Question

Alex, Inc. produces two different products, Product A and Product B. Alex uses a plant-wide volume-based costing system in which machine hours are the activity base (cost driver). Alex is considering switching to an ABC system by splitting its manufacturing overhead cost of $1,000,000 across three activities:
Design, Production, and Inspection. Under the plant-wide volume-based costing system, the predetermined overhead rate is $2.50/machine hour. Under the ABC system, the rate for each activity and usage of the activity drivers are as follows:

Activity Design Machining Inspection Activity Rate $600/design hour $1.25/machine hour $500/batch Actual Activity Usage Product A Product B 200 300 100,000 300,000 100 300

Which product is under-costed and which is over-costed under the plant- wide volume-based cost system compared to ABC?

a. Both Product A and Product B are under-costed

b. Both Product A and Product B are over-costed

c. Product A is over-costed and Product B is under-costed.

d. Product A is under-costed and Product B is over-costed.

Answer 1

Answer:

d. Product A is under-costed and Product B is over-costed.

Explanation:

Alex, Inc.

Given Data

Activity               Activity Rate                   Actual Activity Usage

                                                              Product A         Product B

Design           $600/design hour            200                   300

Machining      $1.25/machine hour       100,000             300,000

Inspection           $500/batch                100                       300

Calculated

Activity Based Overheads

Activity               Activity Rate                   Actual Activity Cost

                                                              Product A         Product B

Design           $600/design hour            120,000             180,000

Machining      $1.25/machine hour       125,000             375,000

Inspection           $500/batch                50,000                 150,000

Total                                                      295,000               705,000

Now Plant-wide Overhead Calculations

Product A = $2.50*  100,000  = $ 250,000

Product B = $2.50*  300,000  = $ 750,000

Comparing Both results                Product A           Product B

Plant wide OH                               $ 250,000          $ 750,000

ABC OH                                          295,000               705,000

Observation                                    underscosted        overcosted