2-1
Activity-Based Costing and Analysis
Chapter 17
Wild, Shaw, and Chiappetta
Financial & Managerial Accounting
6th Edition
Copyright © 2016 McGraw-Hill Education. All rights reserved. No
reproduction or distribution without the prior written consent of McGrawHill Education.
2-2
17-C1:
Distinguish between the plantwide
overhead rate method, the departmental
overhead rate method, and the activitybased costing method.
2-3
Assigning Overhead Costs
Indirect
Materials
Direct
Indirect
Factory Allocate
Overhead
Labor
C1
Direct
Goods in
Process
Finished
Goods
Cost of
Goods
Sold
17-3
2-4
Assigning Overhead Costs
Overhead can be assigned to production in
one of three ways:
Single plantwide overhead
rate
Departmental
overhead
rates
Activity-based
costing
C1
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2-5
17-P1:
Allocate overhead costs to products
using the plantwide overhead rate
method.
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Plantwide Overhead Rate Method
(Exhibit 17.2)
Indirect
Costs
Overhead Cost
Cost
Allocation
Base
Single Plantwide
Overhead Rate
Cost
Objects
Product 1 Product 2
Product 3
P1
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2-7
Plantwide Overhead Rate Method Illustration
(exhibits 17.3 & 17.4)
Exhibit 17.3 KartCo's Budgeted Direct Labor Hours
Direct
Total
Number
Labor
Direct Labor
of units
Hours
Hours
Standard go-kart
5,000 X
15 =
75,000
Custom go-kart
1,000 X
25 =
25,000
Total
100,000
Exhibit 17.4 Kartco's Budgeted Overhead Costs
P1
Indirect labor costs…………………………………………………………
$4,000,000
Factory utilities………………………………………………………………
800,000
Total budgeted overhead costs……………………………………………
$4,800,000
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2-8
Plantwide Overhead Rate Method
Illustration
Plantwide
Total budgeted overhead costs
overhead =
Total budgeted DLH
rate
P1
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2-9
Plantwide Overhead Rate
Method Illustration
Plantwide
overhead =
rate
=
$4,800,000
100,000 DLH
$48/DLH
Overhead allocated to each unit produced =
$48 x DLH per unit
P1
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2 - 10
Plantwide Overhead Rate
Method Illustration
Allocation of overhead cost to products
Overhead
Rate Per
DLH
Standard go-kart
$48
X
Custom go-kart
$48
X
DLH
15
25
Allocated
Per
Unit
= $ 720
= $ 1,200
Total product cost per unit
P1
Standard go-kart
Custom go-kart
Direct
Materials
$
400
600
Direct
Labor
$
350
500
Factory
Overhead
$ 720
1,200
Total
Cost
per Unit
$ 1,470
2,300
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2 - 11
17-P2:
Allocate overhead costs to products using
the departmental overhead rate method.
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Departmental Overhead Rate
Method (exhibit 17.5)
Overhead Cost
Department
A
Department A
Overhead Rate
P2
Product 1
Department
B
Department B
Overhead Rate
Product 2
Product 3
Indirect
Costs
Cost
Pools
Cost
Allocation
Base
Cost
Objects
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2 - 13
Departmental Overhead Rate
Method: First Step
Overhead Cost
$4,800,000
Machining Dept.
$4,200,000
Assembly Dept.
$600,000
P2
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2 - 14
Departmental Overhead Rate
Method: Second Step
Machining Dept.
Overhead Rate based
on machine hours (MH)
Product 1
Assembly Dept.
Overhead Rate based
on direct labor hours (DLH)
Product 2
Product 3
P2
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Departmental Overhead Rate
Method: Second Step
Exhibit 17.6 Allocation Information for Machining and Assembly Departments
Machining Department
Assembly Department
Number
of
Hours per Total
Hours per
Units
Unit
Hours
Unit Total Hours
Standard go-kart
Custom go-kart
Totals
5,000
1,000
10 MH
20 MH
50,000 MH
20,000 MH
70,000 MH
5 DLH
5 DLH
25,000 DLH
5,000 DLH
30,000 DLH
P2
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2 - 16
Departmental Overhead Rate
Method: Third Step
(Exhibit 17.6)
Departmental
Overhead =
Rate
Total budgeted departmental
overhead costs
Total amount of departmental
allocation base
P2
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Departmental Overhead Rate
Method: Third Step
Machining
Department =
Overhead
Rate
Assembly
Department =
Overhead
Rate
$4,200,000
= $60/MH
70,000 MH
$600,000
=
$20/DLH
30,000 DLH
P2
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2 - 18
Departmental Overhead Rate
Method: Fourth Step
Exhibit 17.7 Overhead Allocation Using Departmental Overhead Rates
Standard go-kart
Machining Dept.
Assembly Dept.
Totals
Departmental
Hours per Overhead
Overhead Rate
Unit
Allocated
$60 per MH
10 MH per unit
$600
$20 per DLH 5 DLH per unit
100
$700
Custom go-kart
Hours per Overhead
Unit
Allocated
20 MH per Unit $ 1,200.00
5 DLH per unit $
100.00
$ 1,300.00
Exhibit 17.8 Comparison of Plant wide OH Rate and Departmental OH Rate Methods:
Overhead per unit using:
Plantwide OH Rate Method
Departmental OH Rate Method
Standard go Kart
$720
$700
Custom go-Kart
$ 1,200
1,300
P2
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NEED-TO-KNOW
A manufacturer reports the following budgeted data for its two production departments.
Manufacturing overhead costs
Machine hours to be used (MH)
Direct labor hours to be used (DLH)
Machining
$600,000
20,000
20,000
Assembly
$300,000
0
5,000
1. What is the company’s single plantwide overhead rate based on direct labor hours?
Total Plant Overhead Costs
Total Direct Labor Hours
$900,000
25,000 DLH
$36 per DLH
2. What are the company’s departmental overhead rates if the machining department assigns overhead
based on machine hours and the assembly department assigns overhead based on direct labor hours?
Overhead Costs - Machining Dept.
Machine Hours - Machining Dept.
$600,000
20,000 MH
$30 per MH
Overhead Costs - Assembly Dept.
Direct Labor Hours - Assembly Dept.
$300,000
5,000 DLH
$60 per DLH
3. Using the departmental overhead rates from part 2, how much overhead should be assigned to a job
that uses 16 machine hours in the machining department and 5 direct labor hours in the assembly
department?
Overhead Costs - Machining Dept.
Overhead Costs - Assembly Dept.
Total Overhead Cost assigned to Job
16 MHs x $30 per MH =
5 DLHs x $60 per DLH =
$480
300
$780
P2
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2 - 20
17-A1:
Identify and assess advantages and
disadvantages of the plantwide overhead
and departmental overhead rate methods.
17-20
2 - 21
Plantwide Overhead Rate Method
Advantages and Disadvantages
Advantages
• Information is
readily available
• Easy to implement
• Consistent with
GAAP and can be
used for external
reporting needs
Disadvantages
• Overhead costs may
not bear any
relationship with
direct labor hours
• All products may
not use overhead
costs in the same
proportion
A1
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Departmental Overhead Rate Method
Advantages and Disadvantages
Advantages
Disadvantages
•More accurate
overhead allocations
•Can distort product
costs
•More refined than the
plantwide overhead rate
method
•Assumes that products
are similar in volume,
complexity, batch size
•Assumes that
departmental overhead
costs are proportional to
the allocation base
A1
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17-C2:
Explain cost flows for activity-based
costing.
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Cost Flows Under Activity-Based
Costing Method (Exhibit 17.9)
Overhead Cost
Activity
Cost
Pool X
Activity Overhead
rate
Product 1
Activity
Cost
Pool Y
Activity Overhead
rate
Product 2
Indirect Costs
Activity
Cost
Pool Z
Activity Overhead
rate
Product 3
Cost Pools
Cost
Allocation
Base
Cost
Objects
C2
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2 - 25
17-P3:
Allocate overhead costs to products using
activity-based costing.
17-25
2 - 26
Applying Activity-Based
Costing
4 STEPS:
1. Identify activities and the costs they cause.
2. Trace overhead costs to cost pools.
3. Determine activity rates.
4. Assign overhead costs to cost objects
(products).
P3
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2 - 27
Step One: Identify Activities
and the Costs They Cause
Machine setup
Machine repair
Factory
maintenance
Engineer
salaries
Assembly
line power
Heating and
lighting
P3
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2 - 28
Step One: Identify Activities and the
Costs They Cause
Exhibit 17.10 KartCo Overhead Cost Details
Indirect
Activity
Labor
Machine setup
$
700,000
Machine repair
$ 1,300,000
Factory maintenance
$
800,000
Engineer salaries
$ 1,200,000
Assembly line power
Heating and lighting
Totals
$4,000,000
Factory
Utilities
$600,000
200,000
$800,000
Total
Overhead
$700,000
1,300,000
800,000
1,200,000
600,000
200,000
$4,800,000
P3
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2 - 29
Step Two: Trace Overhead
Costs to Cost Pools
Overhead Cost
Activity
Cost Pool
(Craftsmanship)
Activity
Cost Pool
(Setup)
Activity
Cost Pool
(Design
Modification)
Activity
Cost Pool
(Plant Services)
P3
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Step Two: Trace Overhead
Cost to Cost Pools
Exhibit 17.11 Assigning Overhead to Activity Cost Pools
Activity Pools
Activity Cost
Pooled Cost
Craftsmanship
Assembly line power
$600,000
$600,000
Set-up
Machine setup
700,000
Machine repair
1,300,000
2,000,000
Design modification
Engineer salaries
1,200,000
1,200,000
Plant services
Factory maintenance
800,000
Heating and lighting
200,000
1,000,000
Total overhead cost
$4,800,000
Activity Driver
30,000 DL hours
200 batches
10 designs
20,000 square feet
P3
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2 - 31
Step Three: Determine
Activity Rates
Activity
Cost Pool
(Craftsmanship)
Activity Overhead
rate ?
Activity
Cost Pool
(Setup)
Activity Overhead
Rate ?
Activity
Cost Pool
(Design
Modification)
Activity Overhead
rate ?
Activity
Cost Pool
(Plant Services)
Activity Overhead
rate ?
Step 3 is to compute the activity rates used
to assign overhead costs to final cost
objects such as products.
P3
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Step Three: Determine
Activity Rate
Proper determination of activity
rates depends on:
Proper
identification
of the factor
that drives
the cost
and
Proper
measures of
activities
P3
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Step Three: Determine
Activity Rate
Cost Pool
Activity
Rate
Overhead costs assigned to pool
=
Expected activity level
For example:
Craftsmanship cost pool activity rate= $600,000 / 30,000 DLH
= $20 per DLH
P3
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Step Three: Determine
Activity Rate
Exhibit 17.12 Activity Rates for KartCo.
Overhead
Expected
Activity Cost Activity Driver
Costs
Activity
Activity Rate

=
Pools
Chosen
Assigned to
Level
Pool
Craftsmanship
DLH
$600,000 30,000 DLH
$20 per DLH
Set-up
Batches
2,000,000 200 batches $10,000 per batch
Design
Number of
1,200,000 10 designs $120,000 per design
modification
designs
Plant services
Square feet
1,000,000 20,000 sq. ft.
$50 per sq. ft.
P3
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Step Four: Assign Overhead
Costs to Cost Objects
Activity Overhead
rate
Product 1
Activity Overhead
rate
Product 2
Activity Overhead
rate
Product 3
Step 4 is to assign overhead costs in each
activity cost pool to final cost objects using
activity rates.
P3
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Step Four: Assign Overhead
Costs to Cost Objects
• To illustrate, the overhead costs in the
craftsmanship pool are allocated to
standard go-karts as follows:
Overhead allocated from craftsmanship pool to standard
go-kart =
Activities consumed X Activity rate
25,000 DLH x $20 per DLH = $500,000
P3
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Step Four: Assign Overhead
Costs to Cost Objects
Exhibit 17.13 Overhead Allocated to Go-Karts for KartCo.
Standard Go-karts
Activities
Activity
Activity Cost
Activities
Consumed
Rate
Allocated
Consumed
Craftsmanship 25,000 DLH
$20 per DLH
$500,000
5,000 DLH
$10,000 per
Set-up
40 batches
batch
400,000
160 batches
Design
$120,000 per
modification
0 designs
design
0
10 designs
Plant services 12,000 sq. ft.
$50 per sq. ft.
$600,000
8,000 sq. ft.
Total cost
$1,500,000
Custom Go-karts
Activity
Rate
$20 per DLH
$10,000 per batch
$120,000 per design
$50 per sq. ft
Activity Cost
Allocated
$100,000
$
1,600,000
1,200,000
400,000
$3,300,000
P3
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Step Four: Assign Overhead
Costs to Cost Objects
Exhibit 17.14 Overhead Cost per Unit for Go-Karts Using ABC
(A)
(B)
(A/B)
Total Overhead
Units of
Overhead cost
cost allocated
production
per Unit
Standard go-kart
$
1,500,000 5,000 units
$300 per unit
Custom go-kart
$
3,300,000 1,000 units
$3,300 per unit
P3
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Comparison of Overhead Allocations
by Method (Exhibit 17.15)
Exhibit 17.15 Comparison of Overhead Allocations by Method
Overhead Cost per Go-Kart
Overhead Cost
Allocation method
Plantwide method…….
Departmental method……
Activity-based costing……
Standard Custom
$
720 $ 1,200
700
1,300
300
3,300
P3
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17-A2:
Identify and assess advantages and
disadvantages of activity-based
costing.
17-40
2 - 41
Activity-Based Costing
Advantages and Disadvantages
Advantages:
•Advantages (Continued)
•More accurate overhead
cost allocation
•Costs of Quality
•More effective overhead
cost control
Disadvantages:
•Focus on relevant factors
•Costs to implement
and maintain
•Better management of
activities
•Uncertainty with
decisions remains
A2
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NEED-TO-KNOW
A manufacturer makes two types of snowmobiles, Basic and Deluxe, and reports the following data to be used in applying
activity-based costing. The company budgets production of 6,000 Basic snowmobiles and 2,000 Deluxe snowmobiles.
Activity Cost Pool
Machine setup
Materials handling
Machine depreciation
Activity Cost Driver Cost Assigned to Pool
Basic
Number of setups
$150,000
200 setups
Number of parts
250,000
10 parts per unit
Machine hours (MH)
720,000
1 MH per unit
$1,120,000
Deluxe
300 setups
20 parts per unit
1.5 MH per unit
1. Compute overhead activity rates for each cost pool using ABC.
Machine setup costs
Number of setups (200 + 300)
$150,000
500 setups
$300.00 per setup
Materials handling costs
Number of parts (6,000 x 10) + (2,000 x 20)
$250,000
100,000 parts
$2.50 per part
Depreciation cost
Number of MHs (6,000 x 1) + (2,000 x 1.5)
$720,000
9,000 MHs
$80.00 per MH
2. Compute the total amount of overhead cost to be allocated to each of the company’s product lines using ABC.
Activity Cost Pool
Machine setup
Materials handling
Machine depreciation
Totals
Activity Pool Rate
$300 per setup
$2.50 per part
$80 per MH
Basic
Deluxe
200 setups x $300
$60,000 300 setups x $300
$90,000
60,000 parts x $2.50 150,000 40,000 parts x $2.50 100,000
6,000 MHs x $80
480,000 3,000 MHs x $80
240,000
$690,000
$430,000
A2
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NEED-TO-KNOW
A manufacturer makes two types of snowmobiles, Basic and Deluxe, and reports the following data to be used in applying
activity-based costing. The company budgets production of 6,000 Basic snowmobiles and 2,000 Deluxe snowmobiles.
3. Compute the overhead cost per unit for each product line using ABC.
Activity Cost Pool
Machine setup
Materials handling
Machine depreciation
Totals
Activity Pool Rate
$300 per setup
$2.50 per part
$80 per MH
Basic
Deluxe
200 setups x $300
$60,000 300 setups x $300
$90,000
60,000 parts x $2.50 150,000 40,000 parts x $2.50 100,000
6,000 MHs x $80
480,000 3,000 MHs x $80
240,000
$690,000
$430,000
Units produced
6,000
2,000
Cost per unit
$115/unit
$215/unit
A2
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17-C3:
Describe the four types of activities that
cause overhead costs.
17-44
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Four types of activities that cause
overhead costs
Unit-level
Batch-level
Product-level
C3
Facility-level
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Levels of Activities
Unit-level
Unit-level activities are performed on
each product unit; for example,
providing electricity to power
machinery in the machining
department is needed to produce each
unit of product.
C3
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Levels of Activities
Batch-level
Batch-level activities are performed
only on each batch or group of units.
C3
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Levels of Activities
Product-level
Product-level activities are performed
on each product line and are not
affected by either numbers of units or
batches.
C3
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Levels of Activities
Facility-level
Facility-level activities are performed
to sustain facility capacity as a whole
and are not caused by any specific
product.
C3
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End of Chapter 17
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