Product Profitability – ABM/ABC – Part III
Step-7: Calculate rate per unit of cost driver
The rate per unit of cost driver can be calculated using the following formula:
Cost of Activities (step 5)/ Volume of activities (Step 6)
Using the above formula the rate per unit of cost driver for each of the identified operating activities is given in the table below:
|
Sl. |
Name of operating activities |
Cost the activities (Step 5) |
Budgeted total qty of cost driver/month |
Rate per unit of Cost Driver |
||||
|
a |
b |
c |
a |
B |
c |
|||
| 1 | In-bound logistics |
10,060 |
9,925 |
9,951 |
10,000 |
1.06/lb |
0.99/lb |
1.00/lb |
| 2 | Machining |
213,510 |
214,147 |
21,4225 |
240 MH |
889.63/MH |
892.28/MH |
892.60/MH |
| 3 | Quality Control |
32,079 |
32,038 |
32,077 |
50 QCT |
641.58/QCT |
640.76/QCT |
641.54/QCT |
| 4 | Packaging |
7,353 |
7,368 |
7,360 |
1200 LH |
6.13/LH |
6.13/LH |
6.13/LH |
| 5 | Out-bound logistics |
12,583 |
12,488 |
12,508 |
25000 Pcs |
0.50/Pc |
0.50/Pc |
0.50/Pc |
| 6 | Selling & distribution |
31,562 |
31,401 |
31,223 |
36,000 MRH |
0.88/MRH |
0.87/MRH |
0.87/MRH |
| 7 | Marketing |
22,853 |
22,633 |
22,656 |
3,920,000 USD |
0.01/USD |
0.01/USD |
0.01/USD |
a) Direct allocation b) Step-down allocation c) Reciprocal allocation method
Step-8: Allocate costs of operating activities to products
In an ABC system cost of operating activities will finally be allocated to the cost objects (here the products) using the following formula:
= Rate per unit of cost driver (calculated in Step 7) times Quantity of cost drivers consumed by the the each of the products (identified in Step 6)
The table below shows the allocated amount of cost of operating activities (under all the three options of support costs allocation method) to Product A and Product B using the above formula:
|
Name of operating activities |
Costs allocated to Product A |
Costs allocated to Product B |
||||
|
A |
b |
c |
a |
B |
c |
|
| In-bound logistics |
6,036 |
5,955 |
5,971 |
4,024 |
3,970 |
3,980 |
| Machining |
88,963 |
89,228 |
89,260 |
124,548 |
124,919 |
124,965 |
| Quality Control |
16,040 |
16,019 |
16,039 |
16,040 |
16,019 |
16,039 |
| Packaging |
4,289 |
4,298 |
4,293 |
3,064 |
3,070 |
3,067 |
| Out-bound logistics |
7,550 |
7,493 |
7,505 |
5,033 |
4,995 |
5,003 |
| Selling & distribution |
17,534 |
17,445 |
17,346 |
14,028 |
13,956 |
13,877 |
| Marketing |
11,660 |
11,547 |
11,559 |
11,193 |
11,086 |
11,097 |
| Total |
152,071 |
151,985 |
151,973 |
177,929 |
178,015 |
178,027 |
a) Direct allocation b) Step-down allocation c) Reciprocal allocation method
As it is seen above (in step 7) that rate per unit of cost driver has been calculated based on budgeted consumption of costs drivers, the actual consumption of cost drivers may be different from that.
And also in most cases, to estimate the rate per unit of cost drivers, budgeted amount of costs of activities are allocated to cost objects. Therefore, actual overhead costs may be higher or less than the allocated amount, which is called under-application or over-application of overhead costs. Then under/over application of overhead costs are then charged to/ adjusted with cost (or inventory of goods) at the time of preparing P&L statement.
PRODUCT P&L:
|
Basis |
Product A |
Product B |
||||||
|
a |
b |
c |
a |
b |
c |
|||
| Sales Revenue |
2,000,000 |
2,000,000 |
2,000,000 |
1,920,000 |
1,920,000 |
1,920,000 |
||
| Less: Cost of goods sold | ||||||||
| Raw material | Direct tracing |
40,000 |
40,000 |
40,000 |
60,000 |
60,000 |
60,000 |
|
| Packing material | Direct tracing |
11,250 |
11,250 |
11,250 |
13,750 |
13,750 |
13,750 |
|
| Wages (direct portion) | Direct tracing |
1100 |
1,100 |
1,100 |
900 |
900 |
900 |
|
| Manufacturing overhead allocated | Allocated in step-8 |
122,877 |
122,993 |
123,068 |
152,708 |
152,973 |
153,053 |
|
| Under/ (over) applied of manufacturing overhead | N/A | – | – | – | – | – | – | |
| COGS |
175,227 |
175,343 |
175,418 |
227,358 |
227,623 |
227,703 |
||
| Gross Profit |
1,824,773 |
1,824,657 |
1,824,582 |
1,692,642 |
1,692,377 |
1,692,297 |
||
| Less: Marketing selling & distribution | ||||||||
| physician pack | Direct tracing |
6000 |
6,000 |
6,000 |
4,000 |
4,000 |
4,000 |
|
| Sales incentive | Direct tracing |
4000 |
4,000 |
4,000 |
6,000 |
6,000 |
6,000 |
|
| Indirect portion allocated | Allocated |
29,194 |
28,992 |
28,905 |
25,221 |
25,042 |
24,974 |
|
| Under/ (over) applied | N/A | – | – | – | – | – | – | |
| Total mkt., sell. & dist. |
39,194 |
38,992 |
38,905 |
35,221 |
35,042 |
34,974 |
||
| Operating Profit |
1,785,579 |
1,785,665 |
1,785,677 |
1,657,421 |
1,657,335 |
1,657,323 |
||
a) Direct allocation b) Step-down allocation c) Reciprocal allocation method