Activity-Based Life-Cycle Costing

Kagle design engineers are in the process of developing a new green product, one that will significantly reduce impact on the environment and yet still provide the desired customer functionality. Currently, two designs are being considered. The manager of Kagle has told the engineers that the cost for the new product cannot exceed $600 per unit (target cost). In the past, the Cost Accounting Department has given estimated costs using a unit-based system. At the request of the Engineering Department, Cost Accounting is providing both unit- and activity-based accounting information (made possible by a recent pilot study producing the activity-based data).

Unit-based system: Variable conversion activity rate: $110 per direct labor hour Material usage rate: $10 per part ABC system: Labor usage: $25 per direct labor hour Material usage (direct materials): $30 per part Machining: $85 per machine hour Purchasing activity: $150 per purchase order Setup activity: $3,800 per setup hour Warranty activity: $550 per returned unit (usually requires extensive rework) Customer repair cost: $35 per repair hour (average)

Activity and Resource Information (annual estimates)
	Design A		Design B
Units produced	20,000		20,000
Direct material usage	340,000	parts	315,000	parts
Labor usage	55,000	hours	125,000	hours
Machine hours	55,000		65,000
Purchase orders	2,000		1,500
Setup hours	750		200
Returned units	1,300		300
Repair time (customer)	2,400		600

Required:

1. Select the lower-cost design using unit-based costing.

Design A

Are logistical and post-purchase activities considered in this analysis?

No

2. Select the lower-cost design using ABC analysis.

Design B

3. What if the post-purchase cost was an environmental contaminant and amounted to $10 per unit for Design A and $40 per unit for Design B? Compute the Post-purchase cost for each design.

	Post-Purchase Cost
Design A
Design B

Assume that the environmental cost is borne by society. Now which is the better design?

Design A

Feedback Area

Feedback

1. Unit-based cost = (Direct materials + Conversion cost) units produced

2. ABC assigns manufacturing costs using both unit and non-unit drivers. It also considers the effects of manufacturing, logistical, and post-purchase activities.

3. Calculate again using new information for post-purchase cost and discuss which would be the better design.

See Example 11.5.

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