Traditional and Activity-Based Costing

P4-3A Stellar Stairs Co. of Poway designs and builds factory-made premium wooden stairs for homes. The manufactured stair components (spindles, risers, hangers, hand rails) permit installation of stairs of varying lengths and widths. All are of white oak wood. Its budgeted manufacturing overhead costs for the year 2006 are as follows.

Overhead Cost Pools Amount
Purchasing $ 57,000
Handling materials 82,000
Production (cutting, milling, finishing) 210,000
Setting up machines 85,000
Inspecting 90,000
Inventory control (raw materials and finished goods) 126,000
Utilities 180,000
Total budget overhead costs $830,000

For the last 4 years, Stellar Stairs Co. has been charging overhead to products on
the basis of machine hours. For the year 2006, 100,000 machine hours are budgeted.
Heather Fujar, owner-manager of Stellar Stairs Co., recently directed her accountant,
Lindsay Baker, to implement the activity-based costing system that she has repeatedly
proposed. At Heather Fujar's request, Lindsay and the production foreman identify
the following cost drivers and their usage for the previously budgeted overhead cost
pools.

Activity Cost Pools Cost Drivers Expected Use of Cost Drivers
Purchasing Number of orders 600
Handling materials Number of moves 8,000
Production Direct labor hours 100,000
(cutting, milling, finishing)
Setting up machines Number of setups 1,250
Inspecting Number of inspections 6,000
Inventory control Number of components 168,000
(raw materials and finished goods)
Utilities Square feet occupied 90,000

Jason Dion, sales manager, has received an order for 280 stairs from Community
Builders, Inc., a large housing development contractor. At Jason's request, Lindsay prepares cost estimates for producing components for 280 stairs so Jason can submit a contract price per stair to Community Builders. She accumulates the following data for the production of 280 stairways.

Direct materials $103,600
Direct labor $112,000
Machine hours 14,500
Direct labor hours 5,000
Number of purchase orders 60
Number of material moves 800
Number of machine setups 100
Number of inspections 450
Number of components 16,000
Number of square feet occupied 8,000

(a) Compute the predetermined overhead rate using traditional costing with machine hours as the basis.

(b) What is the manufacturing cost per stairway under traditional costing?

(c) What is the manufacturing cost per stairway under the proposed activity-based costing?

(d) Which of the two costing systems is preferable in pricing decisions and why?