Happy Cat, Inc., makes two lines of cat food: (1) Tabby Treat, and (2) Fresh n’ Fishy. The Tabby Treat line is a dry food that is processed almost entirely by an automated process. Fresh n’ Fishy is a canned food made with real carp from the Mississippi River. Each carp is filleted by hand before being tossed into an automated grinding and canning machine. Tabby Treat sells very well and is priced significantly below competitive brands. Sales of Fresh n’ Fishy have been on the decline, as the company has failed to keep the brand price competitive. Other information concerning each product line is provided below.
The company currently allocates manufacturing overhead to each product line on the basis of direct labor hours. Budgeted manufacturing overhead per month is $60,000, whereas budgeted direct labor hours amount to 15,000 per month. Happy Cat recently hired a consultant to examine its cost accounting system. The consultant recommends that the company adopt activity-based costing to allocate manufacturing overhead. He proposes that the following cost pools and cost drivers be used:
The amount of driver activity corresponding to each product line is as follows:
Instructions a. Allocate manufacturing overhead costs to each product line using direct labor hours as a single cost driver. b. Allocate manufacturing overhead costs to each product line using the activity-based costing approach recommended by the consultant. c. Compute the total monthly manufacturing costs assigned to each product line when activity based costing is used to allocate manufacturing overhead. d. Assume that the company sets selling prices as a fixed percentage above the total manufacturing costs allocated to each product line. On the basis of your results from parts (a) and (b), discuss a possible reason why sales of the Fresh n’ Fishy product line are currently experiencing a decline. e. Discuss reasons why the company should adopt the recommendation of the consultant to implement an activity-based costingsystem.