(Activity analysis, ABC; pricing; cost drivers) Moriarity Manufacturing produces two product models: Regular and Special. The following information was taken from the accounting records for the first quarter of 2010:
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Regular
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Special
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Total
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Units produced
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80,000
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20,000
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100,000
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Material cost
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$320,000
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$180,000
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$500,000
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Labor cost
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$480,000
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$140,000
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$620,000
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Moriarity currently uses a traditional cost accounting system where total overhead cost is assigned to products based on the total number of units produced. Company president Michael Moriarity has approached the controller, Betsy O’Connell, with concerns about sagging profit margins and his inability to explain competitors’ pricing of similar products. O’Connell suggests that the company explore the possibility of a costing sys tem that is based less on volume and more on identifying the consumption of resources by products (given manufacturing process activities). O’Connell identifies the following overhead costs related to the production process:
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Wages and costs related to machine setups
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$ 360,000
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Material handling costs
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480,000
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Quality control costs
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120,000
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Other overhead costs related to units produced
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240,000
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Total
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$1,200,000
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During the quarter, there were 40 machine setups for production: 20 from Special to Regular and 20 from Regular to Special. O’Connell believes that the number of set ups is the most appropriate cost driver of machine setup costs. With regard to material handling, the Special model uses more expensive and difficult to handle materials. O’Connell believes that material cost is the primary indicator of material handling costs. Each unit is hand inspected by quality control personnel. Special units require a more time consuming inspection because they are more complex and have more parts than Regular units. Quality control inspectors are paid $40 per hour; examination of payroll time sheets indicates that the inspectors spent 50 percent more hours inspecting Special units than Regular units. O’Connell believes that the remaining 30 percent of overhead costs are related to the number of units produced.
a. Using a traditional, volume based overhead rate, determine the overhead cost per unit of the Regular and Special units.
b. Using the information provided by O’Connell, determine the overhead cost per unit of the Regular and Special Units using an activity based costing system.
c. What is the total per unit cost of the Regular and Special Units under each over head costing system?
d. Compute the amount of product cross subsidization per unit that was taking place under the traditional costing system.
e. Identify potential non value added activities in Moriarity’s current manufacturing system.
f. What suggestions would you have for Michael Moriarity to improve the competitiveness of the company’s products in the marketplace?
