The management of Gourmet Appliance Company in Exercise 26-14 has asked you to use activity-based costing to allocate factory overhead costs to the two products. You have determined that $57,000 of factory overhead from each of the production departments can be associated with setup activity ($ 114,000 in total). Company records indicate.’ that blenders required 100 setups, while the toaster ovens required only 50 setups. Each product has a production volume of 5,000 units.

(a) Determine the three activity rates (assembly, test and pack and setup).

(b) Determine the total factory overheads and factory overhead per unit allocated to each product using the activity rates in (a).

(a)   Activity rates:

                                                          Assembly                 Test and Pack                     Setup

                                                            Activity                         Activity                         Activity          

       Budgeted activity cost             $   51,000¹                   $   13,000²                  $114,000

       Activity base......................       ÷    2,000  dlh               ÷   2,000 dlh              ÷        150    setups

       Activity rate.......................       $     25.50 /dlh              $     6.50 /dlh             $         760 /setup

          ¹$108,000 − $57,000

          ²$70,000 − $57,000

(b)   Product factory overhead costs:

        Note to Instructors: If you assigned both Ex. 26–14 and Ex. 26–15, then you can make the following observations:

        The activity-based costing approach provides unit factory overhead cost
 information that is opposite to that of the multiple production department factory overhead rate method. The reason is that the multiple production department factory overhead rate method allocates all factory overhead to the products on the basis of direct labor hours. However, factory overhead includes the setup activity. Setup activity is consumed by the products in ratios that are not equal to their direct labor consumption. Indeed, the blender uses twice as much setup activity as the toaster oven. The activity-based costing method correctly accounts for this difference, while the multiple production department factory overhead rate method incorrectly assumes that this activity is equal to both products (proportional to the direct labor hours or volume of production). Thus, the management of Gourmet Appliance should be encouraged to use activity-based costing information for product-based decisions.