-Can You please answer this in the form of sentences, and add your reasoning. CP
ID: 2567879 • Letter: #
Question
-Can You please answer this in the form of sentences, and add your reasoning.
CP 26-2 Identifying product cost distortion Beachside Beverages Company manufactures soft drinks. Information about two products is as follows: Sales Price per Case Gross Profit per Case Volume 800,000 cases 0,000 cases $30 30 $12 12 Storm Soda Fizz Wiz It is known that both products have the same direct materials and direct labor costs per case. Beachside Beverages allocates factory overhead to products by using a single plantwide factory overhead rate, based on direct labor cost. Additional information about the two products is as follows: Storm Soda: Requires minor process preparation and sterilization prior to processing. The ingredients are acquired locally. The formulation is simple, and it is easy to maintain quality. Lastly, the product is sold in large bulk (full truckload) orders. Fizz Wiz: Requires extensive process preparation and sterilization prior to processing. The ingredients are from Jamaica, requiring complex import controls. The formulation is complex, and it is thus difficult to maintain quality. Lastly, the product is sold in small (less than full truckload) orders. Explain the product profitability report in light of the additional data.Explanation / Answer
Since the overhead is allocated based on plant wide single overhead rate, based on direct labor, there is distortion in computing the cost.
Direct cost of both the products is same. But there is distortion in allocation of overheads:
Fizz Wiz requires extensive process preparation. So its fixed cost should be higher than Storm soda.
Cost of indirect materials are also higher for Fizz Wiz(imported from Jamaica requiring strict control)
Cost of quality of Fizz Wiz is also higher than Storm soda.
Since, Fizz Wiz is sold in small orders (in less than truckloads) cost of distribution is also higher than Storm soda.
The company should use Activity based costing and cost pools like process preparation and sterilization, Quality costs, distribution costs etc and allocate the overhead cost to products based on actual cost incurred on process preparation, quality, indirect materials and distribution.
Activity based costing will accurately reflect the actual costs and profitability of the two products.
Because of the cost distortion , there may be distortion in pricing
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