Reference no: EM132803322
Question - Tetrax Inc. manufactures two products, Complex and Simple. The company applies overhead on the basis of direct-labour hours. Overhead costs are estimated to be $1,600,000 and direct-labour time is estimated to be 100,000 hours. The following table provides information about Tetrax Inc.'s products:
|
Product
|
Estimated Production Volume
|
Direct Material Cost per unit $
|
Direct Labour per unit (hours)
|
|
Complex
|
6,000
|
35
|
6
|
|
Simple
|
8,000
|
50
|
8
|
The company pays direct labour who are directly involved with production $24 per hour. The company's overhead costs of $1,600,000 pertain to the following three activities: order processing ($300,000), machine processing ($1,120,000), and product inspection ($180,000). The cost drivers of these activities are the following: number of orders processed, machine hours worked, and inspection hours respectively. The table below provides information about these activities:
|
Product
|
Orders Processed
|
Machine Hours Worked
|
Inspection Hours
|
|
Complex
|
600
|
36,000
|
4,000
|
|
Simple
|
400
|
44,000
|
16,000
|
While the company's sales volumes increased, profitability declined. This was rather unexpected because Tetrax Inc. has undergone a plant renovation and installed highly automated machinery, which were expected to generate considerable operating efficiencies.
Required -
a) Assuming that direct-labour hours are used to allocate overheads to production, compute the unit manufacturing costs of the Complex and Simple products if the expected manufacturing volume is attained? Show Workings.
b) Assuming that activity-based costing is used, compute the unit manufacturing costs of the Complex and Simple products if the expected manufacturing volume is attained? Show your workings.
c) Calculate and comment on the amount of cost distortion for each product arising from using traditional (i.e., absorption) costing instead of activity-based costing? Show your workings.
d) With reference to the information provided in the question and your answers to parts (a), (b) and (c), discuss the implications of traditional and activity-based costing for the pricing strategy and profitability of the company?
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