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Activity Based Costing Example / Problem:

Learning Objectives:

1. Perform the first stage allocation of overhead costs to the activity cost pools.
2. Compute activity rates for the activity cost pools.
3. Construct a table showing the overhead costs of units and four orders.

Ferris Corporation makes a single product - a fire resistant commercial filing cabinet - that it sells to office furniture distributors. The company has a simple ABC system that it uses for internal decision making. The company has two overhead departments whose costs are listed below:
 

Manufacturing overhead	$5,00,000
Selling and administrative overhead	$300,000
Total overhead costs	$8,00,000

 The company's activity based costing system has the following activity cost pools and activity measures:
 

Activity Cost Pool	Activity Measures
Assembling units	Number of units
Processing orders	Number of orders
Supporting customers	Number of customers
Other	Not applicable

Costs assigned to the "other" activity cost pool have no activity measure; they consist of the costs of unused capacity and organization-sustaining costs - neither of which are assigned to products, orders or customers.

Ferris Corporation distributes the costs of manufacturing overhead and of selling and administrative overhead to the activity cost pools based on employee interviews, the results of which are reported below:
 

Distribution of Resource Consumption Across Activity Cost Pools
	Assembling Units	Processing Orders	Supporting Customers	Other	Total
Manufacturing overhead	50%	35%	5%	10%	100%
Selling and administrative overhead	10%	45%	25%	20%	100%
Total activity	1,000 units	250 orders	100 customers	--	--

Required:

1. Perform the first stage allocation of overhead costs to the activity cost pools.
2. Compute activity rates for the activity cost pools.
3. OfficeMart is one of the Ferris Corporation's customers. Last year OfficeMart ordered filing cabinets four different times. OfficeMart ordered a total of 80 cabinets during the year. Construct a table showing the overhead costs of these 80 units and four orders.

Solution:

1. The first stage allocation of costs to the activity cost pools appears below:

2. The activity rates for the activity cost pools are:
 

Activity Cost Pools	Total Cost	Total Activity	Activity Rate
Assembling units	$280,000	1,000 units	$280 per unit
Processing orders	$310,000	250 units	$1,240 per order
Supporting customers	$100,000	100 customers	$1,000 per customer

3. The overhead cost for the four orders of a total of 80 filing cabinets would be computed as follows:
 

Activity Cost Pools	Total Cost	Total Activity	Activity Rate
Assembling units	$280 per unit	80 units	$22,400
Processing orders	$1,240 per order	4 units	$4,960
Supporting customers	$1000 per customer	Not applicable

4. The product and customer margin can be computed as follows:
 

Filing Cabinet Product Margin:
Sales ($595 per unit × 80 units)		$47,600
Cost:
Direct materials ($180 per unit × 80 units)	$14,400
Direct materials ($50 per unit × 80 units)	4,000
Volume related overhead (above)	22,400
Order related overhead (above)	4,960	45,760
		$1,840
		==========
Customer Profitability Analysis - OfficeMart
Product margin (above)	$1,840
Less: Customer support overhead (above)	1,000
	$840
	===========

You may also be interested in other relevant articles from "activity based costing system" chapter:

1. Definition and Explanation of Activity Based Costing System
2. Treatment of Manufacturing, Non-manufacturing and Idle Capacity Costs Under Activity Based Costing System
3. Activity Based Costing And Top Management
4. Activity Based Costing System and External Reports
5. Designing and Implementing Activity Based Costing System
6. Targeting Process Improvements (Activity Based Costing + Activity Based Management)
7. Advantages or Benefits | Disadvantages or Limitations of Activity Based Costing System
8. Activity Based Costing Example

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