Princeton Company manufactures ONLY two products: L1 and L2. The company expects to produce and...


Princeton Company manufactures ONLY two products: L1 and L2. The company expects to produce and sell 1,000 units of Product L1 and 1,000 units of Product L2 during the current year. The company used to allocate overhead costs to products on the basis of direct labor hours. Recently, the company implemented activity-based costing to compute unit product costs. Data on total estimated costs relating to the company's production department are given below for the current year:

Activity Center Estimated Expected Activity
(Cost Driver) OH costs Product L1 Product L2
Machine setups (setups) $30,000 100 200
Purchase orders (orders) $60,000 1,000 2,000
General factory (MH) 15,000 $60,000 2,000 4,000
Total Direct Material Cost $35,000 $60,000
Total Direct Labor Cost $20,000 $40,000
Direct Labor Hours per unit 1 2

a. If the company had used the old method of overhead allocation, what would be the unit cost for each product?

b. Using the activity-based costing approach, determine the cost per unit for each product

c. The company's controller is puzzled by the results in parts a and b. Can you offer an explanation? Support your arguments with numbers. Is ABC useful for this company?

Activity-Based Costing (ABC)

Manufacturing costs consist of direct materials, direct labor and manufacturing overhead. While direct materials and direct labor are traceable costs, manufacturing overhead is an indirect cost and has to be allocated to products. The two common allocation methods are the traditional overhead allocation method and the activity-based costing (ABC) method. As the traditional method applies overhead cost using one volume-based cost driver, it is generally less accurate as compared to the ABC system. The ABC system requires the initial classification of overhead costs into various cost pools with a cost driver selected for each pool. A cost driver is a common activity shared among overhead costs in each cost pool. An activity rate will subsequently be calculated for each cost pool and costs from each cost pool will be applied to products using the rate.

Answer and Explanation: 1

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Total budgeted manufacturing overhead = $30,000 + $60,000 + $60,000 = $150,000

Total budgeted direct labor hours = (1,000 x 1) + (1,000 x 2) =...

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Learn more about this topic:

The Seven Steps of Activity-Based Costing


Chapter 7 / Lesson 3

Activity-based costing takes into account the activities needed to complete products, including the associated costs of each activity. Discover the seven steps of activity-based costing and learn how it is used in organizations.

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