Simple Costing System Using a Single Indirect-Cost Pool

Plastim currently has a simple costing system that allocates indirect costs using a single ­indirect-cost rate, the type of system described in Chapter 4. The only difference between these two chapters is that Chapter 4 focuses on jobs while here the cost objects are products. Exhibit 5-1 shows an overview of Plastim’s simple costing system. Use this exhibit as a guide as you study the following steps, each of which is marked in Exhibit 5-1.

Exhibit 5-1

Overview of Plastim’s Simple Costing System

A flowchart shows the overview model of Plastim’s simple costing system.
The details of the steps from top to bottom are as follows: Step 1: Cost object includes S3 and C5 lenses. Step 2: Direct costs includes direct materials and direct manufacturing labor. Step 3: Cost-allocation base includes 39,750 direct manufacturing labor-hours. Step 4: Indirect cost pool includes all indirect costs of dollar 2,385,000 Step 5: Includes dollar 60 per Direct Manufacturing Labor-Hour. Step 6: Includes indirect Costs Step 7: Includes both direct as well as indirect costs
  1. Step 1: IDENTIFY THE PRODUCTS THAT ARE THE CHOSEN COST OBJECTS. The cost objects are the 60,000 simple S3 lenses and the 15,000 complex C5 lenses that Plastim will produce in 2020. Plastim’s management accountants first calculate the total costs and then the unit cost of designing, manufacturing, and distributing lenses.
  2. Step 2: IDENTIFY THE DIRECT COSTS OF THE PRODUCTS. The direct costs are direct materials and direct manufacturing labor. Exhibit 5-2 shows the direct and indirect costs for the S3 and the C5 lenses using the simple costing system. The direct-cost calculations appear on lines 5, 6, and 7 in Exhibit 5-2. Plastim’s simple costing system classifies all costs other than direct materials and direct manufacturing labor as indirect costs.

Exhibit 5-2

Plastim’s Product Costs Using the Simple Costing System

A screenshot of a spreadsheet depicts Plastim’s costs for 60,000 simple lenses and 15,000 complex lenses.

  1. Simple lenses: The total and per unit costs (calculated by dividing the total costs by 60,000) are as follows:

    1. Direct materials: dollar 1,125,000; dollar 18.75

    2. Direct manufacturing labor: 600,000; 10.00

    3. Total direct costs (Step 2): 1,725,000; 28.75

    4. Indirect costs allocated (Step 6): 1,800,000; 30.00

    5. Total costs (Step 7): dollar 3,525,000; dollar 58.75

  2. Complex lenses: The total and per unit costs (calculated by dividing the total costs by 15,000) are as follows:

    1. Direct materials: dollar 675,000; dollar 45.00

    2. Direct manufacturing labor: 195,000; 13.00

    3. Total direct costs (Step 2): 870,000; 58.00

    4. Indirect costs allocated (Step 6): 585,000; 39.00

    5. Total costs (Step 7): dollar 1,455,000; dollar 97.00

  3. Total: (calculated by adding the total costs of simple and complex lenses) are as follows:

    1. Direct materials: dollar 1,800,000

    2. Direct manufacturing labor: 795,000

    3. Total direct costs (Step 2): 2,595,000

    4. Indirect costs allocated (Step 6): 2,385,000

    5. Total costs (Step 7): dollar 4,980,000.

  1. Step 3: SELECT THE COST-ALLOCATION BASES TO USE FOR ALLOCATING INDIRECT (OR OVERHEAD) COSTS TO THE PRODUCTS. A majority of the indirect costs consists of salaries paid to supervisors, engineers, manufacturing support, and maintenance staff who support direct manufacturing labor. Plastim’s managers use direct manufacturing labor-hours as the only allocation base to allocate all manufacturing and nonmanufacturing indirect costs to S3 and C5. Historically, many companies used such simple costing systems because overhead costs were only a small component of costs and because a single cost driver accurately reflected how overhead resources were used. In 2020, Plastim’s managers budget 39,750 direct manufacturing labor-hours.
  2. Step 4: IDENTIFY THE INDIRECT COSTS ASSOCIATED WITH EACH COST-ALLOCATION BASE. Because Plastim uses only a single cost-allocation base, Plastim’s management accountants group all budgeted indirect costs of $2,385,000 for 2020 into a single overhead cost pool.
  3. Step 5: COMPUTE THE RATE PER UNIT OF EACH COST-ALLOCATION BASE.

Budgeted indirect‐cost rate=Budgeted total costs in indirect‐cost poolBudgeted total quantity of cost‐allocation base=$2,385,00039,750 direct manufacturing labor‐hours=$60 per direct manufacturing labor‐hour  

  1. Step 6: COMPUTE THE INDIRECT COSTS ALLOCATED TO THE PRODUCTS. Plastim’s managers budget 30,000 total direct manufacturing labor-hours to make the 60,000 S3 lenses and 9,750 total direct manufacturing labor-hours to make the 15,000 C5 lenses. Exhibit 5-2 shows indirect costs of $1,800,000 ($60 per direct manufacturing labor-hour×30,000 direct manufacturing labor-hours)  alloca­ted to the simple lens and $585,000 ($60 per direct manufacturing labor-hour×9,750 direct manufacturing labor-hours)  allocated to the complex lens.
  2. Step 7: COMPUTE THE TOTAL COST OF THE PRODUCTS BY ADDING ALL DIRECT AND INDIRECT COSTS ASSIGNED TO THE PRODUCTS. Exhibit 5-2 presents the product costs for the simple and complex lenses. The direct costs are calculated in Step 2 and the indirect costs in Step 6. Be sure you see the parallel between the simple costing system overview diagram (Exhibit 5-1) and the costs calculated in Step 7. Exhibit 5-1 shows two direct-cost categories and one indirect-cost category. Therefore, the budgeted cost of each type of lens in Step 7 (Exhibit 5-2) has three line items: two for direct costs and one for allocated indirect costs. It is very helpful to draw overview diagrams to see the big picture of costing systems before getting into the detailed costing of products and services. The budgeted cost per S3 lens is $58.75, well above the $53 selling price quoted by Bandix. The budgeted cost per C5 lens is $97.

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