Ideal Manufacturing Company of Sycamore, Illinois,
has supported a research and development (R&D) department that has for many
years been the sole contributor to the companyâ€™s new farm machinery products.
The R&D activity is an overhead cost center that provides services only to
in-house manufacturing departments (four different product lines), all of which
produce agricultural/farm/ranch related machinery products. The department has
never sold its services outside, but because of its long history of success,
larger manufacturers of agricultural products have approached Ideal to hire its
R&D department for special projects. Because the costs of operating the
R&D department have been spiraling uncontrollably, Idealâ€™s management is
considering entertaining these outside approaches to absorb the increasing
costs. But, (1) management doesnâ€™t have any cost basis for charging R&D
to outsiders, and (2) it needs to gain control of its
R&D costs. Management decides to implement an activity-based costing system
in order to determine the charges for both outsiders and the in house users of
the departmentâ€™s services.
R&D activities fall into four pools with the following
Market analysis $1,050,000
Product design 2,350,000
Product development 3,600,000
Prototype testing 1,400,000
Activity analysis determines that the appropriate cost
drivers and their usage for the four activities
Activities Cost Drivers Estimated Drivers
Market analysis Hours of analysis 15,000 hours
Product design Number of designs 2,500 designs
Product development Number of products 90 products
Prototype testing Number of tests 500 tests
(a) Compute the activity-based overhead rate for each
activity cost pool.
(b) How much cost would be charged to an in-house
manufacturing department that consumed
1,800 hours of market analysis time, was provided 280
designs relating to 10 products, and
requested 92 engineering tests?
(c) How much cost would serve as the basis for pricing an
R&D bid with an outside company
on a contract that would consume 800 hours of analysis time,
require 178 designs relating to
3 products, and result in 70 engineering tests?
(d) What is the benefit to Ideal Manufacturing of applying
activity-based costing to its R&D activity
for both in-house and outside charging purposes?
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