1) Bio Labs is a genetic engineering firm manufacturing a variety of gene-spliced, agricultural-based seed products. The firm has five separate labs producing different product lines. Each lab is treated as a profit center and all five labs are located in the same facility. The wheat seed lab and corn seed lab manufacture two of the five product lines. These two labs are located next to each other and are of roughly equal size in terms of sales. The two departments have close interaction, often sharing equipment and lab technicians. Both use very similar technology and science and usually attend the same scientific meetings.
Recent discoveries have shown how low-power lasers can be used to significantly improve product quality. The wheat seed and corn seed managers are proposing the creation of a laser testing department to employ this new technology. Leasing the equipment and hiring the personnel cost $350,000 per year. Supplies, power, and other variable costs are $25 per testing hour. The testing department is expected to provide 2,000 testing hours per year. The wheat seed manager expects use 700 testing hours per year of the laser testing department and the corn seed manager expects to use 800 testing hours. The remaining 500 hours of testing capacity can be used by the other three labs if the technology applies or can be left idle for future expected growth of the two departments. Initially, only wheat and corn are expected to use laser testing. The executive committee of Bio Labs has approved the proposal but is now grappling with how to treat the costs of the laser-testing department. The committee wants to charge the costs to the wheat seed and corn seed labs but is unsure of how to proceed.
At the end of the first year of operating the laser, wheat seed used 650 testing hours, corn seed used 900 hours, and 450 hours were idle.
a) Design two alternative cost allocation systems.
b) Give numerical illustrations of the charges the corn and wheat seed labs will incur in the first year of operations under your two alternatives.
c) Discuss the advantages and disadvantages of each.
2) Two genetically engineered enzymes are produced simultaneously from a series of chemical and biological processes: Q enzyme and Y enzyme. The cost per batch of Q and Y enzymes is $200,000, resulting in 300 grams of Q and 200 grams of Y. Before Q and Y can be sold, they must be processed further at costs of $100 and $150 per gram, respectively. Each batch requires one month of processing time and only one batch per month is produced.
The monthly demand for Q and Y depends on the price charged. The following table summarizes the various price-quantity combinations.
Quan Sold: Price per G of Q Price per G of Y
50 1200 750
100 1100 550
150 1000 350
200 900 150
250 800 n/a
300 700 n/a
In the following analysis, the optimum price of Q is $900 per gram and the optimum price of Y is $750 per gram.
Quan sol: Prc/Q Rev(Q) Tot Cos of Q To. Prof Prc/Y Rev(Y) TotCos Y T.Prof
50 1200 60,000 25,000 35,000 750 37,500 27,500 10,000
100 1100 110,000 50,000 60,000 550 55,000 55,000 0
150 1000 150,000 75,000 75,000 350 52,500 82,500 (30,000)
200 900 180,000 100,000 80,000 150 30,000 110,000 (80,000)
250 800 200,000 125,000 75,000 n.a
300 700 210,000 150,000 60,000 n.a
a) Critically evaluate the analysis underlying the pricing decisions of $900 for Q and $750 for Y.
b) What should management do if the cost per batch rises to $225,000?
3) Littleton Medical Center (LMC) has 3 service departments (accounting, HR, and janitorial) and 2 patient units: hospital and an outpatient clinic. The following table summarizes the operations of LMC for the last fiscal year.
Service Departments: Service Dept. Costs
Human Resources $1200
Accounting $1600
Janitorial $2400
These department costs are allocated to the 2 patients units. The following table summarizes the allocation bases used to allocate each service department and the utilization of each allocation base.
Service Departments: Patient Units:
Service Depts. HR Acctg Jan Clinic Hospital Allocation Base
Human Resources 50 150 2000 3000 Employees
Accounting 50 100 6000 4000 Transactions (000)
Janitorial 8000 9000 150,000 400,000 Square Feet
a) Allocate the 3 service departments costs (HR, accounting, and janitorial) to the two patient units (Clinic and hospital) using the direct allocation method.
b) Allocate the 3 service departments costs to the 2 patient units using the step-down allocation method. The order of the three departments is first: HR, second: Accounting, and third: Janitorial.
c) What are the primary advantages of the step-down method compared to the direct allocation method?