COST ACCOUNTING

Suggested Answers on Selected Problems

5-32 Product-line Profitability, ABC (25 min)

1. Product-line profitability under the current costing system
Frozen Foods Baked Goods Fresh Produce
Sales $120,000 $91,000 $158,175
Cost of goods sold 105,000 67,000 110,000
Gross margin $ 15,000 $24,000 $ 48,175
Store support (20% of Sales) 24,000 18,200 31,635
Operating income ($ 9,000) $ 5,800 $ 16,540
Operating margin (OI/S) -7.50% 6.37% 10.46%

2. Product-line profitability under ABC (final results

are rounded to the nearest dollar)

Frozen Foods Baked Goods Fresh Produce

Sales $120,000 $91,000 $158,175

Cost of 105,000 67,000 110,000
goods sold
Gross $ 15,000 $24,000 $ 48,175
margin
Store
support:
Order
processing 800 $3,600 $8,000
Receiving 1,320 6,050 13,200
Shelf- 366 419 7,320
stocking
Customer 6,300 8,400 18,060
support
Total store 8,786 18,469 46,580
support
Operating $ 6,214 $ 5,531 $ 1,595
income
Operating 5.18% 6.08% 1.01%
margin
(OI/S)
Sample computations for first column: Order processing $10×80 = 800; receiving
12 × 110 = 1320; shelf-stocking 2×12×$15.25 = 366

3. We see that baked goods had only a small change in profitability when
ABC is used. We also see a significant decrease in profitability of fresh produce.
The profitability of fresh produce decreases from 10.46% of the sales revenues
under the current system, the highest of the three products, to 1.01% under ABC,
the lowest of the three. This is because fresh produce requires more support
activities than the other two products.

5-32 (continued)

4. The rates come from dividing the total dollar amount in a cost pool by the
activity driver quantity for each cost pool. The issue that management faces
is deciding whether to use the expected consumption quantity of the activity
driver or the practical capacity level of the activity driver, regardless of
consumption. It is not clear from the information provided whether
management used the expected consumption rates or practical capacity
levels. Consider the activity called order processing; the driver consumption
was 10 + 45 + 100 = 155 purchase orders. When computing the driver rate
of $80/purchase order the controller may have used one of the two following
formulas:

Cost of order processing / 155

Or
Cost of order processing / practical capacity

Since practical capacity will be greater than or equal to expected

consumption, the driver rate would be lowest when using practical capacity.
In addition, the rates would vary as expected consumption changed, but
practical capacity is likely to remain stable, making the driver rates more
stable. Keep in mind that the value of the driver rates does not impact the
quantity of each driver used by each cost object. This means that if
practical capacity had not been used, using practical capacity would yield
lower driver rates and increase the profitability of each product line. From
the given information, we do not know by how much.

5-36 Customer Profitability Analysis (25 min)

1. Determination of the $100.50 order-filling cost per unit

Total number of orders: (2 × 100 PCs) + (10 × 4,000 SCs) =
40,200
Total number of orders 40,200
Number of orders per block  60
Total number of blocks 670
Cost per block × $60,000
Total cost of order blocks $ 40,200,000
Total number of orders 40,200
Per order order-filling cost × $1,500
Total cost of per order filling + 60,300,000
Total order-filling cost $100,500,000
Total units sold (100×5,000 ) +
(4,000×125)  1,000,000
Order-filling cost per unit $100.50

2. What would be the amount of loss (profit) per unit if Garner sells to Cheap at
$700 per unit?

Total number of orders placed Orders for a combined total of

by a PC per year 2 5,000 units
Number of orders per block  60
Total number of blocks 1/30
Cost per block × $60,000
Total block cost $2,000
Total number of orders 2
Order-filling cost per order × $1,500
Total cost per order + 3,000
Total order-filling cost $5,000
Total units sold  5,000
Order-filling cost per unit $1.00
5-36 (continued)

Net profit per unit at $700 selling price per unit:

Selling price per unit $700

Manufacturing cost $600
Order-filling cost/unit $1
Total cost per unit $601
Net Profit per unit $99

Profit margin % 14.14%

1. What is the amount of loss (profit) per unit at the $800 selling price per
unit for units sold to SC?

Order-Filling Cost/unit:
Cost per block $60,000
Number of orders per block 60
Block cost per order $1,000
Number of orders per SC per year 10
Total block cost per SC $10,000
Order-filling cost per order $1,500
Number of orders per SC 10
Total cost per order $15,000
Total order-filling cost $25,000
Order size (no. of units) 125
Order-filling cost/unit $200
Profitability per unit at $800 selling price per unit to SC:
Selling price per unit $800
Manufacturing cost $600
Order-filling cost/unit $200
Total cost per unit $800
Net profit or loss per unit $0

Profit margin % 0.00%

5-38 Activity-Based Costing, Value Chain Analysis (25 min)

1. Manufacturing cost (total, and per unit):

Prime manufacturing cost (80 ×$1,300) = $104,000
Manufacturing overhead:
Materials handling (80 × 100 × $0.60) = $4,800
Machining (80 × 3 × $51.00) = $12,240
Assembly (80 × 100 × $2.85) = $22,800
Inspection (80 × $30.00) = $2,400
Total Manufacturing Cost = $146,240
Number of units = / 80
Manufacturing cost per unit = $1,828.00

2. Computation of full cost:

Upstream activity costs = $180.00 7.80%
Manufacturing costs = $1,828.00 79.20%
Downstream activity costs = $300.00 13.00%
Full Product Cost per Unit = $2,308.00 100.00%

Strategic implications:

(1) Knowing the full cost of a product including upstream and downstream
costs allows the firm to be aware of all costs attributable to the product.
(2) The amounts and proportions of upstream, manufacturing, and
downstream costs facilitate comparisons with competitors.
(3) The relatively high proportion of manufacturing costs suggests that the
company could solidify a low-cost position by performing a value-
added analysis to identify and eliminate any non-value-added costs.
(4) If the company planned to pursue a differentiation strategy in both the
new product design and the customer service, then the spending on
manufacturing may be disproportionately high. The company might
consider ways of spending less cost in the manufacturing activity, and
more on upstream and downstream activities.
5-38 (continued)

3. The total value chain cost provides the firm a long-term perspective of the
product cost, in addition to the short term manufacturing cost. Different
industries have different cost structures. For example, firms in the
information technology industries are likely to have high upstream costs
while firms in the retailing industry tend to have high downstream costs.
There is no single accepted target for the relative size of the cost of value
creating activities. The value in knowing the cost of different value-crating
activities comes from the ability to make informed decisions as to whether
or not the company is overspending on those activities relative to the
value they create.

6-35 FIFO Method

1. Number of Equivalent units (returns):

Returns completed during March 1,500 =100+1,600-200
Returns in process, 3/31: 200 × 90% = 180
- Returns in process, 3/1: 100 × 30% = (30)
FIFO equivalent units 1,650

2. Cost per equivalent unit $173,250 / 1,650 = $105

3. Cost of completed returns

From beginning inventory, 3/1: $2,500
Added to finish the beginning inventory:
$105 × 100 × (70%) = 7,350
Total $ 9,850
Started and finished:
$105 × (1,500 - 100) = 147,000
Total cost of completed returns $156,850

4. Cost of returns in process on March 31

$105 × (200 × 90%) = $18,900

6-36 Weighted-Average Method

1.
Direct Materials Conversion
Equivalent units 30,000 28,000
Cost per Equiv. Unit $6.25 $5.85

2. $314,600
3. $ 36,700
Answers are shown in the process cost report below.

Production Quantity Information Equivalent Units

Physical Completion Direct
Units Percentage Materials Conversion
Input
Beg. WIP Inventory: 0
Direct materials 0%
Conversion cost 0%
Units started during March 30,000
Units to account for 30,000

Output
Units completed 26,000 100% 26,000 26,000
Ending WIP Inventory: 4,000
Direct materials 100% 4,000 N/A
Conversion cost 50% N/A 2,000
Units accounted for 30,000 ________ _______

Equivalent units produced N/A 30,000 28,000

Unit Cost Determination

Direct Materials Conversion Total

Total manufacturing cost (numerator of calculation):
Beginning WIP Inventory $ - $ -
Manufacturing costs added in current month $ 187,500 $ 163,800
Total cost $ 187,500 $ 163,800
Divide by number of equivalent units produced 30,000 28,000
Cost per equivalent unit $ 6.2500 $ 5.8500 $ 12.1000

Cost Assignment
Units Completed Units in Ending
and Transferred WIP
Cost assignment Out Inventory Total
Goods completed and transferred out (26,000 x $12.10) $ 314,600 N/A $ 314,600
Units in Ending WIP Inventory:
Direct materials component (4,000 x $6.25) $ 25,000 $ 25,000
Conversion costs (2,000 x $5.85) $ - $ 11,700 $ 11,700
Total manufacturing costs accounted for $ 314,600 $ 36,700 $ 351,300

Beginning WIP Inventory $0

Manufacturing Costs Added during the month $351,300
Total manufacturing costs accounted for $351,300
6-51 FIFO Method with Rising Prices

Production Information
WA Equiv Units FIFO Equiv Units
Completion Direct Direct
Input Physical Units Percentage Materials Conversion Materials Conversion
Beginning WIP 14,000 100%
Direct Materials 100% (14,000)
Conversion 25% (3,500)
Units started or trans-in 33,000 100%
Total to account for 47,000

Output
Units finish or trans-out 34,000 100% 34,000 34,000 34,000 34,000
Normal spoilage 1,000 100% 1,000 1,000 1,000 1,000
Ending WIP 12,000
Direct Materials 100% 12,000 12,000
Conversion 40% 4,800 4,800
Total accounted for 47,000
Equivalent units 47,000 39,800 33,000 36,300

Unit Cost Determination

Direct Materials Conversion Total

Beginning WIP $ 3,325 $ 3,380 $ 6,705
Current Costs 66,000 104,000 170,000 66,000 104,000
Total $ 69,325 $ 107,380 $ 176,705 $ 99,000 $ 140,300
Divide by equivalent units 47,000 39,800 33,000 36,300
WTAVG Cost per EU $ 1.4750 $ 2.6980 $ 4.1730

FIFO Cost per EU $ 4.8650 $ 2.0000 $ 2.8650

Cost Assignment: Weighted-Average Completed

and Trans- Ending WIP Total
Finished goods 34,000 units $ 141,882 $ 141,882
plus: normal spoilage 1,000 units $ 4,173 $ 4,173
Total $ -
Ending WIP 12,000 units $ -
Direct Materials 12,000 units 17,700 $ 17,700
Conversion 4,800 units 12,950 $ 12,950
Total Costs Accounted For $ 146,055 30,650 $ 176,705

Cost Assignment: FIFO

Prior period costs in beginning WIP 6,705
Current costs to complete beg WIP
Direct Materials
Conversion 10,500 units 30,083
Units started and finished 20,000 units 97,300
Normal spoilage 1,000 units $ 4,865
Total $ 138,953

Ending WIP 12,000 units

Direct Materials $ 24,000 24,000
Conversion 13,752 13,752
Total cost accounted for $ 138,953 $ 37,752 $ 176,705
6-51 (continued -1)

The CFO is on the right track to consider FIFO costing. With prices rising rapidly,
FIFO provides a way to separate the current and prior period costs, so that the
price increases can be examined and charged properly to each period’s
production. Note that in this case there is a sizeable amount of beginning and
ending Work-in-Process Inventory, which makes the issue of separating prior
period and current period costs more significant. Note from the calculations in
requirements 1 and 2 that the cost per equivalent unit for direct materials
increases from $1.475 to $2.00 when using FIFO rather than weighted-average,
due to the rapid increase in direct materials prices. This leads to a difference of
$7,102 in finished goods inventory for sale and cost of ending Work-in-Process
Inventory. The FIFO method shows a smaller amount for finished goods (and
thus also for cost of goods sold) because, under FIFO, all of the (relatively small)
prior period costs are traced to finished goods. Note that the FIFO method has a
higher WIP balance.

For a company like HSC that competes on quality and brand loyalty, it is likely
that the company will be able to pass along at least a good portion of these
increased costs. The FIFO method provides HSC a good tool to watch the cost
changes as they affect the company’s inventory and cost of goods sold from
month to month, and in this way, provide a solid basis for determining the price
increases that will ultimately be necessary.