ABC Costing

Medium Practice Test

Cost Accounting

Medium Practice Test

Click the “Check Your Answer” box below each question to reveal the correct answer and explanation.

1. Using activity based costing that is designed for internal decision making is not in accordance with GAAP because

a. some non manufacturing overhead costs are assigned to products
b. all manufacturing costs are allocated to products
c. the allocation is subject to management judgement
d. direct costs are allocated


A. Under GAAP, only product costs are assigned to products and are inventory costs and period costs must be expensed. Under ABC costing, all overhead costs, whether manufacturing or administrative can be assigned to the product in order to determine the profitability of the product.

2. A traditional cost system is similar to an activity based costing system in the way

a. direct costs are allocated based on activities
b. cost allocation pools are determined
c. indirect costs are related to an activity
d. all company costs are allocated to the product


C. Both costing methods allocate overhead costs, which are indirect, based on an activity. Under a traditional cost system cost pools are not used, there is only one overhead rate. (b.). Direct costs are not allocated. (a.) Not all company costs are allocated, organization sustaining activities are not allocated to specific products or customers.

3. One cost driver is required for each

a. cost pool
b. unit level activity
c. type of service
d. product line


A. The cost pool is accumulated for each activity. The answer must be in a form of dollars so that the dollars can be allocated.

4. ABC can be used by management to manage which of the following?

a. the quality of service
b. customer profitability
c. direct material costs
d. production line assembly workers


 B. ABC is related to overhead allocation and direct material and direct labor are not allocated (c. & d.). The quality of service can not be measured, so ABC is not very applicable. ABC is used to identify the cost of providing a good or service and management can use this information to set the price and manage customer profitability.

5. Which of the following is never a benefit to a company that uses ABC?

a. identify non value added activities
b. increasing profits
c. motivating employees to be more efficient
d. reduced accounting costs


D. An ABC system is more costly due to the time it takes to accumulate and analyze data. All of the other items are typical benefits of using activity based costing.

6. A company will produce more accurate product costing information by using

a. one rate based on units
b. various department based rates
c. various cost pools and activity based rates
d. none of the above is considered more accurate than the others


C. Matching costs with the activity that creates the cost is considered more accurate than using one general overhead rate. Departments often do more than one activity and grouping all department costs with a single activity is not as accurate as many cost pools matched with the associated activity.

7. An ABC system is done using the following procedures

a. all overhead costs are expensed as incurred
b. overhead costs are associated with activities and then the cost is allocated to a product or service based on activity
c. overhead costs are allocated to products and then traced to activities
d. pools of costs are accumulated and then activity is determined


B. The activity is identified first and then overhead costs are associated with the activity. Manufacturing overhead costs are product costs and are not expensed as incurred. (a.)

8. Batch level costs are allocated based on

a. total organization cost drivers
b. direct labor wages
c. unit based cost drivers
d. cost drivers that are not based on units


D. Batch level are associated with an activity that supports a group of products and therefore is not based on units. (c.) There is no such thing as a total organization cost driver. Direct labor is associated with a unit and therefore not associated with the batch level. (b.)

9. Which of the following would be the considered a key cost driver for an accounting firm?

a. number of purchase orders
b. number of customers
c. number of labor hours worked
d. number of checks processed


C. The accounting firm’s key activity is working hours to service the client.

10. In activity based costing, the cost allocation is made to the

a. department
b. product or service
c. activity
d. process


B. Costs are allocated to a product or service in an effort to determine the total cost of the product or service. The total cost consists of direct material, direct labor, and overhead, which must be allocated.

11. A company manufactures two different types of luxury chairs, patio and lawn. The company currently uses a traditional costing system based on total estimated direct labor hours of 2,500. The company would like better costing information and has identified the following activities and cost pools.

         Activity                            Cost driver                   Cost Pool $
         Material handling           purchase orders            $  72,000
         Indirect labor                  direct labor hours          $114,000
         Facility costs                  square feet                     $  95,000

The company manufactured 6,000 patio chairs and 8,000 lawn chairs. Direct labor is paid $10 per hour and it takes ¼ of an hour to assemble a patio chair and 1/8 of an hour to assemble a lawn chair. The number of purchase orders placed is 1,200 for patio chairs and 2,300 for lawn chairs. The facility is 44,000 square feet and is used 70% for patio chairs and 30% for lawn chairs. Total material costs for patio chairs is $306,000 and $221,200 for lawn chairs.

A. Calculate the cost to make one patio chair and one lawn chair using traditional costing.

B. Calculate the cost to make one patio chair and one lawn chair using ABC costing.


A. Traditional Costing

                                                      patio                   lawn
         Direct materials                   $ 51                $27.65
         Direct labor                        $2.50                  $1.25
         Manufacturing O/H          $28.10                $14.05
            Total product cost         $81.60                $42.95
         Material – patio $306,000 / 6,000 chairs = $51 per chair
                            lawn $221,200 / 8,000 chairs = $27.65 per chair
         Labor - patio $10 x ¼ hour = $2.50
                       lawn $10 x 1/8 hour = $1.25
         Manufacturing O/H          $281,000      total of all cost pool $
                                                 2,500 hours
                                              = $112.40 per hour
                  patio ¼ hour x $112.40 per hour =$28.10 per unit 
                  lawn 1/8 hour x $112.40 per hour = $14.05 per unt


B. ABC Costing

                                                      patio                   lawn
         Direct materials                   $ 51                $27.65
         Direct labor                       $ 2.50                 $ 1.25
         Manufacturing O/H          $26.60                $15.18
            Total product cost         $80.10               $44.09
         Material and labor costs are the same as traditional costing.
         For overhead costs you must divide the total cost pool by the cost driver
         to get a cost per, then multiply the cost per by the quantity of driver to
         get the total cost to each product.
                  Cost driver                   patio          lawn          total
                  Purchase orders        1,200         2,300       3,500
                  Direct labor hours      1,500         1,000       2,500
                  Square feet              30,800       13,200     44,000
                  Direct labor hours:
                  patio 6,000 x ¼ hour each = 1,500 hours
                  lawn 8,000 x 1/8 hour each = 1,000 hours
                  Square feet:
                  patio 44,000 x 70% = 30,800
                  lawn 44,000 x 30% = 13,200
Manufacturing Overhead cost per:
                  Purchase orders          $72,000 / 3,500 = $20.57 per order
                  Direct labor hours      $114,000 / 2,500 = $45.60 per hour
                  Square feet                 $  95,000 / 44,000 = $2.16 per square ft
                  Take the rate per x the driver quantity for each product and get
                                                                patio                   lawn
                  Purchase Orders           $24,684             $47,311
                  Direct labor hours          $68,400             $45,600
                  Square feet                     $66,528             $28,512
                     Total O/H $                 $159,612          $121,423
                     / # units                             6,000                  8,000
                  O/H Cost per unit              $26.60               $15.18
12. A savings and loan company provides 3 basic services: checking accounts, savings accounts, and making loans. The company is separated by department and has gathered the following data for the month:

         Service          Total Cost Driver Quantity          Employee time          Costs 
         checking                   22,549                               3,280 hours           $46,023
         saving                         2,984                                   724 hours           $10,860
         loans                               883                               4,074 hours           $73,305

The bank has two business customers that demand a high level of service. During the month these customers have caused the following levels of activity:

                                    Customer A         Customer B 
         checking                  407                       904
         savings                     15                          27
         loans                           3                           1

Determine the cost to service each customer during this month.


1) Get a cost per activity for each service provided:

                                           cost / total cost driver = cost per
         Checking          $46,023 / 22,549 = $2.04
         Savings             $10,860 / 2,984 = $3.64
         Loans                $73,305 / 883 = $83.02
2) Multiply the cost per activity x the amount of times it occurred for each 
         customer and add all costs to get the total cost.
                                              Customer A                            Customer B 
         checking                  407 x $2.04 = $830.28           904 x $2.04 = $1,844.16
         savings                      15 x $3.64 = $ 54.60               27 x $3.64 = $98.28
         loans                            3 x $83.02 = $249.06              1 x $83.02 = $83.02
            Total cost                                     $1,133.94                               $2,025.46
Employee time is not a cost driver and is not used in this problem.

13. A company has identified the following overhead costs and cost drivers:

                           Cost         Driver                           Total annual quantity
         1)          $100,000     orders                                     2,500
         2)          $220,000     machine hours                      10,000
         3)          $  90,000      kilowatt hours                       45,000

The company completed two jobs and accumulated the following:

  Direct materials
  Direct labor
  Units in the job
  labor hours
  machine hours
  kilowatt hours
  Sales price

Determine the gross profit of Job 1 and Job 2 using activity based costing.


1) Determine the cost per for each:

         Orders                            $100,000 /   2,500 = $40 per order
         Machine hours               $220,000 / 10,000 = $22 per machine hour
         Kilowatt hours                $  90,000 / 45,000 = $2 per kilowatt hour


2) Determine the amount of overhead that is applied to each job using activity for the job x the rate per for all 3 activities

                                                      Job 1          Job 2
         Orders                                  $40             $40          (1 order each x $40)
         Machine hours                  $1,320        $2,530       ( 60 x $22 , 115 x $22)
         Kilowatt hours                      $44             $86          (22 x $2, 43 x $2)
            Total O/H costs              $1,404        $2,656


3) Add the 3 types of product costs for each job

                                                      Job 1                   Job 2
         Direct materials                  $500                 $1,000
         Direct labor                         $340                    $ 880
         Manufacturing O/H           $1,404                 $2,656
            Total cost                        $2,244                 $4,536


4) Determine the gross profit from the job

                                                              Job 1                   Job 2
         Sales                                          $8,100              $11,200
         - Product costs                          $2,244                $ 4,536
         Gross profit from job                 $5,856                $ 6,664