Concept explainers
1.
Activity-based costing (ABC) method: The costing method which allocates overheads to the products based on factory overhead rate for each activity or cost object, according to the cost pooled for the cost drivers (allocation base).
Formula to compute activity-based overhead rate:
To compute: The activity-based overhead rate for each of the given activities
1.
Explanation of Solution
Compute activity-based overhead rates.
Computation of Activity-Based Overhead Rates | |||||
Activity Cost Pools | Activity Cost | ÷ | Total Activity-Base Usage | = | Activity-Based Overhead Rates |
Customer support | $76,860 | ÷ | 427 requests | = | $180 per request |
Sales order processing | 25,920 | ÷ | 1,080 orders | = | $24 per order |
Advertising support | 311,250 | ÷ | 249 advertisements | = | $1,250 per ad |
Table (1)
2.
To compute: The activity-cost allocated to each of the products
2.
Explanation of Solution
Compute activity cost allocated to Company W.
Activity Cost Pools | Activity-Based Overhead Rates | × | Actual Use of Activity-Base | = | Activity Cost Allocated |
Customer support | $180 per request | × | 62 requests | = | $11,160 |
Sales order processing | $24 per order | × | 300 orders | = | 7,200 |
Advertising support | $1,250 per ad | × | 25 ads | = | 31,250 |
Total activity costs allocated to Company W | $49,610 |
Table (2)
Note: Refer to Table (1) for value and computation of activity-based overhead rate.
Compute activity cost allocated to Company K.
Activity Cost Pools | Activity-Based Overhead Rates | × | Actual Use of Activity-Base | = | Activity Cost Allocated |
Customer support | $180 per request | × | 340 requests | = | $61,200 |
Sales order processing | $24 per order | × | 640 orders | = | 15,360 |
Advertising support | $1,250 per ad | × | 180 ads | = | 225,000 |
Total activity costs allocated to Company K | $301,560 |
Table (3)
Note: Refer to Table (1) for value and computation of activity-based overhead rate.
Compute activity cost allocated to Company SU.
Activity Cost Pools | Activity-Based Overhead Rates | × | Actual Use of Activity-Base | = | Activity Cost Allocated |
Customer support | $180 per request | × | 25 requests | = | $4,500 |
Sales order processing | $24 per order | × | 140 orders | = | 3,360 |
Advertising support | $1,250 per ad | × | 44 ads | = | 55,000 |
Total activity costs allocated to Company SU | $62,860 |
Table (4)
Note: Refer to Table (1) for value and computation of activity-based overhead rate.
3.
To draft: Customer profitability report of Incorporation S for the year ended December 31
3.
Explanation of Solution
Prepare customer profitability report of Incorporation S for the year ended December 31.
Incorporation S | |||
Customer Profitability Report | |||
For the Year Ended December 31 | |||
Company W | Company K | Company SU | |
Revenues | $899,100 | $899,100 | $899,100 |
Cost of goods sold | 552,420 | 552,420 | 552,420 |
Gross profit | 346,680 | 346,680 | 346,680 |
Selling and administrative expenses: | |||
Customer support | $11,160 | $61,200 | $4,500 |
Project bidding | 7,200 | 15,360 | 3,360 |
Engineering support | 31,250 | 225,000 | 55,000 |
Total selling expenses | $49,610 | $301,560 | $62,860 |
Income (loss) from operations | $297,070 | $45,120 | $283,820 |
Table (5)
Working Notes:
Refer to Tables (2), (3) and (4) for value and computation of selling and administrative expenses for the three customers.
Compute sales revenues for each of the customers.
Customers | Number of Units Sold | × | Selling Price Per Unit | = | Sales Revenue |
Company W | 810 units | × | $1,110 | = | $899,100 |
Company K | 810 units | × | 1,110 | = | 899,100 |
Company SU | 810 units | × | 1,110 | = | 899,100 |
Table (6)
Compute cost of goods sold for each product.
Customers | Number of Units Sold | × | Cost Price Per Unit | = | Cost of Goods Sold |
Company W | 810 units | × | $682 | = | $552,420 |
Company K | 810 units | × | 682 | = | 552.420 |
Company SU | 810 units | × | 682 | = | 552.420 |
Table (7)
4.
To discuss: The inferences from the customer profitability report.
4.
Explanation of Solution
Company W and Company SU are profitable customers whereas Company K has low margin. This is due to the high activity costs for all the three activities. Company K is suggested to increase its sales volume to overcome its costs. Due to high costs and low revenues, the customer experienced losses.
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