Author Question: ABC, cost hierarchy, service. (CMA, adapted) Vineyard Test Laboratories does heat testing (HT) ... (Read 92 times)

kfurse · **on:** Jul 6, 2018

ABC, cost hierarchy, service.

(CMA, adapted) Vineyard Test Laboratories does heat testing (HT) and stress testing (ST) on materials and operates at capacity. Under its current simple costing system, Vineyard aggregates all operating costs of 1,190,000 into a single overhead cost pool. Vineyard calculates a rate per test-hour of 17 (1,190,000, 70,000 total test-hours). HT uses 40,000 test-hours, and ST uses 30,000 test-hours. Gary Celeste, Vineyard's controller, believes that there is enough variation in test procedures and cost structures to establish separate costing and billing rates for HT and ST. The market for test services is becoming competitive. Without this information, any miscosting and mispricing of its services could cause Vineyard to lose business. Celeste divides Vineyard's costs into four activity-cost categories.
a. Direct-labor costs, 146,000. These costs can be directly traced to HT, 100,000, and ST, 46,000.
b. Equipment-related costs (rent, maintenance, energy, and so on), 350,000. These costs are allocated to HT and ST on the basis of test-hours.
c. Setup costs, 430,000. These costs are allocated to HT and ST on the basis of the number of setup-hours required. HT requires 13,600 setup-hours, and ST requires 3,600 setup-hours.
d. Costs of designing tests, 264,000. These costs are allocated to HT and ST on the basis of the time required for designing the tests. HT requires 3,000 hours, and ST requires 1,400 hours.

Required:
1. Classify each activity cost as output unitlevel, batch-level, product- or service-sustaining, or facility- sustaining. Explain each answer.
2. Calculate the cost per test-hour for HT and ST. Explain briefly the reasons why these numbers differ from the 17 per test-hour that Vineyard calculated using its simple costing system.
3. Explain the accuracy of the product costs calculated using the simple costing system and the ABC system. How might Vineyard's management use the cost hierarchy and ABC information to better manage its business?

Question 2

Unlike the choice of methodology, the choice of technique is driven primarily by the nature of the problem.

Indicate whether the statement is true or false

flexer1n1 · **Reply #1 on:** Jul 6, 2018

Answer to Question 1

1. Output unit-level costs
a. Direct-labor costs, 146,000
b. Equipment-related costs (rent, maintenance, energy, and so on), 350,000
These costs are output unit-level costs because they are incurred on each unit of materials tested, that is, for every hour of testing.

Batch-level costs
c. Setup costs, 430,000
These costs are batch-level costs because they are incurred each time a batch of materials is set up for either HT or ST, regardless of the number of hours for which the tests are subsequently run.

Service-sustaining costs
d. Costs of designing tests, 264,000.
These costs are service-sustaining costs because they are incurred to design the HT and ST tests, regardless of the number of batches tested or the number of hours of test time.

2.
Heat Testing (HT) Stress Testing (ST)
Total
(1) Per Hour
(2) = (1) 40,000 Total
(3) Per Hour
(4) = (3) 30,000
Direct labor costs (given) 100,000 2.50 46,000 1.53
Equipment-related costs
5 per hour 40,000 hours 200,000 5.00
5 per hour 30,000 hours 150,000 5.00
Setup costs
25 per setup-hour 13,600 setup-hours 340,000 8.50
25 per setup-hour 3,600 setup-hours 90,000 3.00
Costs of designing tests
60 per hour 3,000 hours 180,000 4.50
60 per hour 1,400 hours 84,000 2.80
Total costs 820,000 20.50 370,000 12.33

350,000 (40,000 + 30,000) hours = 5 per test-hour
430,000 (13,600 + 3,600) setup hours = 25 per setup-hour
264,000 (3,000 + 1,400) hours = 60 per hour

At a cost per test-hour of 17, the simple costing system undercosts heat testing (20.50) and overcosts stress testing (12.33). The reason is that heat testing uses direct labor, setup, and design resources per hour more intensively than stress testing. Heat tests are more complex, take longer to set up, and are more difficult to design. The simple costing system assumes that testing costs per hour are the same for heat testing and stress testing.

3. The ABC system better captures the resources needed for heat testing and stress testing because it identifies all the various activities undertaken when performing the tests and recognizes the levels of the cost hierarchy at which costs vary. Hence, the ABC system generates more accurate product costs.
Vineyard's management can use the information from the ABC system to make better pricing and product mix decisions. For example, it might decide to increase the prices charged for the more costly heat testing and consider reducing prices on the less costly stress testing. Vineyard should watch if competitors are underbidding Vineyard in stress testing and causing it to lose business. Vineyard can also use ABC information to reduce costs by eliminating processes and activities that do not add value, identifying and evaluating new methods to do testing that reduce the activities needed to do the tests, reducing the costs of doing various activities, and planning and managing activities.

Answer to Question 2

FALSE
Explanation: Unlike the choice of methodology, which is driven primarily by the nature of the problem, the choice of technique is more subjective in nature.