Quality Pool Accessory Ltd manufactures a variety of accessory equipment for swimming pools. For many years the company has used a traditional product costing system with direct labour hours as the only cost driver for overhead application. The firm is organised into five departments, listed below with the key activities performed by each:
(a) Production Support Department (purchasing, receiving, inventory control, material handling. engineering, quality control and shipping).
(b) Machinery Department (equipment maintenance and equipment setup).
(c) Cutting Department (cutting out metal and other parts to be used in various products).
(d) Fabrication Department (forming and trimming operations on various parts and components).
(e) Assembly Department (assembly of final products).
The pool accessory industry has recently experienced a significant reduction in demand as increasing water prices have forced many pool owners to convert their swimming pools into more water-efficient gardens. As a result, Quality Pool Accessory’s profits have been squeezed. In response, the firm has moved to increase production efficiency and altered its accounting system to get a more accurate picture of its product costs. The aim is to enable management to price products more competitively. The most significant change in the accounting system is the introduction of departmental overhead rates. The cost drivers used in the three production departments are the following:
(a) Cutting (machine hours).
(b) Fabrication (number of parts processed).
(c) Assembly (direct labour hours).
So far, the new accounting system seems to be effective. Management feel that the reported product costs are more in line with their intuition about what various products cost to manufacture. The accounting manager, however, is considering further improvement in the accounting system through the introduction of activity-based costing.
Draw three diagrams to depict the three different product costing systems discussed in the above description:
(a) The former system, which uses a plantwide overhead rate.
(b) The current system, which uses three departmental overhead rates.
(c) The contemplated system, which will use activity-based costing to assign manufacturing overhead costs to products.
2. For the activity-based costing system, suggest the activity cost pools and activity drivers that could be used.