Question

MINH TIEN Company produces delivery trucks, TT-14 and TT-13. The company is currently using an absorption costing system that applies overhead based on direct- labor hours. The budget for the current year ending December 31, 20x1, is as follows:

Budgeted Statement of Gross Margin for 20x1

А -80 - 20 none B 20 190 none С 320 770 D 800 1250

TT 14 TT 13 Total
Sales in units 5000 5000 10,000
Sales revenue ($) 2,100,000 2,500,000 4,600,000
Cost of goods manufactured and sold ($)
Beginning finished- goods inventory 240,000 300,000 540,000
add: Direct material 1,500,000 1,750,000 3,250,000
Direct labour 185,185 92,593 277,778
Applid MOH* 544,025 272,013 816,038
Cost of goods available for sale ($) 2,469,210 2,414,606 4,883,816
Gross margin ($) -129,210 385,394 256,184



Cost pool information for 20x1
Cost pool Activity TT 14 TT 13
Direct labor DL hour 10,000 5,000
Machining Mahcine hours 15,000 30,000
Assembly Assembly hours 6,000 5,500
Material handling Number of parts 25,000 50,000
Inspection Inspection hours 5,000 7,500

Required:

Explain how activity- based costing differs from traditional product costing methods

Answer 1

Activity-based costing differs from traditional costing in its approach to allocating overhead costs. ABC uses multiple cost drivers for more accurate cost distribution, while traditional methods often rely on one driver, leading to potential cost distortion for various products.

Step-by-step explanation:

Activity-based costing (ABC) and traditional product costing methods differ fundamentally in how they allocate manufacturing overhead costs. Under the traditional method, overhead costs are applied based on a single cost driver, such as direct labor hours or machine hours. On the other hand, ABC assigns overhead costs to products based on the actual activities required to produce each product. By using multiple cost drivers, ABC more accurately reflects the consumption of overhead resources by different products.

This includes various activities like machining, assembly, material handling, and inspection. ABC often results in more accurate product costing, better pricing decisions, and improved allocation of resources. To illustrate, MINH TIEN Company, currently using absorption costing, could benefit from ABC by having a more precise approach to assigning costs based on the diverse activities mentioned in their cost pool information.