Problem:
Reliable Machining Products (RMP) is an automotive component supplier. RMP has been approached by Toyota with a proposal to significantly increase production of Part T151A to a total quantity of 100,000. Toyota believes that by increasing the volume of production of Part T151A, RMP should realize the benefits of economics of scale and hence should accept a lower price than the current $7.50 per unit.
Part T151A seems to be a marginal profit because the 20% gross margin must cover the costs of other value-chain functions such as design, distribution, customer service, and corporate support. If additional production volume of Part T151A is to be added, RMP management believes that the sales price must be increased, not reduced as requested by Toyota. The management of RMP see this quoting situation as an excellent opportunity to examine the effeciveness of their traditional costing system versus an activity based costing system. RMP decided to implement a two stage ABC system. A team consisting of accounting and engineering analysts has developed a process-based map. Data has been collected and added to the map. For example, the total annual cost for the quality assurance activity is estimated to be $800,000 and the total quantity of the cost diver “number of pieces scrapped” is estimated to be 10,000. Thus, the cost per piece scraped is $80. Activity-consumption rates have also been entered on the map. The consumption rate for the production activity is 0.005 machine hours per unit of T151A produced. Thus, the expected total number of machine hours required to produce 100,000 units of T151A is 500.
1) Prepare a schedule calculating the unit cost and gross margin percentage of Part T151A Use the following format to structure your solution:
Cost per Cost Driver
Driver Consumption, Total Cost,
Cost/Activity: Cost Drivers Unit Part T151A* Part T151A
Quality: Pieces scrapped $80 1,000 $80,000
2) Based on the ABC results, what course of action would you recommend regarding the proposal by Toyota? List the benefits and costs associated with implementing an activity based costing system at RMP.