Case 2 : Destin Brass Products Co.

Question 1
Use the Overhead Cost Activity Analysis in Exhibit 5 and other data on manufacturing
costs to estimate product costs for valves, pumps and flow controllers.

 Standard Unit Cost

Valves Pumps Flow Controllers
Materials $16.00 $20.00 $22.00
Direct labor 4.00 8.00 6.40
Overhead @439% of 17.56 35.12 28.10
direct labor $
Standard unit cost $37.56 $63.12 $56.50

 Revised Unit Costs

Valves Pumps Flow Controllers
Material $16.00 $20.00 $22.00
Material overhead (48%) 7.68 9.60 10.56
Set-up labor .02 .05 .48
Direct labor 4.00 8.00 6.40
Other overhead (machine 21.30 21.30 8.52
hour basis)
Revised standard cost $49.00 $58.95 $47.96

 Activity-Transaction-Based Costs
Valves Pumps Flow Controller
Material $16.00 $20.00 $22.00
Direct labor 4.00 8.00 6.40
Total direct cost 20..00 28.00 28.40
Total indirect cost 17.76 20.87 72.17
allocated
Total cost per unit $37.76 $48.87 $100.57

*Workings
Activity Total budgeted Budgeted quantity Budgeted indirect
indirect cost of cost allocation cost rate
Machine depreciation $270000 10800 hours $25 per hour
Set-up labor 2688 168 hours $16 per hour
Receiving 20000 129 transactions $155.04 per
transactions
Material handling 2000000 129 transactions $1550.39 per
transactions
Engineering 1000000 20%/30%/50%
Packing & shipping 60000 30 transactions $2000 per
transactions
Maintenance 30000 10800 hours $2.78 hour

Valves
Total Unit
Direct cost
Direct materials $120000 $16.00
Direct labor 30000 4
Total direct cost $150000 $20.00
Overheads
Machine depreciation $93750 $12.50
Set-up labor 128 0.02
Receiving 620.16 0.08
Materials handling 6201.55 0.83
Engineering 20000 2.67
Packing and shipping 2000 0.27
Maintenance 10425 1.39
Total overheads 133124.71 17.76
Total cost $283124.71 $37.76

Pumps
Total Unit
Direct cost
Direct materials $250000 $20.00
Direct labor 100000 $8.00
Total direct cost $350000 $28.00
Overheads
Machine depreciation $156250 $12.50
Set-up labor 640 0.05
Receiving 3875.97 0.31
Materials handling 38759.70 3.10
Engineering 30000 2.40
Packing and shipping 14000 1.12
Maintenance 17375 1.39
Total overheads $260900.67 $20.87
Total cost $610900.67 $48.87

Flow Controllers
Total Unit
Direct cost
Direct materials $88000 $22.00
Direct labor 25600 6.40
Total direct cost $113600 $28.40
Overheads
Machine depreciation $20000 $5
Set-up labor 1920 0.48
Receiving 15503.88 3.88
Materials handling 155038.80 38.76
Engineering 500000 12.50
Packing and shipping 44000 11.00
Maintenance 2200 0.55
Total overhead 288662.68 72.17
Total cost 402262.68 100.57

Question 2
Compare the estimated costs you calculate to existing standard unit costs (Exhibit 3)
and the revised unit costs (Exhibit 4). What causes the different product costing
methods to produce such different results?

FLOW
VALVES PUMPS
CONTROLLERS
STANDARD
$37.56 $63.12 $56.50
UNIT COST
REVISED UNIT
$49.00 $58.95 $47.96
COST
VARIANCE (11.44) 4.17 8.54

Based on the table above, there is a difference in the unit cost. The difference is due
to the allocation of overhead of each activity. The calculation of unit cost is divided into
direct cost and indirect cost.
 The direct cost for both costing methods contain material and direct labor but for
revised costing, they have an additional direct cost, which is the set-up cost taken from
the overhead cost.
As for the indirect cost, under the standard costing, allocation of total overhead cost
was assigned to the production on the basis of production-run labor cost. For every $1.00
of run, it will cause $4.39 of overhead to be allocated to the product which labor was
applied.

Under the revised costing, the overhead is being divided into material related
overhead and other overhead. The material related overhead includes the receiving and
materials handling cost which has a rate of 48% of material cost and the rest of the
overhead cost is allocated under other overhead. The total overhead under the other
overhead is then divided by the total machine hour, which has a rate of $42.59 per
machine hour.

Below is the summary of the allocation of overhead for each type of costing method.

COSTING DIRECT
INDIRECT COST (OVERHEAD)
METHOD COST
 Machine depreciation
 Material  Set-up labor
 Direct labor  Receiving
 Materials handling
 Engineering
STANDARD
 Packaging and shipping
UNIT COST
 Maintenance

Total Labor run = 9,725 hours x $16

= $155,600
 Overhead rate = 682,688/155,600
= 439%

Material related
Other overhead
 Material overhead
 Direct labor  Machine depreciation
 Set-up cost  Engineering
 Receiving
 Packaging and
REVISED  Materials handling
shipping
UNIT COST
 Maintenance
Overhead absorption
rate
Overhead absorption rate
= $220,000/$458,000
= $460,000/10,800hours
= 48% (material cost
=$42.59/machine hour
basis)

Questions 3
What are the strategic implications of your analysis? What actions would you
recommend to the managers at Destin Brass Products Co?

Valves Pumps Flow Controllers

Standard unit cost $37.56 $63.12 $56.50

Revised standard cost $49.00 $58.95 $47.96
 ABC Total cost per unit $37.76 $48.87 $100.57

As per the above summary calculation, we believe that the activity based costing
system ABC is the best choice for the managers at Destin Brass Products Co in order that
they can solve their over costing problem of their pumps, which covered almost 55% of
the company's revenue, and to maintain their position as a competitive supplier in the
market.
By following the activity based costing system; the company would reduce the pump cost
by almost 30% in comparison to the standard cost and about 20% in comparison to the
revised cost. Although, the ABC system will raised the cost of the flow controllers to
$100.57 (+50%) but we believe that this increased will not affect the company since the
competition in this products is very low and this product is representing only 21% of the
total revenue. The valve price will not have a significant change by applying the ABC
system in comparison to the standard price.

Generally, the activity based costing is the best system for Destin Brass Products Co
to reinforce their position and standing as being competitive in their products pricing.

Question 4
Assume that interest in a new basis for cost accounting at Destin Brass Products
remains high. In the following month, quantities produced and sold, activities, and cost
were all at standard. How much higher or lower would the net income reported under
the activity-transaction-based system be than the net income that will be reported under
the present, more traditional system? Why?

Valves Pumps Flow Controllers

Total production/sold 7,500 units 12,500 units 4,000 units
Cost per unit:
Traditional $37.56 $63.12 $56.50
Activity-transaction-based 37.76 48.87 100.57

Selling price (actual) 57.78 81.26 97.07

NET INCOME (TRADITIONAL)

Flow
Valves Pumps
Controllers
Sales
Valves (7,500 unit x $57.78) 433,350
Pumps (12,500 unit x $81.26) 1,015,750
Flow Controllers (4,000 unit x $97.07) 388,280
Less : Cost of Goods Sold
Valves (7,500 unit x $37.56) 281,700
Pumps (12,500 unit x $63.12) 789,000
Flow Controllers (4,000 unit x $56.50) 226,000
Gross Profit/Net Income 151,650 226,750 162,280
TOTAL NET INCOME 540,680
Gross Margin 35% 22% 42%

NET INCOME (ACTIVITY-TRANSACTION-BASED)

Flow
Valves Pumps
Controllers
Sales
Valves (7,500 unit x $57.78) 433,350
Pumps (12,500 unit x $81.26) 1,015,750
Flow Controllers (4,000 unit x $97.07) 388,280
Less : Cost of Goods Sold
Valves (7,500 unit x $37.76) 283,200
Pumps (12,500 unit x $48.87) 610,875
Flow Controllers (4,000 unit x $100.57) 402,280
Gross Profit/Net Income 150,150 404,875 (14,000)
TOTAL NET INCOME 541,025
Gross Margin 35% 40% (4%)

Based on the above calculation, the net income reported under

activity-transaction-based system is higher than traditional system by $345. This is due to
the difference of gross margin for pumps and flow controllers under the two systems. The
gross margin for valve is same under both systems while pumps and flow controllers is
18% higher and 46% lower than traditional system respectively. Even though flow
controllers gross margin is much lower under activity-transaction-based, but higher gross
margin and higher demand for pumps will generate more revenue to the company and
could cover loss make by flow controllers.