Fundamentals of Cost Accounting 3rd Edition by William N. Lanen, Shannon W. Anderson, Michael Maher

Exercise 29

Activity-Based versus Traditional Costing—Ethical Issues

Wendy Chen established Windy City Coaching (WCC) to provide teen counseling and executive coaching services to its clients. WCC charges a $300 fee per hour for each service. The revenues and costs for the year are shown in the following income statement:

WINDY CITY COACHING Income Statement
	Teen Counseling	Executive Coaching	Total
Revenue	$66,000	$135,000	$201,000
Expenses:
Administrative support.			40,000
Transportation, etc			36,000
Equipment			20,000
Profit			$105,000

WCC has kept good records of the following data for cost allocation purposes:

		Activity Level
Activity	Cost Driver	Teen Counseling	Executive Coaching
Providing administrative support	Number of clients	6	4
Traveling	Number of visits	100	150
Using equipment	Computer hours	900	700

Required

a.Complete the income statement using activity-based costing and WCC's three cost drivers.

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b.Recompute the income statement using direct labor-hours as the only allocation base (220 hours for teen counseling; 450 hours for executive coaching).

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c.How might WCC's decisions regarding pricing or dropping a service be altered if Wendy were to allocate all overhead costs using direct labor-hours?

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d.Under what circumstances would the labor-based allocation and activity-based costing (using Wendy's three cost drivers) result in similar profit results?

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e.A local nonprofit charity is looking for worthy causes to support through financial grants. A primary criterion for support is financial need. Wendy is thinking of applying for support for the teen counseling program. Which allocation method would give her the best chance of winning a grant? Would it be ethical for Wendy to report the income using this method in her application?

Step 1 of 26

Activity-based Costing:

Activity-based Costing which is more popularly known as ABC method is an accounting method in which the firms identify the various activities and then assigns indirect costs incurred to carry out those activities.