The following price schedule applies. Determine
a. The optimal order quantity
b. The number of orders per year

Number of boxes Price per box (\$)
1000 to 1999 1.25
2000 to 4999 1.20
5000 to 9999 1.15
10000 or more 1.10

Number.

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The solution discusses order size and annual costs.

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## Chapter 8: Activity-Based Costing: A Tool to Aid Decision Making

Please refer to the attached word document. The following exercises need to be addressed:

Exercise 8-10

Problem 8-14

Problem 8-18

Thanks.

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356
Chapter 8 Activity-Based Costing: A Tool to Aid Decision Making
EXERCISE 8-10 Comprehensive Activity-Based Costing Exercise
Silicon Optics has supplied the following data for use in its activity-based costing system:
Wages and salaries .
Other overhead costs .
Total overhead costs .
\$350,000 200,000
\$550,000
Activity Cost Pool
Volume .
Order processing .
Customer support .
Other .
Activity Measure
Number of direct labor-hours Number of orders
Number of customers
These costs are not allocated to products or customers
Total Activity 10,000 DLHs
500 orders 100 customers
Not applicable
Volume
Wages and salaries 30%
Other overhead costs 25%
Distribution of Resource Consumption Across Activity Cost Pools
Order Customer
Processing Support
35% 25%
15% 20%
Other 10% 40%
Total 100% 100%
During the year, Silicon Optics completed an order for a special optical switch for a new cus¬tomer, Indus Telecom. This customer did not order any other products during the year. Data con¬cerning that order follow:
Data Concerning the Indus Telecom Order
Selling price \$295 per unit
Units ordered 100 units
Direct materials \$264 per unit
Direct labor-hours 0.5 DLH per unit
Direct labor rate \$25 per DLH
Required:
1. Using Exhibit 8-4 as a guide, prepare a report showing the first-stage allocations of overhead costs to the activity cost pools.
2. Using Exhibit 8-5 as a guide, compute the activity rates for the activity cost pools.
3. Using Exhibit 8-8 as a guide, prepare a report showing the overhead costs for the order from Indus Telecom. Do not include customer support costs at this point in the analysis.
4. Using Exhibit 8-9 as a guide, prepare a report showing the product margin for the order and the customer margin for Indus Telecom.

Chapter 8 Activity-Based Costing: A Tool to Aid Decision Making
PROBLEM 8-14 Activity-Based Costing and Bidding on Jobs Denny Asbestos Removal Company is in the business of removing potentially toxic asbestos insu¬lation and related products from buildings. The company's estimator has been involved in a long¬simmering dispute with the on-site work supervisors. The on-site supervisors claim that the estimator does not take enough care in distinguishing between routine work such as removal of asbestos insulation around heating pipes in older homes and nonroutine work such as removing asbestos-contaminated ceiling plaster in industrial buildings. The on-site supervisors believe that nonroutine work is far more expensive than routine work and should bear higher customer charges. The estimator sums up his position in this way: "My job is to measure the area to be cleared of asbestos. As directed by top management, I simply multiply the square footage by \$4,000 per thou¬sand square feet to determine the bid price. Since our average cost is only \$3,000 per thousand square feet, that leaves enough cushion to take care of the additional costs of nonroutine work that shows up. Besides, it is difficult to know what is routine or not routine until you actually start tear¬ing things apart."
Partly to shed light on this controversy, the company initiated an activity-based costing study of all of its costs. Data from the activity-based costing system follow:

Activity cost Pool
Job size .
Estimating and job setup .
Working on nonroutine jobs .
Other (costs of idle capacity and organization-
sustaining costs) .

Activity Measure Thousands of square feet Number of jobs
Number of nonroutine jobs Not applicable; these
costs are not allocated to jobs

Total Activity
500 thousand square feet 200 jobs*
25 nonroutine jobs

*The total number of jobs includes non routine jobs as well as routine jobs. Nonroutine jobs as well as routine jobs require estimating and setup work.

Chapter 8 Activity-Based Costing: A Tool to Aid Decision Making

359

Wages and salaries .
Disposal fees , .
Equipment depreciation .
On-site supplies .
Office expenses .
Licensing and insurance .
Total cost. .

\$ 200,000 600,000 80,000 60,000 190,000 370,000
\$1,500,000

Other 15%
0% 10% 10% 20% 10%
Job Size
Wages and salaries 40%
Disposal fees 70%
Equipment depreciation 50%
On-site supplies 55%
Office expenses 10%
Licensing and insurance 50%

Distribution of Resource Consumption Across Activity Cost Pools
Estimating Working on
and Nonroutine
Job Setup Jobs
10% 35%
0% 30%
0% 40%
15% 20%
40% 30%
0% 40%

Total 100% 100% 100% 100% 100% 100%

Required:
1. Using Exhibit 8-4 as a guide, perform the first-stage allocation of costs to the activity cost pools.
2. Using Exhibit 8-5 as a guide, compute the activity rates for the activity cost pools.
3. Using the activity rates you have computed, determine the total cost and the average cost per thousand square feet of each of the following jobs according to the activity-based costing system.
a. A routine 2,000-square-foot asbestos removal job. b. A routine 4,000-square-foot asbestos removal job.
e. A nonroutine 2,000-square-foot asbestos removal job.
4. Given the results you obtained in (3) above, do you agree with the estimator that the com¬pany's present policy for bidding on jobs is adequate?
PROBLEM 8-18 (Appendix 8A) Activity Rates and Activity-Based Management
Chefs de Vitesse SA is a French company that provides passenger and crew meals to airlines oper¬ating out of the two international airports of Paris-Orly and Charles de Gaulle (CDG). The oper¬ations at Orly and CDG are managed separately, and top management believes that greater sharing information between the two operations should lead to improvements in operations.
To better compare the two operations, an activity-based costing system has been designed with the active participation of the managers at both Orly and CDG. The activity-based costing system is based on the following activity cost pools and activity measures:

Activity Cost Pool
Meal preparation .
Flight-related activities .
Customer service .
Other (costs of idle capacity and
organization-sustaining costs) .

Activity Measure Number of meals Number of flights Number of customers
Not applicable

Meal Prep. Customer Related Customer Service
Cooks and delivery personnel wages â?¬2.63 â?¬ 135.50 â?¬ 0
Kitchen supplies . 0.19 0.00 0
Chef salaries 0.18 12.00 10,500
Equipment depreciation . 0.05 0.00 0
Administrative wages and salaries . 0.00 9.65 8,765
Building costs , . 0.00 0.00 0
Total cost . â?¬ 3.05 â?¬157.15 â?¬19,265

362
Chapter 8 Activity-Based Costing: A Tool to Aid Decision Making
The operation at CDG airport serves 500,000 meals annually on 4,000 flights for 8 different airlines. (Each airline is considered one customer.) The annual cost of running the CDG airport op¬eration, excluding only the costs of raw materials for meals, totals â?¬2,650,000. (The currency in France is the euro, denoted here by â?¬.)
Annual Cost of the COG Operation
Cooks and delivery personnel wages .
Kitchen supplies .
Chef salaries .
Equipment depreciation .
Administrative wages and salaries .
Building costs .
Total cost .
â?¬ 1,800,000 100,000 200,000 50,000 180,000 320,000
â?¬ 2,650,000
To help determine the activity rates, employees were interviewed and asked how they divided their time among the four major activities. The results of the interviews at CDG are displayed below:
Distribution of Resource Consumption Across Activity Cost Pools
at the COG Operation
Flight Customer Related Service
25% 0%
0% 0%
15% 40%
0% 0%
25% 45%
0% 0%
Cooks and delivery personnel wages
Kitchen supplies .
Chef salaries .
Equipment depreciation .
Administrative wages and salaries .
Building costs .
Meal
Preparation 70% 90% 35% 70%
0% 0%
Other
5% 10% 10% 30% 30%
100%
Total 100% 100% 100% 100% 100% 100%
Required:
1. Using Exhibit 8A-I as a guide, perform the first-stage allocation of costs to the activity cost pools.
2. Using Exhibit 8A-2 as a guide, compute the activity rates for the activity cost pools.
3. The Orly operation has already concluded its activity-based costing study and has reported the following costs of carrying out activities at Orly:

Comparing the activity rates for the CDG operation you computed in (2) above to the activity rates for Orly, do you have any suggestions for the top management of Chefs de Vitesse SA?
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