Question

Deoro Company has identified the following overhead activities, costs, and activity drivers for the coming year:

Activity Expected Cost Activity Driver Activity Capacity
Setting up equipment $492,880 Number of setups 610
Ordering costs 372,000 Number of orders 18,600
Machine costs 963,600 Machine hours 43,800
Receiving 501,600 Receiving hours 11,400
Deoro produces two models of dishwashers with the following expected prime costs and activity demands:
Model A Model B
Direct materials $600,000 $800,000
Direct labor $480,000 $480,000
Units completed 16,000 8,000
Direct labor hours 6,000 2,000
Number of setups 400 200
Number of orders 6,000 12,000
Machine hours 24,000 18,000
Receiving hours 3,000 7,000
The company's normal activity is 8,000 direct labor hours.
Required:
1. Determine the unit cost for each model using direct labor hours to apply overhead.
2. Determine the unit cost for each model using the four activity drivers.
3. Which method produces the more accurate cost assignment?

Answer 1

Deoro Company

Unit cost for each model

Model A Model B

1. Using direct labor hours $176.72 $232.815

2. Using the four activity drivers $136.45 $298.20

3. ABC (method 2) produces the more accurate cost assignment. The overhead cost depends on the level of activity consumed by each model.

Step-by-step explanation:

a) Data and Calculations:

Activity Expected Cost Activity Driver Activity Capacity

Setting up equipment $492,880 Number of setups 610

Ordering costs 372,000 Number of orders 18,600

Machine costs 963,600 Machine hours 43,800

Receiving 501,600 Receiving hours 11,400

Total overhead costs $2,330,080

Activity rates:

Setting up equipment = $808 ($492,880/610) per setup

Ordering costs = $20 ($372,000/18,600) per order

Machine costs = $22 ($963,600/43,800) per machine hour

Receiving = $44 ($501,600/11,400) per receiving hour

Total direct labor hours = 8,000

Total overhead costs = $2,330,080

Predetermined overhead rate using direct labor hours:

= $291.26 ($2,330,080/8,000)

Unit cost for each model:

Using direct labor hours to apply overhead:

Model A Model B

Direct materials $600,000 $800,000

Direct labor $480,000 $480,000

Overhead $1,747,560 $582,520

Total costs $2,827,560 $1,862,520

Unit costs $176.72 $232.815

Units completed 16,000 8,000

Direct labor hours 6,000 2,000

Number of setups 400 200

Number of orders 6,000 12,000

Machine hours 24,000 18,000

Receiving hours 3,000 7,000

Overhead assigned to:

Using predetermined rate based on direct labor hours:

Model A Model B

Overhead rate = $291.26 per direct labor hours

Direct labor hours 6,000 2,000

Using direct labor hours $1,747,560 $582,520

Using activity-based costing method:

Rates Model A Model B

Setting up equipment = $808 $323,200 ($808*400) $161,600 ($808 * 200)

Ordering costs = $20 120,000 ($20 *6,000) 240,000 ($20 * 12,000)

Machine costs = $22 528,000 ($22 *24,000) 396,000 ($22 * 18,000)

Receiving = $44 132,000 ($44 * 3,000) 308,000 ($44 * 7,000)

Total overhead assigned $1,103,200 $1,105,600

Using activity-based rates to apply overhead:

Model A Model B

Direct materials $600,000 $800,000

Direct labor $480,000 $480,000

Overhead $1,103,200 $1,105,600

Total costs $2,183,200 $2,385,600

Units completed 16,000 8,000

Unit costs $136.45 $298.20