The idea for this example is to further explain Activity Based Costing and how it can help the Ideal Manufacturing Company keep its costs at the correct level. Activity based costing is defined as “An activity based costing (ABC) system recognizes the relationship between costs, activities and products, and through this relationship assigns indirect costs to products less arbitrarily than traditional methods..” (Investopedia, 2014)
A.) 17-2 broadening your perspective asks that we compute the activity-based overhead rate for each activity cost. To calculate the activity-based overhead rate for each activity cost we use the formula: The following chart are the results of that formula for each activity cost related to is driver.
For market analysis we take the market analysis amount/hours of analysis. This is 1,050,000/15,000=$70.00. For the Product design we take the product design of 2,350,000 divided by the number of designs 2,500. This is calculation is 2,350,000/2,500=940. For the Product Development we calculate the Product Development/Number of Products. 3,600,000/90=40. Lastly the Prototype testing/Number of Tests or 1,400,000/500= 2,800.
B) The next section that we are looking at is “How much cost would be charged to an in-house manufacturing department that consumed 1,800 hours of market analysis time, was provided 280 designs relating to 10 products, and request 92 engineering tests. The following chart is based on these calculations.
The market analysis is calculated by taking the calculated rate of 70*1,800 hours. This calculation comes to a $126,000 cost. The product design is calculated by multiplying the previous calculations of 940*280. This calculation comes to $263,200 in costs. The Product Development is calculated by 10 products* recalculated 40,000. This calculation is equal to $400,000in costs. We then take the Prototype testing pre-calculated 2800*92 engineering tests. This calculation is equal to $257,600 in costs. The total costs after the sum is $1,046,800.
C.) These calculations are taken based on the question asked of “How much cost would serve as the basis for pricing an R&D bid with an outside company on a contract that would consume 800 hours of analysis time, require 178 designs relating to 3 products, and result in 70 engineering tests?”
The following chart is the above calculations:
For this set of calculations we take the 800 hours of analysis time and multiply it by 70 which calculates to the $56,000 in costs. Product design is calculated by taking 178 designs multiplied by 940= $167,320 in costs. Product development is calculated by 3*40,000= 120,000 on costs and prototype testing is equal to 70*2800=196,000 in costs for a total of $539,320.
D.) The benefit to Ideal Manufacturing of applying activity for both in house and outside charging purposes is that the use of activity based costing will show a more accurate selling proce of the product and the loss that is taken. Without activity based costing being used Ideal Manufacturing could be charged a higher selling price. This would not be ideal for Ideal Manufacturing as their competitors could get smaller selling prices. In all activity based costing helps the company to make sure that they are using the correct cost for each of their products and provides the company with a more accurate selling price.
Investopedia. (2014). Activity Based Costing. Retrieved from http://www.investopedia.com/terms/a/abc.asp
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