Problem 3 A company produces three products A, B and C for which the standard costs and quantities per unit

are as follows: Products A B C Quantity produced 10,000 20,000 30,000 Direct material/p.u. (Rs.) 50 40 30 Direct labour/P.u. (Rs.) 30 40 50 Labour hours/P.u. 3 4 5 Machine hours/p.u. 4 4 7 No. of purchase requisitions 1,200 1,800 2,000 No. of set ups 240 260 300 Production overhead split by departments Department 1 = 11,00,000 - Department 2 = 15,00,000 Department 1 is labour intensive and department 2 is machine intensive Total labour hours in Department 1 = 1,83,333 Total machine hours in department 2 = 5,00,000 Production overhead split by activity receiving/inspecting Rs. 14,00,000 - Production scheduling/machine set up Rs. 12,00,000 Rs. 26,00,000 No. of batches received/inspected = 5,000 No. of batches for scheduling and set up = 800 You are required to: (i) Prepare product cost statement under traditional absorption costing and Activity based costing method. (ii) Compare the results under two methods. Solution Traditional absorption costing Absorption rates: Rs. 11,00,000 Department 1 = ------------------------------------ = Rs. 6 per labour hour 1,83,333 labour hours

Rs. 15,00,000 Department 2 = ------------------------------------------- = Rs. 3 per machine hour 5,00,000 machine hours Product cost statement Product Direct material Direct labour Overhead: Department 1 Department 2 Total cost p.u. Activity based costing Cost driver rates: Receiving/inspecting A Rs. 50 30 B Rs. 40 40 C Rs. 30 50

18 24 30 (3 hrs. Rs. 6) (4 hrs. Rs.6) (5 hrs. Rs. 6) 12 12 21 (4 hrs. Rs.3) (4 hrs. Rs. 3) (4 hrs. Rs. 7) 110 116 131 Rs. 14,00,000 5,000 (No. of batches received/inspected) = -----------------------------------------------------------------

Production scheduling /Machine set ups

= Rs. 280 per requisition Rs. 12,00,000 = -------------------------------------------------------------800 (No. of batches for scheduling) = Rs. 1,500 per set up.

Product cost statement (per unit) Products Direct material (Rs.) Direct labour (Rs.) Overhead: Receiving Production scheduling Total cost per unit A Rs. 50 30 34* 36** _150 B Rs. 40 40 25 20 125 C Rs. 30 50 19 15 114

{Rs. 280 1,200} 10,000 units = Rs. 34* similarly Rs. 25 and Rs. 19 (Rs. 1,500 240) 10,000 units = Rs. 36**; similarly Rs. 20 and Rs. 15. The two absorption methods produce different results. Product C appears to be much more expensive using the traditional method than it does with ABC, while product A is the opposite. If it is assumed that ABC is more accurate, which it may or may not be, then product C would be overpriced on the traditional method and sales would presumably be poor as a consequenceassuming competitors supply more cheaply. Product A would be the opposite: sales would be high and it is possible that the company would unknowingly make a loss per unit on product A. Problem 4 The following information provides details of costs, volume & cost drivers for a particulars period in respect of ABC Ltd. for product X, Y and Z. Product X product Y Product Z Total 1. production & sales (units) 30,000 20,000 8,000 2. Raw material usage (units) 5 5 11 3. Direct material cost (Rs.) 25 20 11 12,38,000 4. Direct labour hours 5. Machine hours 6. 7. 8. 9. 10. 11. Direct labour cost (Rs.) No. of production runs No. of deliveries No. of receipts (2 7)* No. of production orders Overhead costs: Set-up Machines Receiving Packing Engineering

1 3 1 1 3 1
8 3 9 15 15 30,000 7,60,000 4,35,000 2,50,000 3,73,000 Rs. 18,48,000

2 1 12 7 3 35 10

1 2 6 20 20 220 25

88,000 76,000 30 32 270 50

* The company operates a just-in-time inventory policy, and receives each component once per production run. In the past the company has allocated overheads to products on the basis of direct labour hours. However, the majority of overheads are related to machine hours rather than direct labour hours. The company has recently redesigned its cost system by recovering overheads using two volume related bases: machine hours and a materials handling overhead rate for recovering overheads of the receiving department. Both the current and the previous cost

system reported low profit margins for product X, which is the companys highest-selling product. The management accountant has recently attended a conference on activity-based costing, and the overhead costs for the last period have been analyzed by the major activities in order to compute activity based costs. From the above information you are required to: (a) Compute the product costs using a traditional volume-related costing system based on The assumption that: (i) All overheads are recovered on the basis of direct labour hours (i.e. the companys past product costing system); (ii) The overheads of the receiving department are recovered by a materials handling overhead rate and the remaining overheads are recovered using a machine hour rate (i.e., the company current costing system).

(b) Compute product costs using an activity-based costing system. Solution (a) Computation of the product cost using a traditional volume related costing system based on assumption that: (i) All overheads are recovered on the basis of direct labour hours (i.e., the company product Costing system) Products Direct labour Direct materials Overheads (Refer to working note) Total Statement showing the product cost X Rs. 8 25 28 Y Rs. 12 20 42 Z Rs. 6 11 21

1 1 hrs.xRs.21 3
_______ 61

( 2hrs.xRs.21)
______ 74

(1hr.xRs.21)
______ 38

Working note: Overheads to be charged to products Total overheads Direct labour overhead rate = ---------------------------------Total direct labour hours =

Rs.18,48,000 Rs.88,000hrs.

= Rs. 21 per direct labour hour. (ii) The overheads of the receiving department are recovered by material handling overhead rate & the remaining overheads are recovered by using a machine hour rate (i.e. the company current costing system) Products Direct labour Direct materials Material handling overhead (Ref. To working note) other overheads (Machine hour basis) X Y Z Rs. Rs. Rs. 8 12 6 25 20 11 8.78 7.03 3.87 (Rs. 25 35.14%)(Rs. 20 35.14%)(Rs. 11 35.14%) 24.79 18.59 37.18

(Ref. To working note) Total cost

(1 hrs. Rs. 18.59) (1hr. Rs. 18.59)(2 hrs. Rs. 18.59) ---------66.57 ---------57.62 -----------58.05

1 3

Working note: Overheads to be charged to products: Material handling overhead rate Receiving department overheads = -----------------------------------------------------Direct material cost =

Rs.4,35,000 x100 Rs.12,38,000

Machine hour overhead rate

= 35.14% of direct material cost. Other overheads = ---------------------------------Machine hours =

Rs.14,13,000 76,000hrs.

= 18.59 per machine hours. (b) Statement showing the product costs using an activity based costing system. Products Direct labour Direct material Machine overheads (Refer to working note 1) Set-up costs (Ref. To working note 2 (i)) Receiving (Ref. To working note 2(ii)) Packing (Ref. To working note 2 (iii)) Engineering (Ref. To working note 2 (iv)) Total manufacturing cost Working note: 1. Machine overhead rate per hour = X Rs. 8 25 13.33 Y Rs. 12 20 10 Z Rs. 6 11 20

(1 hrs. Rs. 10)(1 hr. Rs. 10) (2 hr. Rs. 10) 0.10 0.35 2.50

1 3

Rs.1,000 x3 Rs.1,000 x 7 Rs.1,000 x 20 8,000 30,000 20,000

Rs.1,611x15 Rs.1,611x35 Rs.1,611x 200 8,000 30,000 20,000

Rs.7,812 x9 Rs.7,812 x3 Rs.7,812 x 20 8,000 30,000 20,000

Rs.7,460 x15 Rs.7,460 x10 Rs.7,460 x 25 8,000 30,000 20,000

Rs.7,60,000 76,000hrs

= Rs. 10 2. The cost per transaction or activity for each of the cost Centres is as follows: (i) Set-up cost Setup cost (Rs. 30,000) Cost per setup = ---------------------------------------------- = Rs. 1,000 Number of production runs (30)

(ii) Receiving cost Receiving cost (Rs. 4,35,000) Cost pre receiving order = ----------------------------------------------- = Rs. 1,611 No. of orders (270) (iii) Packing Cost Packing cost (Rs. 2,50,000) Cost per packing order = ------------------------------------------------- Rs. 7,812 Number of orders (32) (iii) Engineering Engineering cost (Rs. 3,73,000) Cost per production order = No. of production order (50) --------------------------------------------- = Rs. 7,460 Problem 2: A company manufacturing two products furnishes the following data for a year: Product Annual Output (units) Total MachineTotal number ofTotal number hours purchase set-ups orders 160 384 20 44 of

A B

5,000 60,000

20,000 1,20,000

The annual overheads are as under: Volume related activity costs Set up related costs Purchase related costs Rs. 5,50,000 Rs. 8,20,000 Rs. 6,18,000

Calculate cost per unit of each Product A&B based on (a) Traditional Method of charging overheads (b) Activity based costing method Solution:

(a) Traditional method of charging overheads: Rs. Volume related activity costs Set-up related costs Purchase related costs Total Costs 5,50,000 8,20,000 6,18,000 19,88,00 0

Total Machine Hours (20,000 +1,20,000) Total cost per hour (Rs. 19,88,ooo/ 1,40,000) Cost per unit of A = (20,000 x Rs. 14.20)/5000

1,40,000

= Rs. 14.20 = Rs. 56.80

Cost per unit of B = (1,20,000 x Rs. 14.20)/ = Rs. 28.40 60,000

Cost per unit of product Particulars Volume related costs Set-up Costs Purchase related Costs Cost Driver Machine hours Number of set ups Number of Purchase Orders Total Costs Cost per unit A Rs. 78, 572 2,56,250 1,81,765 Rs. 5,16,587 Rs. 103.32 B Rs. 4,71,432 5,63,750 4,36,235 14,71,417 Rs. 24.52