1) Bio Labs is a genetic engineering firm manufacturing a variety of gene-spliced, agricultural-based seed products. The firm has five separate labs producing different product lines. Each lab is treated as a profit center and all five labs are located in the same facility. The wheat seed lab and corn seed lab manufacture two of the five product lines. These two labs are located next to each other and are of roughly equal size in terms of sales. The two departments have close interaction, often sharing equipment and lab technicians. Both use very similar technology and science and usually attend the same scientific meetings.

Recent discoveries have shown how low-power lasers can be used to significantly improve product quality. The wheat seed and corn seed managers are proposing the creation of a laser testing department to employ this new technology. Leasing the equipment and hiring the personnel cost $350,000 per year. Supplies, power, and other variable costs are $25 per testing hour. The testing department is expected to provide 2,000 testing hours per year. The wheat seed manager expects use 700 testing hours per year of the laser testing department and the corn seed manager expects to use 800 testing hours. The remaining 500 hours of testing capacity can be used by the other three labs if the technology applies or can be left idle for future expected growth of the two departments. Initially, only wheat and corn are expected to use laser testing. The executive committee of Bio Labs has approved the proposal but is now grappling with how to treat the costs of the laser-testing department. The committee wants to charge the costs to the wheat seed and corn seed labs but is unsure of how to proceed.

At the end of the first year of operating the laser, wheat seed used 650 testing hours, corn seed used 900 hours, and 450 hours were idle.

a) Design two alternative cost allocation systems.

b) Give numerical illustrations of the charges the corn and wheat seed labs will incur in the first year of operations under your two alternatives.

c) Discuss the advantages and disadvantages of each.

2) Two genetically engineered enzymes are produced simultaneously from a series of chemical and biological processes: Q enzyme and Y enzyme. The cost per batch of Q and Y enzymes is $200,000, resulting in 300 grams of Q and 200 grams of Y. Before Q and Y can be sold, they must be processed further at costs of $100 and $150 per gram, respectively. Each batch requires one month of processing time and only one batch per month is produced.

The monthly demand for Q and Y depends on the price charged. The following table summarizes the various price-quantity combinations.

Quan Sold:      Price per G of Q         Price per G of Y

50                    1200                           750

100                  1100                           550

150                  1000                           350

200                  900                             150

250                  800                             n/a

300                  700                             n/a

In the following analysis, the optimum price of Q is $900 per gram and the optimum price of Y is $750 per gram.

Quan sol:   Prc/Q     Rev(Q)    Tot Cos of Q     To. Prof            Prc/Y     Rev(Y)         TotCos Y        T.Prof

50              1200    60,000       25,000          35,000  750     37,500                      27,500           10,000

100            1100    110,000     50,000          60,000  550     55,000     55,000           0

150            1000    150,000     75,000          75,000  350     52,500     82,500       (30,000)

200            900      180,000    100,000         80,000  150     30,000     110,000     (80,000)

250            800      200,000    125,000         75,000  n.a

300            700      210,000    150,000         60,000  n.a

a)     Critically evaluate the analysis underlying the pricing decisions of $900 for Q and $750 for Y.

b)     What should management do if the cost per batch rises to $225,000?

3) Littleton Medical Center (LMC) has 3 service departments (accounting, HR, and janitorial) and 2 patient units: hospital and an outpatient clinic. The following table summarizes the operations of LMC for the last fiscal year.

Service Departments:      Service Dept. Costs

Human Resources               $1200

Accounting                          $1600

Janitorial                            $2400

These department costs are allocated to the 2 patients units. The following table summarizes the allocation bases used to allocate each service department and the utilization of each allocation base.

                                   Service Departments:           Patient Units:

Service Depts.            HR       Acctg      Jan                 Clinic     Hospital    Allocation Base

Human Resources                 50          150                 2000      3000           Employees

Accounting                 50                     100                6000       4000          Transactions (000)

Janitorial                  8000    9000                           150,000    400,000       Square Feet

a)  Allocate the 3 service departments costs (HR, accounting, and janitorial) to the two patient units (Clinic and hospital) using the direct allocation method.

b)  Allocate the 3 service departments costs to the 2 patient units using the step-down allocation method. The order of the three departments is first: HR, second: Accounting, and third: Janitorial.

c) What are the primary advantages of the step-down method compared to the direct allocation method?