Product costing: absorption costing
. The Door and Window Frame Company is unhappy with the allocation of overheads to its products. Allocating overheads on the traditional machine and labour hours bases gives significantly different product costs depending on which basis is used. As the company determines selling price as product cost + a 30% mark up on cost, the difference in the product costs on the two allocation bases is producing very different selling prices for door frames and window frames. Using in this spreadsheet calculate the following figures and complete them in the blank tables:
1. Product costs when overheads are allocated to products on a machine hour basis. Your first step in calculating the overhead allocation will be to determine the total number of machine hours in the year (hint: total machine hours are given by adding together the two figures for machine hours per product x annual production of each product).
2. Product costs when overheads are allocated to products on a labour hour basis. Your first step in calculating the overhead allocation will be to determine the total number of labour hours in the year (hint: total labour hours are given by adding together the two figures for labour hours per product x annual production of each product).
3. Product costs when overheads are allocated to products on an activity based costing basis. For this basis you should state the cost drivers you are using to allocate overheads to products as well as calculating the total overheads to allocate to products on a per product basis. Note that overhead costs are already allocated to cost pools in the question.
4. Calculate selling prices for both door frames and window frames on each of the overhead cost allocation bases used in the calculations in steps 1 to 3.
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. The Wardrobe Company manufactures two types of wardrobe: the Medium and the Large. The company currently calculates the production cost of products by allocating overheads to each product on the number of labour hours consumed by each product. Selling price is then calculated as production cost + 20% so that all the non-production overheads of the business are covered and a profit is made. The medium wardrobe is currently retailing for £90 while its nearest competitor sells for £95. However the large wardrobe's selling price is currently £168 while its nearest competitor retails for £158. The company is finding it difficult to sell its large wardrobes due to this pricing problem and has called you in to determine whether the costing system could be improved to generate more relevant information on the overhead costs incurred by each product. Using the information provided in this spreadsheet determine the activity based cost of each product and the revised selling prices that should be charged if production costs are calculated using the activity based costing approach. What will your recommendations on selling price be and will they enable both the company's products to be competitive in their market?
Overheads should be allocated on the following bases:
Set up costs: number of set ups in the year.
Supplier related overheads: number of materials orders in the year.
Quality control costs: the number of inspections carried out on products in the year.
Warehouse usage: the % usage made of the warehouse by each product during the year.
Output related overheads: the number of products produced in the year.
Waste disposal: the number of products produced in the year.
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