Reference no: EM13341095

Lionel Inc manufactures two products, Product A and Product B. Product B is of recent origin having been a recent addition to the product line to satisfy the demands of the more sophisticated consumer. It is also a more complex product requiring two (2) hours of direct labor time per unit to manufacture in comparison to the one (1) unit required for product A.

The overhead is allocated to the products on the basis of direct labor hours when the traditional costing system is used. The estimated total overhead cost is $ 450,000 and it is expected that 7,500 units of product B will be produced and 30,000 units of product A during the current year. Unit cost for the direct cost is given below:

Product A
Product B
Direct material
$12
$25
Direct labor
$10
$20

The management has recently heard about an emerging management tool called Activity Based Costing. A consultant has advised the management that the company has the following activity information for the two (2) products being produced as shown below:

Activity cost pools
Cost driver
Estimated overhead cost
Expected activity
Expected activity
Product A
Product B
Machine set ups
Set ups required
$ 180,000
600
1,200
Purchased orders
Purchase orders issued
38,382
500
100
Machine hours
Machine hours used
92,650
6,800
10,200
Maintenance
Maintenance request issued
138,968
693
907
$ 450,000

The selling price for the product is calculated at 150% of manufacturing cost.

Required

1. Compute the predetermined overhead rates under the traditional costing system and determine the total production cost for each product as well as the expected selling price.

2. Compute the ABC overhead cost for each product and determine the total production cost for each product and the expected selling price.

3. Discuss the effect to the organization of changing the costing method.