Activity-Based Costing ~ Product CostingCross-Subsidization
Baker’s Delight (BD) has been in the food processing business forthree years. For its first two years, its sole product was raisincake. All cakes were manufactured and packaged in one-pound units.BD’s cost system included two direct-cost categories — directmaterials and direct manufacturing labor. The sole indirectmanufacturing cost category – manufacturing overhead – wasallocated to products using units of production as the allocationbase.
In its third year (i.e., Y3), BD added a second product—layeredcarrot cake—which was packaged in one-pound units. This productdiffers from raisin cake in several ways:
More expensive ingredients are used
More direct manufacturing labor time is required
More-complex manufacturing processing is required
In Y3, BD continued to use its existing costing system, in whichit allocated manufacturing overhead using total units produced ofraisin and layered carrot cakes. Direct materials costs were $0.60per pound of raisin cake and $0.90 per pound of layered carrotcake. In addition, direct manufacturing labor costs were $0.14 perpound of raisin cake and $0.20 per pound of layered carrotcake.
Towards the end of Y3, BD sales staff reportedgreater-than-expected sales of layered carrot cake andless-than-expected sales of raisin cake. The budgeted and actualsales volumes for the year are as follows:
Budgeted
Actual
Raisin Cake
160,000 pounds
120,000 pounds
Layered Carrot Cake
40,000 pounds
80,000 pounds
Assume that the budgeted manufacturing overhead for Y3 is$210,800.
1.Before analyzing any data, what (ifany) observations in the exercise suggest that Baker might benefitfrom investing in a cost system that is relatively moresophisticated than its existing cost system?
2.Compute the unit-product cost ofraisin cake and layered carrot cake under the existingcosting system (i.e., the system that was used during Baker’s firsttwo years).
During Y3, Jonathan Davis, the controller of BD, decided toinvestigate how an activity-based costing system would affect thereported product cost numbers. After consultation with operatingpersonnel, the single manufacturing overhead cost pool wassubdivided into five activity areas. These activity areas, the OHcost percentages, the cost-allocation base (or driver), thebudgeted Y3 cost-allocation base consumption, the budgeted Y3cost-allocation rate (left blank for you to calculate), and thequantity of the cost-allocation base actually consumed by theraisin and layered carrot cake product lines are as follows:
Quantity of Cost
Allocation Base
Consumed
Activity
OH Cost
%a
Cost-Allocation
Base
Budgeted Y3 Cost-Allocation BaseConsumption
Budgeted Y3 Cost-Allocation Base Rate
Raisin
Cake
Layered Carrot Cake
Mixing
20
Labor-hours
1,054,000
$ 0.____
600,000
640,000
Cooking
10
Oven-hours
150,571
$ 0.____
240,000
240,000
Cooling
23
Cool room-hours
2,424,200
$ 0.____
360,000
400,000
Creaming/Icing
17
Machine-hours
143,344
$ 0.____
0
240,000
Packaging
30
Machine-hours
790,500
$ 0.____
360,000
560,000
a “OH Cost%” represents the percentage of total budgeted OH costs that isestimated to be associated with a given activity area. For example,20% of total budgeted OH cost is judged to be associated with themixing activity.
3.Compute the Y3 unit-product cost ofraisin cake and layered carrot cake under theactivity-based costing system.
4.Explain the differences in reportedunit-product costs computed in requirements 2 and
5.Describe three uses Baker’s Delightmight make of the activity-based cost numbers.
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