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Kitchen Supply, Inc. (KSI), manufactures three types of flatware: institutional, standard, and silver. It applies all indirect costs according to a predetermined rate based on direct labor-hours. A consultant recently suggested that the company switch to an activity-based costing system and prepared the following cost estimates for year 2 for the recommended cost drivers.

Activity

Recommended Cost Driver

Estimated Cost

Estimated Cost Driver Activity

Processing orders

Number of orders

$ 54,000

200 orders

Setting up production

Number of production runs

216,000

100 runs

Handling materials

Pounds of materials used

360,000

120,000 pounds

Machine depreciation and maintenance

Machine-hours

288,000

12,000 hours

Performing quality control

Number of inspections

72,000

45 inspections

Packing

Number of units

144,000

480,000 units

Total estimated cost

$1,134,000

In addition, management estimated 7,500 direct labor-hours for year 2.

Assume that the following cost driver volumes occurred in January, year 2.

Institutional

Standard

Silver

Number of units produced

60,000

24,000

9,000

Direct materials costs

$39,000

$24,000

$15,000

Direct labor-hours

450

450

600

Number of orders

12

9

6

Number of production runs

3

3

6

Pounds of material

15,000

6,000

3,000

Machine-hours

580

140

80

Number of inspections

3

3

3

Units shipped

60,000

24,000

9,000

Actual labor costs were $15 per hour.

Required

a.Compute a predetermined overhead rate for year 2 for each cost driver using the estimated costs and estimated cost driver units prepared by the consultant. Also compute a predetermined rate for year 2 using direct labor-hours as the allocation base.

b.Compute the production costs for each product for January using direct labor-hours as the allocation base and the predetermined rate computed in requirement (a).

c.Compute the production costs for each product for January using the cost drivers recommended by the consultant and the predetermined rates computed in requirement (a). (Note:Do not assume that total overhead applied to products in January will be the same for activity-based costing as it was for the labor-hour-based allocation.)

d.Management has seen your numbers and wants an explanation for the discrepancy between the product costs using direct labor-hours as the allocation base and the product costs using activity-based costing. Write a brief response to management.

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