1. Describe in words how costs are assigned in the Wilkerson’s current costing system. Discuss the pros and cons of this system.
Wilkerson uses a simple traditional cost accounting system in which each unit of product is charged for direct material, direct labor and overhead costs.
Material cost is based on the prices paid for component under annual purchasing agreements. Labor cost is charged to products based on the standard run times for each product. Labor rates, including fringe benefits, were $25 per hour. The overhead costs are allocated to products as a percentage of production-run direct labor cost. Currently, the overhead rate is 300% of production-run direct labor cost.
The current cost accounting system is consistent with traditional costing system required for external financial reporting. Traditional costing is attractive to financial reporting because it better matches costs with revenues. All manufacturing costs are assigned to products in order to properly match the costs of producing units of product with their revenues when they are sold. Financial reporting standards explicitly require companies to use traditional costing for external reporting purposes.
However, traditional cost accounting methods suffer from several defects that can result in distorted costs for decision-making purposes. All manufacturing costs, even those that are not caused by any specific product, are allocated to products. Nonmanufacturing costs that are caused by products are not assigned to products. Additionally, traditional methods tend to place too much reliance on unit-level allocation bases such as direct labor and machine-hours. This results in overcosting high-volume products and undercosting low-volume products and can lead to mistakes when making decisions.
2. Compute Activity-Based Costing product costs using 1) actual cost driver rates, and 2) capacity-based cost driver rates. Which of these approaches is appropriate for Wilkerson and why?...
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