MA9 Problem: Activity Based Costing – Alaire Corporation

MA9 Problem: Activity Based Costing – Alaire Corporation

Alaire Corporation manufactures several different types of printed circuit boards; however, two of the boards account for the majority of the company's sales. The first of these boards, a television circuit board, has been a standard in the industry for several years. The market for this type of board iscompetitive and, therefore, price sensitive. Alaire plans to sell 65,000 of the TV boards in 20x0 at a priceof $150 per unit. The second high-volume product, a personal computer (PC) circuit board, is a recentaddition to Alaire's product line. Because the PC board incorporates the latest technology, it can be sold ata premium price; the 20x0 plans include the sale of 40,000 PC boards at $300 per unit.Alaire's management group is meeting to discuss strategies for 20x0, and the current topic of conversationis how to spend the sales and promotion dollars for next year. The sales manager believes that the marketshare for the TV board could be expanded by concentrating Alaire's promotional efforts in this area. Inresponse to this suggestion, the production manager said, "Why don't you go after a bigger market for thePC board? The cost sheets that I get show that the contribution from the PC board is more than double thecontribution from the TV board. I know we get a premium price for the PC board; selling it should helpoverall profitability."Alaire uses a standard cost system, and the following data apply to the TV and PC boards.TV BoardPC BoardDirect material $80$140Direct labor 1.5 hours4 hoursMachine time .5 hours1.5 hoursVariable factory overhead is applied on the basis of direct labor hours. For 20x0, variable factoryoverhead is budgeted at $1,120,000, and direct labor hours are estimated at 280,000. The hourly rates for machine time and direct labor are $10 and $14, respectively. Alaire applies a material handling charge at10 percent of material cost; this material handling charge is not included in variable factory overhead.Total 20x0 expenditures for material are budgeted at $10,600,000.Ed Welch, Alaire's controller, believes that before the management group proceeds with the discussionabout allocating sales and promotional dollars to individual products, it might be worthwhile to look atthese products on the basis of the activities involved in their production. As Welch explained to the group,"Activity-based costing integrates the cost of all activities, known as cost drivers, into individual productcosts rather than including these costs in overhead pools." Welch has prepared the schedule shown belowto help the management group understand this concept.



CMA Ontario

P-21

Budgeted Cost Cost DriverAnnual Activity forCost Driver

Material overhead:Procurement $ 400,000Number of parts 4,000,000 partsProduction scheduling 220,000Number of boards 110,000 boardsPackaging and shipping 440,000Number of boards 110,000 boards$1,060,000Variable overhead:Machine set-up $ 446,000Number of set-ups 278,750 set-upsHazardous waste disposal 48,000Pounds of waste 16,000 poundsQuality control 560,000Number of inspections 160,000 inspectionsGeneral supplies 66,000Number of boards 110,000 boards$1,120,000Manufacturing:Machine insertion $1,200,000Number of parts 3,000,000 partsManual insertion 4,000,000Number of parts 1,000,000 partsWave soldering 132,000Number of boards 110,000 boards$5,332,000Required per unitTV BoardPC Board Parts 2555Machine insertions 2435Manual insertions 120Machine set-ups 23Hazardous waste .02 lb..35 lb.Inspections 12 "Using this information," Welch explained, "we can calculate an activity-based cost for each TV boardand each PC board and then compare it to the standard cost we have been using. The only cost thatremains the same for both cost methods is the cost of direct material. The cost drivers will replace thedirect labor, machine time, and overhead costs in the standard cost."

 Required -

a. Identify at least four general advantages that are associated with activity-based costing. b. On the basis of standard costs, calculate the total gross profit expected in 20x0 for AlaireCorporation's1. TV board.2. PC board.c. On the basis of activity-based costs, calculate the total gross profit expected in 20x0 for AlaireCorporation's1. TV board.2. PC board.d. Explain how the comparison of the results of the two costing methods may impact the decisions made by Alaire Corporation's management group