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Learning Objective 1
Understand activitybased costing and how it differs from a traditional costing system.
All
Each Each ABC ABC cost cost pool has has its own own unique unique measure measure of of activity. activity. Traditional Traditional cost systems usually usually rely rely cost systems on volume measures measures such such as as direct direct labor labor on volume hours hours and/or and/or machine machine hours hours to to allocate allocate all all overhead overhead costs costs to to products. products.
ABC uses more cost pools.
How Costs are Treated Under ActivityBased Costing Two common types of activity measures: Transaction driver
Simple count of the number of times an activity occurs.
Duration driver
A measure of the amount of time needed for an activity.
Traditional Traditional cost cost systems systems usually usually rely rely on on volume volume measures measures such such as as direct direct labor labor hours hours and/or and/or machine machine hours hours to to allocate allocate all all overhead overhead costs costs to to products. products.
Organizationsustaining Activity
41,000,000 9,000,000
11,000,000 $ (2,000,000)
Manufacturing Manufacturing overhead overhead is is allocated allocated to to products products using using a a single single plantwide plantwide overhead overhead rate rate based based on on machine machine hours. hours.
Learning Objective 2
14,000,000
6,000,000
2,000,000 22,000,000
Total 100% 100% 100% 100% 100% 100% 100% 100% 100%
Total 14,000,000
Production Department Indirect factory wages Factory equipment depreciation Factory utilities Factory building lease General Administrative Department Administrative wages and salaries Office equipment depreciation Administrative building lease Marketing Department Marketing wages and salaries Selling expenses Total
6,000,000
2,000,000 22,000,000
Indirect $6,000,000 Indirect factory factory wages wages $6,000,000 Percent 30% Percent consumed consumed by by customer customer orders orders 30% $1,800,000 $1,800,000
Total 14,000,000
Production Department Indirect factory wages Factory equipment depreciation Factory utilities Factory building lease General Administrative Department Administrative wages and salaries Office equipment depreciation Administrative building lease Marketing Department Marketing wages and salaries Selling expenses Total
6,000,000
2,000,000 22,000,000
Factory $3,500,000 Factory equipment equipment depreciation depreciation $3,500,000 Percent 20% Percent consumed consumed by by customer customer orders orders 20% $ $ 700,000 700,000
Customer Orders Production Department Indirect factory wages Factory equipment depreciation Factory utilities Factory building lease General Administrative Department Administrative wages and salaries Office equipment depreciation Administrative building lease Marketing Department Marketing wages and salaries Selling expenses Total $
Other 600,000 $ 350,000 750,000 2,000,000 800,000 360,000 1,100,000 150,000 50,000 6,160,000 $
Total 6,000,000 3,500,000 2,500,000 2,000,000 4,000,000 900,000 1,100,000 1,500,000 500,000 22,000,000
Learning Objective 3
10,000 customer orders, 4,000 design changes, 800,000 machine-hours, 2,000 customers served.
Now Now the the team team can can compute compute the the individual individual activity activity rates rates by by dividing dividing the the total total cost cost for for each each activity activity by by the the total total activity activity levels. levels.
Traced
Traced
Traced
First-Stage Allocation
Customer Orders
Design Changes
Order Size
Customer Relations
Other
First-Stage Allocation
Customer Orders
Design Changes
Order Size
Customer Relations
Other
Second-Stage Allocations
$/Order $/Change $/MH $/Customer
Unallocated
Learning Objective 4
Machine-hours Machine-hours 1. 1. The The 480 480 SureStarts SureStarts required required 288 288 machine-hours. machine-hours. 2. 2. The The 200 200 LongLifes LongLifes required required 160 160 machine machine hours. hours.
Learning Objective 5
28,816 $ 384
$14,000,000 800,000 MH
SureStarts (800,000 @ 0.60 hours) LongLifes (400,000 @ 0.80 hours) Total machine-hours
Sales Cost of goods sold Direct materials Direct labor Manufacturing overhead Product margin Selling and administrative Nett operating operating income loss
50,000,000
The traditional cost system overcosts the SureStarts and reports a lower product margin for this product.
The traditional cost system undercosts the LongLifes and reports a higher product margin for this product.
ABC Limitations
Substantial resources required to implement and maintain. Desire to fully allocate all costs to products. Resistance to unfamiliar numbers and reports. Potential misinterpretation of unfamiliar numbers.
Learning Objective 6
(Appendix 8A) Prepare an action analysis report using activity-based costing data and interpret the report.
Appendix 8A: ABC Action Analysis Conventional ABC analysis does not identify potentially relevant costs. An action analysis report helps because it: Shows what costs have been assigned to a cost object. Indicates how difficult it would be to adjust those costs in response to changes in the level of activity.
Activity Cost Pools Design Customer Changes Order Size Relations 4,000 800,000 1.50 $ 2.63 1.88 0.50 6.50 $ 2,000 300 600 90 375 175 1,540
Other N/A
Customer Orders Production Department Indirect factory wages Factory equipment depreciation Factory utilities Factory building lease General Administrative Department Administrative wages and salaries Office equipment depreciation Administrative building lease Marketing Department Marketing wages and salaries Selling expenses Total $
Activity Cost Pools Design changes Order Size 1,800,000 $ 350,000 250,000 400,000 90,000 150,000 3,040,000 $ 1,200,000 $ 2,100,000 1,500,000 400,000 5,200,000 $
Other 600,000 $ 350,000 750,000 2,000,000 800,000 360,000 1,100,000 150,000 50,000 6,160,000 $
Total 6,000,000 3,500,000 2,500,000 2,000,000 4,000,000 900,000 1,100,000 1,500,000 500,000 22,000,000
$1,800,000 10,000 orders = $180 per order Other entries in the table are computed similarly.
Action Analysis Cost Matrix for SureStart Batteries Activity Cost Pools Customer Orders Total activity for batteries Production Department Indirect factory wages Factory equipment depreciation Factory utilities Factory building lease General Administrative Department Administrative wages and salaries Office equipment depreciation Administrative building lease Marketing Department Marketing wages and salaries Selling expenses Total $ 4,000 720,000 $ 280,000 480,000 108,000 180,000 40,000 $ 1,808,000 $ Design Customer Changes Order Size Relations $ 480,000 720,000 1,260,000 900,000 240,000 $ 3,120,000 N/A $ 1,440,000 1,540,000 900,000 720,000 108,000 180,000 40,000 4,928,000 Total
$180 per order 4,000 orders = $720,000 Other entries in the table are computed similarly.
Action Analysis Cost Matrix for LongLife Batteries Activity Cost Pools Customer Orders Total activity for battery housing Production Department Indirect factory wages Factory equipment depreciation Factory utilities Factory building lease General Administrative Department Administrative wages and salaries Office equipment depreciation Administrative building lease Marketing Department Marketing wages and salaries Selling expenses Total 6,000 Design Changes 4,000 Customer Order Size Relations 320,000 N/A $ 3,360,000 1,610,000 850,000 1,280,000 252,000 420,000 60,000 7,832,000 Total
$ 1,080,000 $ 1,800,000 $ 480,000 420,000 350,000 840,000 250,000 600,000 720,000 400,000 160,000 162,000 90,000 270,000 150,000 60,000 $ 2,712,000 $ 3,040,000 $ 2,080,000
$180 per order 6,000 orders = $1,080,000 Other entries in the table are computed similarly.
7,000,000 11,700,000
11,222,000 478,000
1,610,000 (1,132,000)
Using a Modified Form of Activity-Based Costing to Determine Product Costs for External Reports
Appendix 8B
Learning Objective 7
(Appendix 8B) Use activity-based costing techniques to compute unit product costs for external reports.
Appendix 8B
A A modified modified form form of of activity-based activity-based costing costing can can be be used used to develop product product costs for for external external financial financial reports. reports.
Include Include organization-sustaining organization-sustaining costs costs and and unused unused capacity capacity costs. costs. Exclude Exclude nonmanufacturing nonmanufacturing costs costs even even if if they they are are caused caused by by the the products. products.
Appendix 8B
Simmons Industries provides the following information for the company as a whole and for its only two productsdeluxe and standard hedge trimmers.
Total estimated manufacturing overhead Total estimated direct labor hours $ 1,800,000 400,000
Direct materials cost per unit Direct labor cost per unit Direct labor hours per unit Units produced
Deluxe Standard $ 38.00 $ 28.00 $ 24.00 $ 12.00 2.0 1.0 100,000 200,000
Appendix 8B
Assuming that Simmons traditional cost system relies on one predetermined plantwide overhead rate with direct labor-hours (DLHs) as the allocation base, then its plantwide overhead rate is computed as follows:
Appendix 8B
Simmons traditional cost system would report unit product costs as follows:
Deluxe Standard $ 38.00 $ 28.00 24.00 12.00 9.00 4.50 $ 71.00 $ 44.50
Direct materials cost per unit Direct labor cost per unit Manufacturing overhead per unit Unit product cost
2.0 DLH $4.50 per DLH 1.0 DLH $4.50 per DLH
Appendix 8B
The ABC project team at Simmons has developed the following basic information.
Estimated Overhead Cost
Direct labor support (DLHs) $ 900,000 Machine setups (setups) 600,000 Parts administration (part types) 300,000 Total manufacturing overhead $ 1,800,000
Expected Activity Deluxe Standard 200,000 200,000 400 100 200 100
Appendix 8B
We can calculate the following activity rates:
Estimated Total Overhead Expected Cost Activity Activity Rate $ 900,000 400,000 = $ 2.25 per DLH 600,000 500 = $ 1,200 per setup 300,000 300 = $ 1,000 per part type $ 1,800,000
Activity and Activity Measures Direct labor support (DLHs) Machine setups (setups) Parts administration (part types) Total manufacturing overhead
Using the new activity rates, lets assign overhead to the two products based upon expected activity.
Appendix 8B
Deluxe Product
Expected Activity Activity and Activity Measures Activity Rate Amount Direct labor support (DLHs) 200,000 $ 2.25 = $ 450,000 Machine setups (setups) 400 $ 1,200 = 480,000 Parts administration (part types) 200 $ 1,000 = 200,000 Total overhead cost assigned $ 1,130,000
Standard Product
Expected Activity Activity and Activity Measures Activity Rate Direct labor support (DLHs) 200,000 $ 2.25 = $ Machine setups (setups) 100 $ 1,200 = Parts administration (part types) 100 $ 1,000 = Total overhead cost assigned $ Amount 450,000 120,000 100,000 670,000
Appendix 8B
Activity-based Activity-based unit unit product product costs costs for for both both product product lines lines
Premium Standard $ 38.00 $ 28.00 24.00 12.00 11.30 3.35 $ 73.30 $ 43.35
Direct materials cost per unit Direct labor cost per unit Manufacturing overhead per unit Unit product cost
Appendix 8B
Activity-based Activity-based unit unit product product costs costs for for both both product product lines lines
Premium Standard $ 38.00 $ 28.00 24.00 12.00 11.30 3.35 $ 73.30 $ 43.35
Direct materials cost per unit Direct labor cost per unit Manufacturing overhead per unit Unit product cost
Appendix 8B
Comparing the two approaches
Activity-Based Costing Deluxe Standard Direct material $ 38.00 $ 28.00 Direct labor 24.00 12.00 Manufacturing overhead 11.30 3.35 Unit product cost $ 73.30 $ 43.35 Traditional Costing Deluxe Standard $ 38.00 $ 28.00 24.00 12.00 9.00 4.50 $ 71.00 $ 44.50
Note that the unit product cost of a Standard unit decreased from $44.50 to $43.35 . . . . . . . . . . while the unit cost of a Deluxe unit increased from $71.00 to $73.30.
End of Chapter 8