Q1.

Calculate the revised product cost for the four (4) pens based on the activity information
collected by Dempsey?
Ans – From the following table we can find that the true returns on sales are different from
the given method of traditional based costing
  Blue Black Red Purple Total
Sales 75000 60000 13950 1650 150600
Material Costs 25000 20000 4680 550 50230
Direct Labor 10000 8000 1800 200 20000
Handle Production
Batches 7333 7333 5573 1760 21999
Set Up Time 4259 1065 4855 1022 11201
Parts Administration 1200 1200 1200 1200 4800
Machine Support 7000 5600 1260 140 14000
Direct Labor Fringe 4000 3200 720 80 8000
Total Production Cost 58792 46398 20088 4952 130230
Total Operating
Income 16208 13602 -6138 -3302 20370
Return on Sales 21.61% 22.67% -44.00% -200.12% 13.53%

Q2. What actions are stimulated by the ABC product costs?

Ans – From the above figure and Exhibit 1 given in the case, we can derive the following
results.
The difference between the traditional returns on sales and ABC is
1. For Blue – Traditional is 13.6% while ABC gives 21.6% return on sales. Thus Blue
pens are more profitable than expected.
2. For Black – Traditional is 13.3% while ABC gives 22.67% return on sales. Thus
Black pens are more profitable than expected.
3. For Red – Traditional is 14.8% while ABC gives -44% return on sales. Thus Red pens
are making loss of approximately 44%
4. For Purple – Traditional gives 13.5% while ABC gives -200.12% return on sales.
Thus purple pens are making twice the loss than their investment costs.
From this we can conclude that Purple and Red pens need to be stopped in production or their
manufacturing units should be increased (if there is anticipated demand) so that they are able
to return profits by having less setup time in comparison to production run (quantity produced
per setup run) so that the fixed overheads decrease, thereby increasing overall return on sales.