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    Activity base costing

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    Coffee Bean, Inc. (CBI), is a processor and distributor of a variety of blends of coffee. The company buys coffee beans from around the world and roasts, blends, and packages them for resale. CBI currently has 40 different coffees that it sells to gourmet shops in one-pound bags. The major cost of the coffee is raw materials. However, the company's predominately automated roasting, blending, and packing process requires a substantial amount of manufacturing overhead. The company uses relatively little direct labor.
    Some of CBI's coffees are very popular and sell in large volumes, while a few of the newer blends have very low volumes. CBI prices its coffee at manufacturing cost plus a markup of 30%. If CBI's prices for certain coffees are significantly higher than market, adjustments are made to bring CBI's prices more into alignment with the market since customers are somewhat price conscious.
    For the coming year, CBI's budget includes estimated manufacturing overhead cost of $3,000,000. CBI assigns manufacturing overhead to products on the basis of direct labor-hours. The expected direct labor cost totals $600,000, which represents 50,000 hours of direct labor time. Based on the sales budget and expected raw materials costs, the company will purchase and use $6,000,000 of raw materials (mostly coffee beans) during the year.
    The expected costs for direct materials and direct labor for one-pound bags of two of the company's coffee products appear below:

    Mona Loa Malaysian
    Direct materials $ 4.20 $ 3.20
    Direct labor 0.30 0.30

    CBI's controller believes that the company's traditional costing system may be providing misleading cost information. To determine whether or not this is correct, the controller has prepared an analysis of the year's expected manufacturing overhead costs, as shown in the following table:
    Activity Cost Pool Activity Measure Expected Activity for the Year Expected Cost for the Year
    Purchasing Purchase orders 1,710 orders $513,000
    Materials handling # of Setups 1,800 setups 720,000
    Quality control # of Batches 600 batches 144,000
    Roasting Roasting-hours 96,100 roasting hours 961,000
    Blending Blending-hours 33,600 blending hours 402,000
    Packaging Packaging-hours 26,000 packaging hours 260,000
    Total manufacturing overhead cost $3,000,000

    Data regarding the expected production of Mona Loa and Malaysian coffee are presented below.

    Mona Loa Malaysian
    Expected sales 100,000 pounds 2,000 pounds
    Batch size 10,000 pounds 500 pounds
    Setups 3 per batch 3 per batch
    Purchase order size 20,000 pounds 500 pounds
    Roasting time per 100 pounds 1 hour 1 hour
    Blending time per 100 pounds 0.5 hour 0.5 hour
    Packaging time per 100 pounds 0.1 hour 0.1 hour

    1. Using the direct labor-hours as the base for assigning manufacturing overhead cost to products, do the following:
    a. Determine the predetermined overhead rate that will be used during the year.
    b. Determine the unit product cost of one pound of the Mona Loa coffee and one pound of the Malaysian coffee.

    2. Using activity-based costing as the basis for assigning manufacturing overhead cost to products, do the following:
    a. Determine the total amount of manufacturing overhead cost assigned to the Mona Loa coffee and to the Malaysian coffee for the year.
    b. Using the data developed in 2(a), computer the amount of manufacturing overhead cost per pound of the Mona Loa coffee and the Malaysian coffee. Round all computations to the nearest whole cent.
    c. Determine the unit product cost of one pound of the Mona Loa coffee and one pound of the Malaysian coffee.

    Write a brief memo to the president of CBI explaining what you have found in (1) and (2) above and discussing the implications to the company of using direct labor as the base for assigning manufacturing overhead cost to products.

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    Solution Summary

    Excel file shows calculations of activity rate and cost per unit of each product using activity based costing and traditional method.