Acct434 Advanced Cost Management: Week 1 Homework (5-16, 5-23 and 5-27)

Acct434 Advanced Cost Management
Week 1 Homework

5-16 Cost hierarchy
Teledor, Inc., manufactures boom boxes (music systems with radio, cassette, and compact disc players) for several well-known companies. The boom boxes differ significantly in their complexity and their manufacturing batch sizes. The following costs were incurred in 2009.
a. Indirect manufacturing labor costs such as supervision that supports direct manufacturing labor, $1,200,000
b. Procurement costs of placing purchase orders, receiving materials, and paying suppliers related to the number of purchase orders placed, $600,000
c. Cost of indirect materials, $350,000
d. Costs incurred to set up machines each time a different product needs to be manufactured, $700,000.
e. Designing processes, drawing process charts, making engineering process changes for products, $900,000
f. Machine-related overhead costs such as depreciation, maintenance, production engineering, $1,200,000 (These resources relate to the activity of running the machines.)
g. Plant management, plant rent, and plant insurance, $950,000

1. Classify each of the preceding costs as output unit-level, batch-level, product-sustaining, or facility-sustaining. Explain each answer.
2. Consider two types of boom boxes made by Teledor, Inc. One boom box is complex to make and is produced in many batches. The other boom box is simple to make and is produced in few batches. Suppose that Teledor needs the same number of machine-hours to make each type of boom box and that Teledor allocates all overhead costs using machine-hours as the only allocation base. How, if at all, would the boom boxes be miscosted? Briefly explain why.
3. How is the cost hierarchy helpful to Teledor in managing its business?

5-23 ABC, retail product-line profitability
Family Supermarkets (FS) operates at capacity and decides to apply ABC analysis to three product lines: baked goods, milk and fruit juice, and frozen foods. It identifies four activities and their activity cost rates as:
Ordering 100 per purchase order
Delivery and receipt of merchandise 80 per delivery
Shelf-stocking 20 per hour
Customer support and assistance 0.20 per item sold
The revenues, cost of goods sold, store support costs, and activity-area usage of the three product lines are:
Baked Goods Milk and Fruit Juice Frozen Products
Financial data
Revenues 57,000 63,000 52,000
Cost of goods sold 38,000 47,000 35,000
Store support 11,400 14,100 10,500
Activity-area usage (cost-allocation base)
Ordering (purchase orders) 30 25 13
Delivery (deliveries) 98 36 28
Shelf-stocking (hours) 183 166 24
Customer support (items sold) 15,500 20,500 7,900
Under its simple costing system, FS allocated support costs to products at the rate of 30% of cost of goods sold.

1. Use the simple costing system to prepare a product-line profitability report for FS.
2. Use the ABC system to prepare a product-line profitability report for FS.
3. What new insights does the ABC system in requirement 2 provide to FS managers?

5-27 ABC, product costing at banks, cross-subsidization
First International Bank (FIB) is examining the profitability of its Premier Account, a combined savings and checking account. Depositors receive a 7% annual interest rate on their average deposit. FIB earns an interest rate spread of 3% (the difference between the rate at which it lends money and the rate it pays depositors) by lending money for home loan purposes at 10%. Thus, FIB would gain $60 on the interest spread if a depositor had an average Premier Account balance of $2,000 in 2008 ($2,000 × 3% = $60).
The Premier Account allows depositors unlimited use of services such as deposits, withdrawals, checking accounts, and foreign currency drafts. Depositors with Premier Account balances of $1,000 or more receive unlimited free use of services. Depositors with minimum balances of less than $1,000 pay a $20-a-month service fee for their Premier Account.
FIB recently conducted an activity-based costing study of its services. It assessed the following costs for six individual services. The use of these services in 2008 by three customers is as follows:
Activity-Based Cost per “Transaction” Account Usage
Robinson Skerrett Farrel
Deposit/withdrawal with teller 2.50 40 50 5
Deposit/withdrawal with automatic teller machine (ATM) 0.80 10 20 16
Deposit/withdrawal on prearranged monthly basis 0.50 - 12 60
Bank checks written 8.00 9 3 2
Foreign currency drafts 12.00 4 1 6
Inquiries about account balance 1.50 10 18 9
Average Premier Account balance for 2008 $1,100 $800 $25,000
Assume Robinson and Farrel always maintain a balance above $1,000, whereas Skerrett always has a balance below $1,000.

1. Compute the 2008 profitability of the Robinson, Skerrett, and Farrel Premier Accounts at FIB.
2. What evidence is there of cross-subsidization among the three Premier Accounts? Why might FIB worry about this cross-subsidization if the Premier Account product offering is profitable as a whole?
3. What changes would you recommend for FIB’s Premier Account?
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