Costing Methods Comparison: Traditional vs. ABC for Sewing Easy Ltd

This assignment analyzes the costing methods of Sewing Easy Ltd, comparing traditional and activity-based costing (ABC) systems for two models of sewing machines. The solution begins by calculating the cost per unit for both models under the traditional costing system, followed by a similar calculation using ABC. The assignment then prepares profit and loss statements for the Advance model under both costing methods and discusses the implications of each. It further addresses the treatment of over/under applied manufacturing overhead, providing three methods for its handling. Finally, the assignment outlines the benefits and limitations of the ABC system, offering a comprehensive overview of its application in cost management. The analysis includes detailed calculations, working notes, and a comparison of the two costing approaches to determine the impact on profitability and decision-making.

RUNNING HEAD: MANAGEMENT ACCOUNTING
MANAGEMENT ACCOUNTING

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Contents
SEWING EASY LTD..................................................................................................................................2
Q 1.....................................................................................................................................................2
Q 2.....................................................................................................................................................3
Q 3.....................................................................................................................................................5
Q 4.....................................................................................................................................................6
Q 5.....................................................................................................................................................6
REFERENCES..........................................................................................................................................8

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SEWING EASY LTD
Q 1
Calculation of cost per unit of the two models of sewing machines under the current
traditional costing system:
Sewing Easy Ltd
Particulars
Basic Model Advance Model
Amount Amount
Direct material costs $ 5,20,000.00 $ 8,40,000.00
Direct labour costs $ 2,40,000.00 $ 3,90,000.00
Indirect costs (see working note 1) $ 1,43,750.00 $ 1,06,250.00
Other operating expenses:
Selling and Administration $ - $ 1,40,600.00
Interest expense $ - $ 25,200.00
office rent $ - $ 35,900.00
Total costs $ 9,03,750.00 $ 15,37,950.00
No. of units 1600 1500
Cost per unit $ 564.84 $ 1,025.30
(Refer: Excel Sheet)
Working note: 1
Allocation of all indirect costs as per machine hours:
Total indirect costs:
Particulars Amount
Inspection $ 20,000.00
Assembly $ 90,000.00
Production Scheduling $ 1,05,000.00
Machine set up $ 35,000.00
Total $ 2,50,000.00
particulars Basic Model
Advance
Model Total
Machine hours 4600 3400 8000
Allocation:

MANAGEMENT ACCOUNTING 3
particulars Basic Model Advance Model
Indirect Costs allocated $ 1,43,750.00 $ 1,06,250.00
Q 2
Calculation of cost per unit of the two models of sewing machines under the activity
based costing system:
Sewing Easy Ltd
Particulars
Basic Model Advance Model
Amount Amount
Direct material costs $ 5,20,000.00 $ 8,40,000.00
Direct labour costs $ 2,40,000.00 $ 3,90,000.00
Indirect costs:
Inspection $ 4,210.53 $ 15,789.47
Assembly $ 51,750.00 $ 38,250.00
Production Scheduling $ 9,545.45 $ 95,454.55
Machine Set up $ 10,000.00 $ 25,000.00
Other operating expenses:
Selling and Administration $ - $ 1,40,600.00
Interest expense $ - $ 25,200.00
office rent $ - $ 35,900.00
Total costs $ 8,35,505.98 $ 16,06,194.02
No. of units 1600 1500
Cost per unit $ 522.19 $ 1,070.80
(Refer: Excel Sheet)
Working notes
1
Calculation of Activity
rate
Cost pool Cost ($) [A] Cost driver [B]
Cost driver rate ($)
[C] = [A]/[B]
Inspection
$
20,000.00 inspections (200+750)
$
21.05
Assembly
$
90,000.00
machine hours
(4600+3400)
$
11.25
Production Scheduling
$
1,05,000.00 production runs (50+500)
$
190.91
Machine Set up $ Set up hours (100+250) $

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35,000.00 100.00
TOTAL
$
2,50,000.00
2
Inspection
particulars Basic Model Advance Model
Cost driver rate $ 21.05 $ 21.05
No. of inspections 200 750
Inspection cost $ 4,210.53 $ 15,789.47
3
Assembly
particulars Basic Model Advance Model
Cost driver rate $ 11.25 $ 11.25
Machine hours 4600 3400
Inspection cost $ 51,750.00 $ 38,250.00
4
Production Scheduling
particulars Basic Model Advance Model
Cost driver rate $ 190.91 $ 190.91
Production runs 50 500
Inspection cost $ 9,545.45 $ 95,454.55
5
Machine Set up
particulars Basic Model Advance Model
Cost driver rate $ 100.00 $ 100.00
Set up hours 100 250
Inspection cost $ 10,000.00 $ 25,000.00
Q 3

MANAGEMENT ACCOUNTING 5
Preparation of profit and loss statement of Advance model of sewing machines under
the traditional costing system and activity based costing system:
Sewing Easy Ltd
Advance model
Profit and Loss Statement
Particulars
Traditional method ABC method
Amount Amount
Cost per unit $ 1,025.30 $ 1,025.30
Add: margin @ 20% $ 205.06 $ 205.06
Selling price per unit $ 1,230.36 $ 1,230.36
Units 1500 1500
Total Sales (A) $ 18,45,540.00 $ 18,45,540.00
Expenses:
Direct material $ 8,40,000.00 $ 8,40,000.00
Direct Labour $ 3,90,000.00 $ 3,90,000.00
Indirect Costs:
a). As per Traditional $ 1,06,250.00 -
b). As per ABC
Inspection - $ 15,789.47
Assembly - $ 38,250.00
Production Scheduling - $ 95,454.55
Machine Set up - $ 25,000.00
Other Operating Expenses:
Selling and Administration $ 1,40,600.00 $ 1,40,600.00
Interest expense $ 25,200.00 $ 25,200.00
Office rent $ 35,900.00 $ 35,900.00
Total Expenses (B) $ 15,37,950.00 $ 16,06,194.02
Net Profit (A-B) $ 3,07,590.00 $ 2,39,345.98
(Refer: Excel Sheet)
In this question, it is given that overseas buyer only wants to purchase advance model
because firstly units purchased by buyer is 1500 whereas for basic model’s units are 1600.
Secondly, Sewing Easy ltd earned profit under ABC method is $ 239,345.98 whereas under
traditional method profit is $ 307,590.00 which means overseas buyer got benefit only from
ABC method due to less profit margin earned by the seller. This signifies that cost and
product issues with the improvement in quality gets resolved from the use of ABC method.
The result from ABC method is more accurate than traditional based costing system.

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Q 4
Debit or credit balance of manufacturing overhead is called as over or under applied
manufacturing overhead respectively. The three ways to deal with under/over applied
overhead costs are as follows:
 Written off the under/ over applied overhead costs to the COGS.
 Accurate rates are at end of the year.
 Allocation of under/ over applied overhead costs amongst COGS and stock accounts
(WIP and FG) in ratio of unadjusted closing balance.
Q 5
Benefits of ABC system:
 It improves the business processes.
 The biggest benefit is that the indirect overhead costs are allocated to products as per
the consumption of each activity.
 It recognizes and excludes non valuable resources or activities which hampers the
profitability of the entity (Eldenburg and Wolcott, 2009).
 More precise costing system.
 Cost drivers can be used usefully that are likely to be allocated to the product.
Limitations of ABC system:
 It is very costly to implement ABC system and very expensive to maintain because it
requires ample resources (Eldenburg and Wolcott, 2009).
 ABC does not adapt accounting rules.
 It is irrelevant for external reporting purpose.
 Not suitable for small entities.

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REFERENCES
Eldenburg, L.G. and Wolcott, S.K. 2009, Cost management: measuring, monitoring and
motivating performance, John wiley and sons.