Calculating Cost
Ontario, Inc. manufactures two products, Standard and Enhanced, and applies overhead on
the basis of direct-labor hours. Anticipated overhead and direct-labor time for the upcoming
accounting period is $800,000 and 25,000 hours, respectively. Information about the
company's products follows.
Standard:
Enhanced:
3,000 units
4,000 units
Direct-material cost
$25 per unit
$40 per unit
Direct labor per unit
3 hours at $12 per hour
4 hours at $12 per hour
Estimated production volume
Ontario's overhead of $800,000 can be identified with three major activities: order processing
($150,000), machine processing ($560,000), and product inspection ($90,000). These
activities are driven by number of orders processed, machine hours worked, and inspection
hours, respectively.
Data relevant to these activities follow:
Orders
Processed
Machine Hours
Worked
Inspection
Hours
Standard
300
18,000
2,000
Enhanced
200
22,000
8,000
Total
500
40,000
10,000
Top management is very concerned about declining profitability despite a healthy increase in
sales volume. The decrease in income is especially puzzling because the company recently
undertook a massive plant renovation during which new, highly automated machinery was
installed—machinery that was expected to produce significant operating efficiencies.
Using a Microsoft Excel format for calculations, complete the following:
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Assuming use of direct-labor hours to apply overhead to production, calculate the unit
manufacturing costs of the standard and enhanced products if the expected
manufacturing volume is attained.
Assuming the use of activity-based costing, calculate the unit manufacturing cost of
the standard and enhanced products if the expected manufacturing volume is
attained.
Ontario’s selling price is based heavily on cost:
o Calculate which product is over cost and which is under cost by using directlabor hours as an application base.
o Explain if it is possible that this over costing and under costing is responsible
for the profit issues the company is facing.
Illustrate how the solution will change if the following data changes:
o The overhead associated with order processing is $300,000 and the
overhead associated with product inspection is $270,000.