Using ABC to improve product costing
Extrusions Unlimited produces metal component parts for companies in the construction supply business.
All of the components it produces involve metal extrusion at some stage of the manufacturing process. The company has recently implemented an ABC system for three of its products and is interested in evaluating its effectiveness before converting to an ABC system for all products. To perform this evaluation the company has compiled data for the three products using both the traditional system and the new ABC system. The traditional system used a single driver (direct material costs). The ABC system uses a variety of cost drivers related to the activities used to produce the metal products. The three products involved in the trial run of the ABC system were aluminum door frames, aluminum window frames, and anodized metal lettering and frames used for signs. The following data relate to these products.
CostingCost per Foot.
ABCCosts per Foot.
a. Determine the gross profit margin for each product produced based on the ABC data [(selling
price – ABC cost per foot) × feet produced].
b. Determine the gross profit margin for each product produced based on the traditional costing data
[(selling price – traditional cost per foot) × feet produced].
c. Provide an explanation as to why the cost of metal signs may have increased under the ABC system while the cost of door frames decreased.
d. Suggest what action management might take with respect to the discoveries resulting from the ABC versus traditional costing analysis. Assume that Extrusions Unlimited expects to produce a gross profit margin on each product of at least 40 percent of the selling price.