Chapter 5, Problem 44P

1.

To determine

Compute the activity based costs that must be assigned to each branch of Incorporation M.

Explanation of Solution

Activity Based Costing:

Activity based costing is a method of costing adopted by a company. Under this method, the activities in production are identified and the cost of each activity is assigned to all their products and services. An activity based costing can be used to recognize the resources spent by the company on activities that are performed in manufacturing the product or providing a service.

Compute the relative use of the cost driver by each office of Incorporation M:

Timesheet entries	City CO	City CI	City D	Total
Direct labor cost	37.61%	31.19%	31.20%	100.00%
Timesheet entries	45.11%	28.57%	26.32%	100.00%
Vendor Invoices	44.93%	37.44%	17.62%	100.00%
Client invoices	52.13%	39.36%	8.51%	100.00%
Employees	34.33%	38.81%	26.87%	100.00%
New hires	42.11%	21.05%	36.84%	100.00%
Insurance claims filed	34.33%	38.81%	26.87%	100.00%
Proposals	39.22%	49.02%	11.76%	100.00%
Contracted sales	48.07%	36.88%	15.05%	100.00%
Projects shipped	39.13%	49.01%	11.86%	100.00%
Purchase orders	41.54%	33.85%	24.62%	100.00%
Copies duplicated	43.48%	39.13%	17.39%	100.00%
Blueprints	45.24%	36.19%	18.56%	100.00%

Table (1)

Compute the activity based costs that must be assigned to each branch of Incorporation M.

Activity-based Overhead Allocation
(in thousands)
	Cost Driver	City CO	City CI	City D	Total
General administration	Direct labor cost	$153.82	$127.56	$127.60	$409
Project costing	Timesheet entries	$21.65	$13.71	$12.63	$48
Accounts payable/receiving	Vendor Invoices	$62.46	$52.05	$24.49	$139
Accounts receivable	Client invoices	$24.50	$18.50	$4.00	$47
Payroll/Mail sort and delivery	Employees	$10.30	$11.64	$8.06	$30
Personnel recruiting	New hires	$16.00	$8.00	$14.00	$38
Employee insurance processing	Insurance claims filed	$4.81	$5.43	$3.76	$14
Proposals	Proposals	$54.51	$68.14	$16.35	$139
Sales meetings/Sales aids	Contracted sales	$97.10	$74.49	$30.40	$202
Shipping	Projects shipped	$9.39	$11.76	$2.85	$24
Ordering	Purchase orders	$19.94	$16.25	$11.82	$48
Duplicating costs	Copies duplicated	$20.00	$18.00	$8.00	$46
Blueprinting	Blueprints	$34.84	$27.87	$14.29	$77
Total		$529.32	$453.40	$278.25	$1,261

Table (2)

Table (3)

2.

To determine

Compute the contribution margin of each branch of Incorporation M.

Explanation of Solution

Compute the contribution margin of each branch of Incorporation M.

Contribution of Each Branch
(in thousands)
	City CO	City CI	City D	Total
Sales	$1,500	$1,419	$1,067	$3,986
Less: Direct labor	$382	$317	$317	$1,016
Direct materials	$281	$421	$185	$887
Direct overhead	$180	$270	$177	$627
Contribution margin	$657	$411	$388	$1,456

Table (4)

3.

To determine

Compute the profitability of each branch of Incorporation M.

Explanation of Solution

Compute the profitability of each branch of Incorporation M.

	City CO	City CI	City D	Total
Sales	$1,500	$1,419	$1,067	$3,986
Less: Direct labor	$382	$317	$317	$1,016
Direct materials	$281	$421	$185	$887
Direct overhead	$180	$270	$177	$627
Contribution margin	$657	$411	$388	$1,456
Activity-based overhead	$529	$453	$278	$0
Operating income	$128	($42)	$110	$1,456

Table (5)

4.

To determine

Provide information on the concern of the management regarding the volume based cost techniques that are currently being used.

Explanation of Solution

The overhead cost are normally aggregated in pools and are allocated to products and other cost objects depending on their volume measures. Therefore, the cost object proportionately shares those costs required for production. The product cost will be determined incorrectly if the overhead costs differ in accordance with variables rather than volume.

From the computed results, the profitability of Cincinnati and Dayton office is employing different direct tracing and activity based costing under their current approach. The prevailing marketing strategy promotes an inaccurate location and strategic planning that may be subject to assumptions associated with profitability.

The results also points to the fact that activity based costs are applicable to service organizations as well as manufacturing organizations. Therefore, the better the information on profitability of cost object, better the chances of keeping the organization profitable.

The process of identifying activities and allocating the costs from the general ledger to the activities is a time consuming and a costly process. This is due to the fact that extensive interviews with functional mangers are normally required for this phase.