Cost Management: A Strategic Emphasis 5th Edition by David Stout, Edward Blocher, Gary Cokins

Exercise 16

Activity-Based Costing Miami Valley Architects Inc. provides a wide range of engineering and architectural consulting services through its three branch offices in Columbus, Cincinnati, and Dayton, Ohio. The company allocates resources and bonuses to the three branches based on the net income of the period. The results of the firm’s performance for the year 2010 follows ($ in thousands):

	Columbus	Cincinnati	Dayton	Total
Sales	$1,500	$1,419	$1,067	$3,986
Less: Direct labor	382	317	317	1,016
Direct materials	281	421	185	887
Overhead	710	589	589	1,888
Net income	$ 127	$ 92	$ (24)	$ 195

Miami Valley accumulates overhead items in one overhead pool and allocates it to the branches based on direct labor dollars. For 2010, this predetermined overhead rate was $1.859 for every direct labor dollar incurred by an office. The overhead pool includes rent, depreciation, and taxes, regardless of which office incurred the expense. Some branch managers complain that the overhead allocation method forces them to absorb a portion of the overhead incurred by the other offices.

Management is concerned with the 2010 operating results. During a review of overhead expenses, management noticed that many overhead items were clearly not correlated to the movement in direct labor dollars as previously assumed. Management decided that applying overhead based on activity-based costing and direct tracing wherever possible should provide a more accurate picture of the profitability of each branch.

An analysis of the overhead revealed that the following dollars for rent, utilities, depreciation, and taxes could be traced directly to the office that incurred the overhead ($ in thousands):

	Columbus	Cincinnati	Dayton	Total
Direct overhead	$180	$270	$177	$627

Activity pools and their corresponding cost drivers were determined from the accounting records and staff surveys as follows:

General administration	$ 409,000
Project costing	48,000
Accounts payable/receiving	139,000
Accounts receivable	47,000
Payroll/Mail sort and delivery	30,000
Personnel recruiting	38,000
Employee insurance processing	14,000
Proposals	139,000
Sales meetings/Sales aids	202,000
Shipping	24,000
Ordering	48,000
Duplicating costs	46,000
Blueprinting	77,000
	$1,261,000

	Volume of Cost Drivers by Location
Cost Driver	Columbus	Cincinnati	Dayton
Direct labor cost	$ 382,413	317,086	317,188
Timesheet entries	6,000	3,800	3,500
Vendor invoices	1,020	850	400
Client invoices	588	444	96
Employees	23	26	18
New hires	8	4	7
Insurance claims filed	230	260	180
Proposals	200	250	60
Contracted sales	1,824,439	1,399,617	571,208
Projects shipped	99	124	30
Purchase orders	135	110	80
Copies duplicated	162,500	146,250	65,000
Blueprints	39,000	31,200	16,000

Required (Round all answers to thousands)

1. What overhead costs should be assigned to each branch based on ABC concepts?

2. What is the contribution of each branch before subtracting the results obtained in requirement 1?

3. What is the profitability of each branch office using ABC?

4. Evaluate the concerns of management regarding the volume-based cost technique currently used.

Step 1 of 3

(“Miami Valley Architects, Inc.”  by Beth M. Chaffman, and John Talbott,  Management Accounting Campus Report, Fall 1992, p.4)

1.?Overhead Cost assigned to each branch under the ABC costing:

?	Columbus	Cincinnati	Dayton	Total	?
Direct labor dollar	37.61%	31.19%	31.20%	100%
Timesheet entries	45.11	28.57	26.32	100
Vendor invoices	44.93	37.44	17.62	100
Client invoices	52.13	39.36	8.51	100
Employees	34.33	38.81	26.87	100
New hires	42.11	21.05	36.84	100
Insurance claims filed	34.33	38.81	26.87	100
Proposals	39.22	49.02	11.76	100
Contracted sales	48.07	36.88	15.05	100
Projects shipped	39.13	49.01	11.86	100
Purchase orders	41.54	33.85	24.62	100
Copies duplicated	43.48	39.13	17.39	100
Blueprints	45.24	36.19	18.56	100

Activity-based overhead allocation    (000s)				?	?	?
?	Colum.	Cinci.	Dayton	Total	Cost Driver
General administration	$153.84	$127.56	$127.60	$   409	Direct labor dollar
Project costing	21.65	13.71	12.63	48	Timesheet entries
Accounts payable/receiving	62.46	52.05	24.49	139	Vendor invoices
Accounts receivable	24.50	18.50	4.00	47	Client invoices
Payroll/Mail sort & delivery	10.30	11.64	8.06	30	Employees
Personnel recruiting	16.00	8.00	14.00	38	New hires
Employee insurance process.	4.81	5.43	3.76	14	Insurance claims filed
Proposals	54.51	68.14	16.35	139	Proposals
Sales meetings/Sales aids	97.10	74.49	30.40	202	Contracted sales
Shipping	9.39	11.76	2.85	24	Projects shipped
Ordering	19.94	16.25	11.82	48	Purchase orders
Duplicating costs	20.00	18.00	8.00	46	Copies duplicated
Blueprinting	34.84	27.87	14.29	77	Blueprints
Total	$529.34	$453.40	$278.25	$1,261	?	?

Calculation for general administration allocated to branches:

Total direct labor dollar: $382,413 + $317,086 + $317,188 = $1,016,687 

Allocation of general administration based on direct labor dollar:

?	Proportion	Allocated Amount
Columbus	$382,413 / $1,016,687 = 37.61%	$409 x 37.61% = $153.84
Cincinnati	$317,086 / $1,016,687 = 31.19%	$409 x 31.19% = $127.56
Dayton	$317,188 / $1,016,687 = 31.20%	$409 x 31.20% = $127.60