Question

Case Study One: CBI buys coffee beans from around the world and roast, blends, and packages them for resale. The major cost is direct materials; however, there is substantial manufacturing overhead in the predominantly automated roasting and packing process. The company uses relatively little direct labor. Some of the coffees are very popular and sell in large volumes, whereas a few of the newer blends sell in very low volumes. CBI prices its coffee based on budgeted cost, including allocated overhead, plus a markup on cost of 30%. Data for 2023 budget include manufacturing overhead of $3,00,000, which has been allocated on the basis of each product’s budgeted direct-labor cost. The budgeted direct-labor cost for 2023 totals $600,000. Purchases and use of materials (mostly coffee beans) are budgeted to total $6,000,000. The budgeted direct costs for one-pound bags of two of the company’s products are: Mauna Loa Malaysian Direct Material $4.20 $3.20 Direct Labor .30 .30 CBI’s controller believes the existing simple cost system may be providing misleading cost information. She has developed an activity-based analysis of the 2023 budgeted manufacturing costs, which is shown in the following table. Activity Cost Driver Cost-Driver-Rate Purchasing Purchase orders $500 Material Handling Loads Moved 400 Quality Control Batches 240 Roasting Roasting-hours 10 Blending Blending-hours 10 Packaging Packaging-hours 10 Budgeted data regarding the 2023 production of the Mauna Loan and Malaysian coffee follow. There will be no beginning or ending material inventory for either of these coffees. Mauna Loa Malaysian Expected Sales 100,000 pounds 2,000 pounds Purchase orders 4 4 Batches 10 4 Loads moved 30 12 Roasting-hours 1,000 20 Blending-hours 500 10 Packaging-hours 100 2 Required: 1. Using CBI’s simple costing system: a. Determine the company’s 2023 budgeted manufacturing overhead rate using direct-rate cost as the single allocation base. b. Determine the 2023 budgeted costs and selling price of 1 pound of Mauna Loa and 1 pound of Malaysian coffee. 2. Use the controller’s activity-based approach to estimate the 2023 cost of 1 pound of a. Mauna Loa coffee b. Malaysian coffee 3. From the information above, what does the activity-based cost show that the traditional method does not show? Discuss the results.

Answer 1

CBI's traditional costing system uses direct labor costs to allocate manufacturing overhead, which may not reflect the actual costs incurred for automated processing. Activity-based costing provides a more accurate reflection of costs by accounting for specific activities.

Step-by-step explanation:

Costing Systems in Business Case Study

Direct labor cost is a significant factor in traditional costing systems. However, in companies like CBI, where direct materials are the primary expense and manufacturing overhead is high due to automated processes, such methods can be misleading. The company's activity-based costing (ABC) may offer more accurate cost information by identifying activity cost drivers and their respective rates.

1. Using the simple costing system:

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• a. Overhead rate = Total Manufacturing Overhead / Total Direct Labor Cost = $3,00,000 / $600,000 = $5 per direct labor dollar.
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• b. Total cost per pound of Mauna Loa = Direct Material + Direct Labor + (Overhead Rate * Direct Labor) = $4.20 + $0.30 + ($5 * $0.30) = $4.20 + $0.30 + $1.50 = $6.00. Selling price = Total cost * 130% = $6.00 * 1.30 = $7.80.
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• Total cost per pound of Malaysian = Direct Material + Direct Labor + (Overhead Rate * Direct Labor) = $3.20 + $0.30 + ($5 * $0.30) = $3.20 + $0.30 + $1.50 = $5.00. Selling price = Total cost * 130% = $5.00 * 1.30 = $6.50.

2. Using the ABC method:

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• a. Cost of Mauna Loa per pound includes all activity costs divided by expected sales in pounds.
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• b. Cost of Malaysian per pound also includes determined activity-based costs per unit of product.

3. The activity-based approach gives a more accurate product cost by taking into account specific activities and costs associated with them, rather than spreading overhead evenly based on direct labor.