Peach Bags PB is a designer of highquality backpacks and pur

Peach Bags (PB) is a designer of high-quality backpacks and purses. Each design is made in small batches. Each spring, PB comes out with new designs for the backpack and for the purse. The company uses these designs for a year and then moves on to the next trend. The bags are all made on the same fabrication equipment that is expected to operate at capacity. The equipment must be switched over to a new design and set up to prepare for the production of each new batch of products. When completed, each batch of products is immediately shipped to a wholesaler. Shipping costs vary with the number of shipments. Budgeted information for the year is as follows:

Peach Bags

Budget for Costs and Activities

For the Year Ended February 28, 2014

Direct materials—purses

$323,200

Direct materials—backpacks

456,000

Direct manufacturing labor—purses

102,400

Direct manufacturing labor—backpacks

99,000

Setup

17,000

Shipping

73,000

Design

166,000

Plant utilities and administration

212,000

Total

$1,448,600

Other budget information follows:

Backpacks

Purses

Total

Number of bags

6,000

3,200

9,200

Hours of production

1,500

2,500

4,000

Number of batches

120

80

200

Number of designs

2

2

4

1.

Identify the cost hierarchy level for each cost category.

2.

Identify the most appropriate cost driver for each cost category. Explain briefly your choice of cost driver.

3.

Calculate the budgeted cost per unit of cost driver for each cost category.

4.

Calculate the budgeted total costs and cost per unit for each product line.

5.

Explain how you could use the information in requirement 4 to reduce costs.

Peach Bags
Budget for Costs and Activities
For the Year Ended February 28, 2014
Direct materials—purses		$323,200
Direct materials—backpacks		456,000
Direct manufacturing labor—purses	102,400
Direct manufacturing labor—backpacks	99,000
Setup			17,000
Shipping			73,000
Design			166,000
Plant utilities and administration		212,000
Total			$1,448,600
Other budget information follows:
	Backpacks	Purses	Total
Number of bags	6,000	3,200	9,200
Hours of production	1,500	2,500	4,000
Number of batches	120	80	200
Number of designs	2	2	4

Solution

Answer:

1

Direct materials—purses

Output unit-level costs

Direct materials—backpacks

Output unit-level costs

Direct manufacturing labor—purses

Output unit-level costs

Direct manufacturing labor—backpacks

Output unit-level costs

Setup

Batch-level costs

Shipping

Batch-level costs

Design

Product-sustaining costs

Plant utilities and administration

Facility-sustaining costs

2

Direct materials—purses

Number of purses

Direct materials—backpacks

Number of backpacks

Direct manufacturing labor—purses

Number of purses

Direct manufacturing labor—backpacks

Number of backpacks

Setup

Number of batches

Shipping

Number of batches

Design

Number of designs

Plant utilities and administration

Hours of production

Direct material and direct manufacturing labor are costs that can be easily traced to output, which in this case is the number of purses or backpacks produced. Setup and shipping are both a function of the number of batches produced.

Design is related to the number of designs created for each product.

Plant utilities and administration result from general activity level in the plant. Thus, hours of production seems to be an appropriate cost driver.

3

Direct materials—purses

$323,200 ÷ 3200 purses = $101 per purse

Direct materials—backpacks

$456,000 ÷ 6,000 backpacks = $76 per backpack

Direct manufacturing labor—purses

$102,400 ÷ 3200 purses = $32.0 per purse

Direct manufacturing labor—backpacks

$99,000 ÷ 6,000 backpacks = $16.50 per backpack

Setup

$17,000 ¸ 200 batches = $85 per batch

Shipping

$73,000 ¸ 200 batches = $365 per batch

Design

$166,000 ÷ 4 designs = $41,500 per design

Plant utilities and administration

$212,000 ÷ 4,000 hours = $53 per hour

4

Backpacks

Purses

Total

Direct materials

$456,000

$323,200

$779,200

Direct manufacturing labor

99,000

102,400

$201,400

Setup       ($85 × 120; 80 batches)

10,200

6,800

$17,000

Shipping ($365 × 120; 80 batches)

43,800

29,200

$73,000

Design     ($41.500 × 2; 2 designs)

83,000

83,000

$166,000

Plant utilities and administration

79,500

132,500

$212,000

($53 × 1,500; 2,500 hours)

Budgeted total costs

$771,500

$677,100

$1,448,600

Divided by number of backpacks/purses

   ÷ 6,000

÷ 3,200

Budgeted cost per backpack/purse

$128.58

$211.59

5

As we can see that, more than 50% of the product cost related to the direct material. So managers must determine whether they can reduced the cost of direct material . if they produce in small lots then it will increases cost like setup and the shipping costs but we can see that they are relatively small components of the product cost, management should evaluate ways for reducing number of setups and cost per setup. from indirect costs, we can see that product- and facility-sustaining costs are the highest. Management must review the design process for savings the cost and they should examine why it takes so long to produce purses relative to backpacks.

Direct materials—purses	Output unit-level costs
Direct materials—backpacks	Output unit-level costs
Direct manufacturing labor—purses	Output unit-level costs
Direct manufacturing labor—backpacks	Output unit-level costs
Setup	Batch-level costs
Shipping	Batch-level costs
Design	Product-sustaining costs
Plant utilities and administration	Facility-sustaining costs