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Jackson Ltd manufactures two products  FRED and MARTHA  .The firm uses a single plantwide overhead rate based on direct labour hours .Product costing data is as follows:
FRED                    MARTHA
Production Quantity  1000 units               5000 units  
Direct material   $40                          $60                                           
Direct labour 30(2 hours)             45 ( 3 hours)

Manufacturing overhead  
96( 2 hours)          144 ( 3 hours)
Total cost per unit   
$166                        $249
Manufacturing overhead is currently  calculated by using a conventional volume based approach using a predetermined overhead rate based on the number of direct labour hours used to produce the product.The manufacturing overhead budget consists of the following overhead costs:
     Machine related  costs  $450,000
     Setup and inspection 180,000
     Engineering   90,000
     Plant related costs 96,000
    Total   $816,000                 
Currently Jackson prices its products at 120% of total manufacturing cost .It has noticed that a competitor is producing MARTHA and has been pricing its products at $230 each and that sales of MARTHA have been declining over the last year.Because of this the accountant at Jackson has suggested that Activity Based costing should be considered .He suggested the following details
  Activity Cost Pool                    Cost driver                                   Budgeted level
 Machine related costs            Machine hours                             9000 hours
 Setup and inspection              Number of production runs      40 runs
 Engineering                               Engineering change orders       100 change orders
 Plant related costs                   Square footage of space            1,920  sq ft.

You have gathered some further information about the two products :
Each FRED requires 4 machine hours, whereas each MARTHA requires 1 machine hour
The FRED is manufactured in production runs of 50 units each .Each MARTHA is manufactured in
  250 unit batch
Three quarter of the engineering activity ,in terms of change orders ,is related to FREDs
The plant has 1,920 square feet of space, 80 per cent of which is used in the production of FREDs

Required:
(a) Calculate the cost per unit for FREDs and MARTHAs using the conventional approach when calculating overhead
(b) Calculate the cost per activity for each activity cost pool
(c) Calculate the product cost per unit for FREDs and MARTHAs using Activity Based Costing.

(d) Using the same pricing approach as above(120% of total manufacturing cost) calculate the price
      that would be charged for FREDs and MARTHAs using Activity Based costing.
(e ) Based on your calculations using Activity Based costing explain how the conventional volume based approach to allocating overhead has lead to mispricing the products.
(f) What are the benefits that would come from  introducing Activity Based costing(ABC)?
(g) Are there any disadvantages from using ABC ?   

Introduction to Management Accounting

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