Description
(I need help with report preparation. Please note that question#1,2,and3 are already completed by us)The Rubrics Corporation made four products: widgets, gadgets, smidgets, and smadgets. Exhibit 1 summarizes the direct labor, overhead, and direct material costs associated with these products. Rubrics’ CFO was considering implementing an activity-based costing system as a means of improving product pricing. Exhibit 2 presents the cost allocation bases for the three main overhead cost drivers (depreciation, set-up, and rent). Exhibit 3 shows the product resource requirements by cost driver. Notice, for example, that the set-up requirement for widgets is 200 hours. Among other things, the CFO wanted to compare the overhead estimates per product based on the traditional costing and ABC methods. In addition, the CFO wanted to understand, computer or calculate the following:1.Using the traditional costing method, compute the overhead costs per product.2.Using the traditional costing method, compute the total costs per product.3.ABC4.Assuming ABC allocated overhead more accurately, which products were incorrectly priced using the traditional costing method? What difficulties might result from incorrectly budgeted products? Hint: Think about how capital resources should be allocated to the most efficient opportunities.5.What actions might be explored to deal with the mispriced products?6.Compare assigned costs per product under both methods. Why had activity-based costing changed the total costs assigned to each product?7.What were two circumstances where traditional and ABC costing would likely yield similar or equal overhead costs?
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ACTIVITY-BASED COSTING AND MANAGEMENT
Owen P. Hall, Charles McPeak and Samuel Seaman wrote this case solely to provide material for class discussion. The authors do
not intend to illustrate either effective or ineffective handling of a managerial situation. The authors may have disguised certain
names and other identifying information to protect confidentiality.
Richard Ivey School of Business Foundation prohibits any form of reproduction, storage or transmission without its written
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of Western Ontario, London, Ontario, Canada, N6A 3K7; phone (519) 661-3208; fax (519) 661-3882; e-mail [email protected].
Copyright © 2010, Richard Ivey School of Business Foundation
Version: (A) 2010-09-10
CASE OVERVIEW
The CFO at the Rubrics Corporation, a midsize hardware manufacturing firm, had become aware of the
ongoing imbalance between the product’s budgeted and actual costs. The Rubrics Corporation normally
allocated overhead to products using a single direct cost driver, usually direct labor hours or direct labor
dollars. This practice sometimes led to inaccuracies, since indirect costs were not incurred equally across
products. For example, Rubrics’ CFO had forecasted $10,000,000 in direct labor costs and $15,000,000 in
overhead for a particular project last year, resulting in an overhead rate of 150 per cent. For each dollar of
direct labor charged, $1.50 of overhead had been allocated. The shortcoming of this costing method was
that overhead costs failed to reflect varying manufacturing intensity between products.
Often referred to as smoothing, traditional costing allocates overhead costs evenly per direct labor hours or
dollars. Unfortunately, direct costing can result in a discrepancy between the budgeted overhead and the
actual overhead used. Often, certain products require more maintenance or floor space. Traditional
costing allocates overhead based on direct expenses without compensating for a product’s greater or lesser
use of overhead costs.
Activity-based costing (ABC) was first introduced in the United States during the 1970s. Since then, ABC
had enjoyed wide acceptance as a more accurate alternative to traditional costing, especially in
manufacturing. Instead of budgeting overhead using direct cost drivers, ABC splits overhead into activity
cost drivers, leading to a more tangible assignment of costs.
Calculating ABC is more complicated than calculating traditional costing. Once management identifies
the activity cost drivers, overhead rates are assigned per cost driver. The rates are estimated by dividing
budgeted costs per driver by the anticipated resource requirements for each cost driver. For instance, rent
could be allocated based on the square footage occupied by inventory in producing a given product or
service. Say X Company estimates next year’s rental costs to be $30,000 for its 15,000-square-foot
factory. X Company can calculate the rental overhead rate by dividing $30,000 by 15,000 to get 2. After
calculating the overhead rates for each activity driver (rent, depreciation, maintenance, etc), the rates are
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The objective of ABC is to align actual consumption with specific product/service costs. The ABC
approach is normally associated with multiple products or services using shared and often common indirect
resources. A benefit of ABC is that products requiring higher concentrations of overhead costs are
revealed, allowing management to focus attention on opportunities for reducing those costs or to price
more appropriately.
Activity-based costing allocates overhead to a product based on the actual amount of overhead used by that
product. Whenever common resources are expended in different ways across products, a weighting
mechanism is required for accurate allocation. ABC can be equally valuable in service industries.
Financial institutions have diverse products and customers, resulting in cross-product, cross-customer
subsidies. Often, personnel expenses represent the largest single component of non-interest expense in
financial institutions. Accordingly, these costs must also be attributed more accurately to products and
customers via activity-based accounting.
The ABC methodology is an involved process with many steps, including: identifying direct product costs,
identifying cost activities, selecting cost-allocation basis (CAB), identifying indirect costs per CAB,
computing overhead rate per cost activity, calculating overhead costs based upon each product’s use of the
various cost activities, and then adding direct expenses and indirect expenses to yield total product costs.
Despite the complexity, the benefits of ABC can be significant: management can distinguish profitable
from unprofitable products, cost controls can be established to eliminate unnecessary costs, and products
can be better priced. However, prior to implementing ABC, management should consider whether the cost
savings from more accurate budgeting are greater than the research costs of identifying overhead cost
drivers and each product’s individual resource requirements.
RUBRICS’ SITUATION
The Rubrics Corporation made four products: widgets, gadgets, smidgets, and smadgets. Exhibit 1
summarizes the direct labor, overhead, and direct material costs associated with these products.
Rubrics’ CFO was considering implementing an activity-based costing system as a means of improving
product pricing. Exhibit 2 presents the cost allocation bases for the three main overhead cost drivers
(depreciation, set-up, and rent). Exhibit 3 shows the product resource requirements by cost driver. Notice,
for example, that the set-up requirement for widgets is 200 hours.
Among other things, the CFO wanted to compare the overhead estimates per product based on the
traditional costing and ABC methods. In addition, the CFO wanted to understand, computer or calculate
the following:
1. Using the traditional costing method, compute the overhead costs per product.
2. Using the traditional costing method, compute the total costs per product.
3. Under ABC:
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Use outside these parameters is a copyright violation.
applied to the individual requirements of each product. Continuing the previous example, suppose X
Company manufactures two products, Y and Z, requiring 10,000 and 5,000 square feet of factory space,
respectively. X Company can calculate each product’s individual use of factory rent by multiplying 10,000
and 5,000 by 2, resulting in $20,000 for Y and $10,000 for Z.
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4. Assuming ABC allocated overhead more accurately, which products were incorrectly priced using the
traditional costing method? What difficulties might result from incorrectly budgeted products? Hint:
Think about how capital resources should be allocated to the most efficient opportunities.
5. What actions might be explored to deal with the mispriced products?
6. Compare assigned costs per product under both methods. Why had activity-based costing changed the
total costs assigned to each product?
7. What were two circumstances where traditional and ABC costing would likely yield similar or equal
overhead costs?
Authorized for use only in the course Applied Financial Analysis at Sheridan College taught by Idalin McKenzie from 9/5/2023 to 12/23/2023.
Use outside these parameters is a copyright violation.
a. Calculate the activity-based overhead rates per activity cost driver.
b. For each product, compute the overhead costs per activity cost driver.
c. Using the overhead costs from b., calculate the total costs per product.
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Exhibit 1
Total direct labor
Total overhead
Overhead rate
Widgets direct labor
Gadgets direct labor
Smidgets direct labor
Smadgets direct labor
Widgets direct material
Gadgets direct material
Smidgets direct material
Smadgets direct material
Units built
$1,000,000
$2,000,000
200% of direct labor
$100,000
$300,000
$400,000
$200,000
$100,000
$200,000
$150,000
$250,000
1,000 of each product
Exhibit 2
OVERHEAD COST DRIVERS
Cost allocation bases
Depreciation
Set-up
Rent
Total costs
$300,000
$700,000
$1,000,000
Quantity of CAB
3,000 machine hours
1,000 set-up hours
100,000 square feet
Exhibit 3
PRODUCT RESOURCE REQUIREMENTS BY COST DRIVER
Widgets
500 machine hours
200 set-up hours
20,000 square feet
Gadgets
900 machine hours
300 set-up hours
30,000 square feet
Smidgets
400 machine hours
100 set-up hours
10,000 square feet
Smadgets
1,200 machine hours
400 set-up hours
40,000 square feet
Authorized for use only in the course Applied Financial Analysis at Sheridan College taught by Idalin McKenzie from 9/5/2023 to 12/23/2023.
Use outside these parameters is a copyright violation.
DIRECT LABOR, OVERHEAD, AND DIRECT MATERIALS COSTS
Case Analysis: The Concepts of Activity Based Costing
Case Study 1 Report
Prepared By: Group 6
Individual Name, ID
Individual Name, ID
Rupet Bala Swamy Araphuda Raj, 991760991
Individual Name, ID
Individual Name, ID
Submitted To:
Submission Date: 03-15-2024
Executive Summary
Prepare an executive summary for your report. Don’t forget that your executive summary has
to summarize the key issues and your recommendations. It should not be more than half a
page for this small case.
Table of Contents
You are encouraged to use Word Table of Contents Functions in creating your table of contents.
Introduction:
Here you should briefly describe the firm, purpose of analysis and scope of the report. (This is
why your report was written and what the reader will find inside report)
Qualitative Analysis
Here you will discuss the benefits and other qualitative points that support the company’s
move from traditional costing basis to ABC costing method. Discuss the complications that may
arise due to this transition.
Quantitative Analysis
Here you will analyze the case quantitatively. The following major questions will be covered
quantitatively. (Use Appendices or numbered Tables to include any Excel Based Analysis)
1. OVER HEAD COST PER PRODUCT UNDER TRADITIONAL COSTING METHOD
Widgets
Gadgets
$ 100,000 $ 300,000
$ 100,000 $ 200,000
200% of Direct Labour Cost
$ 200,000 $ 600,000
1,000.00
1,000.00
$
$
200
600
Direct Labour Cost
Direct Material Cost
Overhead Rate
Allocated Overhead Cost
Number of Units
Overhead Cost per Product
$
$
Smidgets
400,000
150,000
Smadgets
$ 200,000
$ 250,000
800,000
1,000.00
$ 400,000
1,000.00
$
$
800
$
400
2. TOTAL COST PER PRODUCT UNDER TRADITIONAL COSTING METHOD
Widgets
$ 100,000
$ 100,000
$ 200,000
$ 400,000
Direct Labour Cost
Direct Material Cost
Allocated Overhead Cost
Total Product Cost
1,000.00
Number of Units
Total Cost per Product
$
400.00
Gadgets
$ 300,000
$ 200,000
$ 600,000
$ 1,100,000
Smidgets
$ 400,000
$ 150,000
$ 800,000
$ 1,350,000
1,000.00
$ 1,100.00
1,000.00
$ 1,350.00
Smadgets
$ 200,000
$ 250,000
$ 400,000
$ 850,000
1,000.00
$
850.00
3. ACTIVITY BASED COSTING
Overhead Cost Drivers
Cost Allocation Basis
Depreciation
Set up
Total Costs
$ 300,000
$ 700,000
Quantity of CAB
3000
1000
Rent
$ 1,000,000
100000
ABC Rate
$ 100
$ 700
$
10
Units
Per Hour Rate
Per Hour Rate
Square Feet
Rate
Overhead Cost & Cost Per Product
Depreciation
Widgets
$
50,000
Gadgets
$
90,000
Set up
$
140,000
$
210,000
Rent
$
200,000
$ 100,000
Total Overhead Cost
$
390,000
$
300,000
$
600,000
Direct Labor
Direct Material
$
$
100,000
100,000
$
$
$ 400,000
$ 150,000
300,000
200,000
Smidgets
$
40,000
$
70,000
$ 210,000
Smadgets
$
120,000
$
280,000
$
400,000
$
800,000
$
200,000
$
250,000
Product Cost
Number of Units
Total Cost per Product
$
$
590
$
590,000 1,100,000
1000
1000
$
1,100
$ 760,000 $
1,250,000
1000
1000
$
$
760
1,250
Recommendation
Please make a recommendation regarding the ABC system vs traditional costing.
Ensure that your recommendation is consistent with your analysis.
Conclusion
Provide Closure to the report by summarizing what the report has accomplished and
reinforce your recommendation.
Please note that large tables and calculations should be shown in the appendix section. Give
all your assumptions with clear statements. Make good use of footnotes and bibliography to
reference your sources and ensure clarity when calculated numbers are utilized.
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