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Activity based costing

4. Tough Thermos, Inc. manufactures two plastic thermos containers. The large container is called the Ice House. The smaller container is called the Cool Chest. The Ice House sells for $35 and the Cool Chest sells for $24. The production costs computed per unit under traditional costing for each model in 2008 were as follows.
Traditional Costing Ice House Cool Chest
Direct materials $ 9.50 $ 6.00
Direct labor ($10 per hour) 8.00 5.00
Manufacturing overhead ($17.08 per DLH) 13.66 8.54
Total per unit cost $31.16 $19.54

In 2008, Tough Thermos manufactured 50,000 units of the Ice House and 20,000 units of the Cool Chest. The overhead rate of $17.08 per direct labor hour was determined by dividing total expected manufacturing overhead of $854,000 by the total direct labor hours (50,000) for the 2 models.
Under traditional costing, the gross profit on the two containers was: Ice House $3.84 or ($35 − $31.16), and Cool Chest $4.46 or ($24 − $19.54). Because of this difference, management is considering phasing out the Ice House model and increasing production of the Cool Chest Model.
Before finalizing its decision, management asks the controller Sven Meza to prepare a product costing analysis using activity-based costing (ABC). Meza accumulates the following information about overhead for the year ended December 31, 2008.
Activities Cost Drivers Estimated Overhead Expected Use of Cost Drivers Activity-Based Overhead Rate
Purchasing Number of orders $179,000 4,475 purchase orders $40 per order
Machine setups Number of setups $195,000 780 setups $250 per setup
Extruding Machine hours $ 320,000 80,000 machine hours $4 per machine hour
Quality control Tests and inspections $ 160,000 8,000 tests $20 per test

The cost drivers used for each product were:
Cost Drivers Ice House Cool Chest Total
Purchase orders 2,500 1,975 4,475
Machine setups 480 300 780
Machine hours 60,000 20,000 80,000
Tests and inspections 5,000 3,000 8,000
Time Remaining:
1. Assign the total 2008 manufacturing overhead to the two products using activity based costing (ABC). (Points: 8)

2. What was the total cost per unit and the gross profit per unit of each model using ABC costing? (Points: 8)

3. Are management's future plans for the two models sound? (Points: 4)


Solution Summary

The solution explains how to calculate unit cost using activity based costing