HCI Pharmaceuticals manufactures an over-the-counter allergy medication called Breathe. HCI is trying to win market share from Sudafed and Tylenol. HCI has developed several different Breathe products tailored to specific markets. For example, the company sells large commercial containers of 1,000 capsules to health-care facilities and travel packs of 20 capsules to shops in airports, train stations, and hotels.
HCI's controller Sandra Dean has just returned from a conference on activity-based costing. She asks Keith Yeung, foreman of the Breathe product line, to help her develop an activity-based costing system. Dean and Yeung identify the following activities, related costs, and cost allocation bases:
|
Activity
|
Estimated indirect
activity costs ($)
|
Allocation
base
|
Estimated
quantity of
allocation base
|
|
Materials handling
|
190,000
|
Kilos
|
19,000 kilos
|
|
Packaging
|
400,000
|
Machine
hours
|
2,000 hours
|
|
Quality assurance
|
112,500
|
Samples
|
1,875 samples
|
|
Total indirect costs
|
702,500
|
|
|
A commercial container of Breathe product line uses a total weight of 8,000 kilos, used 1,200 machine hours, and required 200 samples to produce 2,500 containers. The standard travel-pack line has a total weight of 6,000 kilos, used 400 machine hours, and required 300 samples to produce 50,000 travel packs. HCI produced 2,500 commercial containers of Breathe and 50,000 travel packs.
REQUIRED:
1. Compute the cost allocation rate for each activity.
2. Use the activity-based cost allocation rates to compute the activity costs of the commercial containers and the travel packs. (Hint: First compute the total activity costs allocated to each product line, and then compute the cost per unit.)
3. HCI's original single-allocation-base cost system allocated indirect costs to products at $300 per machine hour. Compute the total indirect costs allocated to the commercial containers and to the travel packs under the original system. Then compute the indirect cost per unit for each product.
4. Compare the activity-based costs per unit to the costs from the original system. How have the unit costs changed? Explain why the costs changed as they did.
5. Explain the advantages of ABC system over the traditional costing method?