Problem:
American Fabrics has budgeted overhead costs of $990,000. It has allocated overhead on a plantwide basis to its two products (wool and cotton) using direct labor hours which are estimated to be 450,000 for the current year. The company has decided to experiment with activity-based costing and has created two activity cost pools and related activity cost drivers. These two cost pools are: Cutting (cost driver is machine hours) and Design (cost driver is number of setups). Overhead allocated to the Cutting cost pool is $360,000 and $630,000 is allocated to the Design cost pool. Additional information related to these pools is as follows.
|
Wool
|
Cotton
|
Total
|
|
Machine hours
|
100,000
|
100,000
|
200,000
|
|
Number of setups
|
1,000
|
500
|
1,500
|
Instructions
(a) Determine the amount of overhead allocated to the wool product line and the cotton product line using activity-based costing.
(b) What amount of overhead would be allocated to the wool and cotton product lines using the traditional approach, assuming direct labor hours were incurred evenly between the wool and cotton? How does this compare with the amount allocated using ABC in part (a)?