Description
It also explains under costing and over costing, Distinction between the traditional and the activity-based costing approaches to designing a costing system.
Activity-Based Costing Systems
The Value Chain—Focus on Core Operations
The value chain is the set of activities and resources necessary to create and deliver products and services valued by customers.
R&D and Design
Suppliers and Production
Distribution and Marketing
Customer Service
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Value Chain
• A value chain is a related sequence of value-creating activities within an organization.
?It helps managers better understand the interdependencies of those activities. ?A company’s value chain is part of its supply chain. ?It includes the value chains of suppliers and customers.
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Supply Network and Value Chain for a Manufacturing Company
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Value Chain
? When
organizations work cooperatively with others in their supply chain or larger value chain, new processes can be introduced to reduce the total cost of products or services.
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Supply Network and Value Chain for a Service Organization
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Discussion
Q. What is a supply chain?
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Discussion
Q. What is a supply chain? A. A supply chain is an interdependent collection of organizations that supplies materials, products, or services to a customer.
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Value-Adding Activities
• A value-adding activity is an activity that adds value to a product or service as perceived by the customer. • Examples include:
– Designing a car. – Assembling a car. – Painting a car. – Installing brakes on a car.
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Value and Non-value-Added Activities
Value-added activities add to product or service desirability in customers’ eyes.
Identify
Non-valueadded activities
Eliminate
Non-value-added activities add cost without additional desirability, and can be eliminated without reducing quality or performance. 10
Value and Non-value-Added Activities
Activities
Analysis and Classification
Non-valueAdded Activities
Reduce or Eliminate
ValueAdded Activities
Continually Evaluate and Improve 11
Examples of non-valueadded activities are:
Get rid Non-value-Added Activities – Storage of materials, of them! work-in-process, or
finished goods.
– Moving parts and materials in the factory.
– Waiting for work. – Inspection.
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Non-value-Adding Activities
• A non-value-adding activity is an activity that adds cost to a product or service but does not increase its market value. • Examples include:
?Moving materials. ?Storing materials.
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Process Value Analysis
• Process value analysis (PVA) is an analytical method of identifying all activities and relating them to events that cause or drive the need for the activities and the resources consumed.
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Costs and Resources
? By
identifying non-value-adding activities, organizations can reduce costs and redirect resources to value-adding activities. manage the cost of an activity, the frequency of the activity can be reduced or it can be eliminated.
? To
? Outsourcing may
also reduce costs.
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Value-Adding Activities in a Service Organization
Western Data Services, Inc. Value-Adding Activities for the Classic Letter Value-Adding Activities
Design the letter Create a database of customer names and addresses sorted in the ZIP code order Verify the conformity of mailing information with USPS requirements Process the job
How the Activity Adds Value
Enhances the effectiveness of the communication Increases the probability that the client will efficiently and effectively reach targeted customer group Ensures that the client’s mailing will receive the best postal rate Creates the client mailing
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Deliver the letters to the post office Begins the delivery process
Nonvalue Adding Activities in a Service Organization
• Prepare a job order form and schedule the job. • Order, receive, inspect and store paper, envelopes and supplies. • Set up machines to process a specific lettersize. • Log the total number of items processed in a batch. • Bill the client and record and deposit payments.
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Discussion
Q. What are examples of non-value-adding activities?
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Discussion
Q. What are examples of non-value-adding activities? A. Moving materials.
Storing materials.
Repairing equipment.
Building maintenance.
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Traditional cost systems were created when Traditional Costing Systems manufacturing processes were labor intensive.
A single company-wide overhead rate, based on direct labor hours, may be used to allocate overhead to products in these labor intensive processes.
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Traditional Costing Systems
Overhead is allocated to jobs using direct labor hours. If overhead is 120, how much overhead is allocated to each job?
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Traditional Costing Systems
Overhead Rate = 120 ÷ 8 direct labor hours Overhead Rate = 15 per direct labor hour Job 1 = 2 hours × 15 per hour = 30 Job 2 = 6 hours × 15 per hour = 90
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Traditional Costing Systems
Automation increases overhead from 120 to 420 and reduces the Job 2 labor hours from 6 to 1. Allocate the 420 overhead to the two jobs using direct labor.
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Traditional Costing Systems
Overhead Rate = 420 ÷ 3 direct labor hours Overhead Rate = 140 per direct labor hour Job 1 = 2 hours × 140 per hour = 280 Job 2 = 1 hour × 140 per hour = 140
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Traditional Costing Systems
Is this reasonable? Automation benefited Job 2, but Job 1 is allocated more overhead. Clearly, we need another cost driver to allocate overhead.
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A costing method that first assigns costs to activities, then assigns costs to products based Activity-Based Costing (ABC) on their use of the activities.
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A costing method that first assigns costs to activities, then assigns costs to products based Activity-Based Costing (ABC) on their use of the activities.
Products Require Activities Activities Consume Resources
People Manage Activities
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Both manufacturing and nonmanufacturing costs may be assigned to products.
Activity-Based Costing (ABC)
ABC is a good supplement to our traditional cost system.
A
Allocation bases often differ from traditional costing systems.
B
C
ABC is used primarily for decision making, not for inventory valuation for external reporting.
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Activity-Based Costing (ABC)
Activity-Based Costing
Traditional Costing
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Activity-Based Costing (ABC)
Traditional Costing Resource Costs Activity-Based Costing Resource Costs
Directly traced or allocated Cost Pools: Plants or Departments
Predetermined overhead rate Cost Objects
Directly traced or allocated Cost Pools: Activities or Activity Centers
Cost driver rates for each activity Cost Objects
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Activity-Based Costing (ABC)
Costs
An Activity Cost Pool is a “container” in which costs are accumulated that relate to a single activity in the ABC system.
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related to the company’s products or services. ?Estimate the cost of each activity identified. ?Calculate a cost-driver rate for each activity. ?Assign activity costs to products using the cost-driver rate.
Four Steps the activities ?Identify and classifyin the ABC
Process
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UNIT-LEVEL ACTIVITES
Resources acquired and activities performed for individual units.
BATCH-LEVEL ACTIVITES ? Identify and Classify Activities
Resources acquired and activities performed for a group or batch of similar products or services.
PRODUCT - LEVEL ACTIVITES
Resources acquired and activities performed to produce and sell a specific product or service.
CUSTOMER- LEVEL ACTIVITES
Resources acquired and activities performed to serve specific customers.
FACILITY-LEVEL ACTIVITIES
Resources acquired and activities performed to provide general capacity to
produce goods or services.
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ABC teams of middlemanagement or above develop the activity dictionary.
TOP DOWN APPROACH ? Identify and Classify Activities
RECYCLING APPROACH
Reuses documentation of processes used for other purposes.
INTERVIEW OR PARTICIPATIVE APPROACH
ABC teams include or interview operating employees.
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? Estimate the Cost of The ABC teams should gather data on the costs of all the Activities activities identified in Step 1.
Examine accounting records for recorded cost information. Ask employees to indicate how much time they work on various activities.
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Two pieces of ? Calculate Cost-Driver Rates for Activity Activity Cost-Driver information are ÷ = Cost Volume Rate Activities required to compute
the cost-driver rate:
•Activity Cost
•Activity Volume MAY Company has 4 employees in its Quality Control Department. Salaries and costs for the department total 360,000 per year. MAY produces 500,000 units of product a year. What is the cost-driver rate per unit? 360,000 ÷ 500,000 units = .72 per unit 4-36
? Calculate Cost-Driver Rates for MAY has a customer service center where Activities customers can call to ask questions.
Customers pay a fixed fee for each call they make to the service center. It costs MAY 1,260,000 a year to operate the center. The center receives 120,000 calls per year. The center handles 1,000,000 minutes of calls. What is the appropriate cost driver; total minutes for all calls or number of calls? What is the cost-driver rate?
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Since Cost-Driver Rates for ? Calculate customers are charged ?per call?, the proper activity in this case is the number of Activities calls handled by the center. The cost-driver rate would be: 1,260,000 ÷ 120,000 units = 10.50 per call
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Cause and effect relationship between activity and costs
? Calculate Cost-Driver Rates for Measurable Activities
Appropriate cost-driver base Predict or explain an activity’s use of resources
Based on resource’s practical capacity to support activities
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Practical Capacity Note
When estimating the cost of an activity, only the costs associated with the product should be used (practical capacity). The cost of ?unused capacity? should not be applied to products. EXAMPLE
Suppose we rent a 1,000 square foot warehouse for 1,000 per month. Only 800 sq. ft. are used to store Product A. The rest of the warehouse is ?unused?.
How much rent cost should be allocated to Product A?
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Practical Capacity Note
80%, or 800 should be assigned to Product A
20%, or 200 should be assigned to “unused capacity”
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1. Identify all the activities related to a given product or service.
? Assign 2. Determine Costs tocosts Activity 3. Assign how many units to products Products using the costof each activity
are used per unit of product. driver rates for each activity.
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Example: Yazz, Inc. produces 130,000 units of Product A and 400,000 units for Product B. Using the following cost information, how much overhead should be allocated to Product A?
Cost-Driver Activity Cost-Driver Base Rate Factory Floor Space Square Footage $ 50.000 Electricity Kilowatts $ 0.050 Water Gallons $ 0.160 Quality Control Units Inspected $ 0.850 Packaging - Inner Ounces of product $ 0.025 Packaging - Outer Boxes $ 1.250 Resources Used by Product A 20,000 Sq. Ft. 15,000 KW 80,000 Gal. 135,000 Units 270,000 Oz. 135,000 Boxes
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? Assign Activity Costs to Products
Cost-Driver Activity Base Factory Floor Square Space Footage Electricity Kilowatts Water Gallons Quality Control Units Inspected Packaging - Inner Ounces of product Packaging Boxes Outer
? Assign Activity Costs to Products
$ $ $ $ $ 0.050 0.160 0.850 0.025 1.250 15,000 80,000 135,000 270,000 KW Gal. Units Oz. $ $ $ $
Cost-Driver Resources Used Cost Rate Assigned by Product A $ 50.000 20,000 Sq. Ft. $ 1,000,000 750 12,800 114,750 6,750 168,750
135,000 Boxes $
Total Cost Assigned to Product A $ 1,303,800
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Activity-Based Costing Example
Let’s look at an example from the Bilson Company.
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Activity-Based Costing Example
• Product A requires 3.0 DLH and Product B requires 2.5 DLH to produce.
• Bilson, Inc. manufactures and sells 5,000 units of Product A (deluxe model), and 25,000 units of Product B (standard model) each year.
• Employing a traditional costing system, Bilson assigns overhead cost to products using direct labor hours.
• The predetermined overhead rate is:
Mfg. overhead cost Direct labor hours = 1,550,000 77,500 = 20/DLH
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Bilson’s unit product costs using traditional costing are: Activity-Based Costing Example
Direct material Direct labor Manufacturing overhead 3.0 DLH × $20/DLH 2.5 DLH × $20/DLH Total unit product cost Product A $ 40.00 30.00 60.00 $ 130.00 50.00 $ 104.00 Product B $ 29.00 25.00
Bilson marks its products up by 50 percent and allocates its 500,000 customer service costs based on revenue.
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130.00 × 1.50
Traditional Costing Activity-Based Costing Example
Product A Product B Volume Sales Price 5,000 $ 195.00 $ 40.00 30.00 60.00 65.00 975,000 200,000 150,000 300,000 325,000 100,000 225,000 $ 156.00 $ 3,900,000 725,000 625,000 1,250,000 $ 1,300,000 400,000 $ 900,000 25,000
Sales Revenue Direct Material $ Direct Labor Overhead Gross Margin $ Customer Service Costs Product operating income
$
$ $
$
29.00 25.00 50.00 52.00
975,000 ÷ (975,000 +3,900,000) × 500,000
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Sales of Product A have increased steadily since introduction, but company income has declined. Management at Bilson is unhappy with the traditional costing system and they have decided to try activity-based costing.
Activity-Based Costing Example
In addition, management has observed that the cost of direct labor is relatively stable. Since labor does not behave like a unit-level cost, labor will be combined with overhead and the total conversion cost will be assigned using ABC.
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Activity-Based Costing Example
In addition, management has observed that the cost of direct labor is relatively stable. Since labor does not behave like a unit-level cost, labor will be combined with overhead and the total conversion cost will be assigned using ABC.
The total conversion cost is: Traditional overhead Labor (77,500 hours @ 10) Total
1,550,000 775,000 2,325,000
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Activity-Based Costing Example
Activity Machine setups Quality inspections Production orders Machine-hours worked Material receipts Total
Total conversion cost
Management has identified the following five activities and costs in the production of its two products:
Cost $ 800,000 450,000 225,000 650,000 200,000 $ 2,325,000
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The following transaction data has been complied by management of Activity-BasedBilson: Costing Example
Activity Machine setups Quality inspections Production orders Machine-hours worked Material receipts Total 5,000 9,000 600 50,000 800 Product A 3,000 6,000 200 15,000 150 Product B 2,000 3,000 400 35,000 650
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These data can be used to develop predetermined cost-driver rates Example Activity-Based Costing for each of the five activities:
Activity Costs Machine setups $ 800,000 Quality inspections 450,000 Production orders 225,000 Machine-hours worked 650,000 Material receipts 200,000 Total $ 2,325,000 Total Transactions 5,000 9,000 600 50,000 800 Rate per Transaction $ 160.00 50.00 375.00 13.00 250.00 per per per per per setup inspection order hour receipt
800,000 ÷ 5,000 Machine setups = 160.00 per setup
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Activity-Based Costing Example
Product A
Activity ABC Rate Machine setups $ 160.00 Quality inspections 50.00 Production orders 375.00 Machine-hours worked 13.00 Material receipts 250.00 Total overhead assigned Number of units produced Conversion per unit Transactions 3,000 6,000 200 15,000 150 Amount $ 480,000 300,000 75,000 195,000 37,500 $ 1,087,500 ÷ 5,000 $217.50
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The activity-based overhead rates we just calculated can be used to assign conversion costs to Bilson’s two products.
Activity-Based Costing Example
Product B
Activity ABC Rate Machine setups $160.00 Quality inspections 50.00 Production orders 375.00 Machine-hours worked 13.00 Material receipts 250.00 Total overhead assigned Number of units produced Conversion per unit Transactions 2,000 3,000 400 35,000 650 Amount $ 320,000 150,000 150,000 455,000 162,500 $ 1,237,500 ÷ 25,000 $ 49.50
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The activity-based overhead rates we just calculated can be used to assign conversion costs to Bilson’s two products.
Activity-Based Costing Example
Product B
Activity ABC Rate Transactions Amount Machine setups $160.00 2,000 $ 320,000 Quality inspections 50.00 3,000 150,000 Production orders 375.00 400 150,000 Machine-hours worked 13.00 35,000 455,000 Material receipts 250.00 650 162,500 Total overhead assigned $ 1,237,500 Total conversion units produced A $ 1,087,500 Number of assigned to Product ÷ 25,000 Total conversion assigned to Product B 1,237,500 Overhead per unit $ 49.50
Total overhead $ 2,325,000
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The activity-based overhead rates we just calculated can be used to assign conversion costs to Bilson’s two products.
Activity-Based Costing Example
Activity Based Costing Direct materials Conversion Total unit product cost Product A $ 40.00 217.50 $ 257.50 Product B $ 29.00 49.50 $ 78.50
Let’s compute the product cost for A and B using our ABC overhead rates:
These amounts did not change as a result of using ABC.
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Now compare the unit product costs using the traditional costing system and our ABC Activity-Based Costing Example system.
Costing Method Activity-based costing Traditional costing Product A $ 257.50 130.00 Product B $ 78.50 104.00
Remember, we used one overhead rate based on direct labor hours.
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Now compare the unit product costs using the traditional costing system and our ABC Activity-Based Costing Example system.
Costing Method Activity-based costing Traditional costing Product A $ 257.50 130.00 Product B $ 78.50 104.00
Adopting activity-based costing usually results in a shift of batch-level and product-level overhead costs from high-volume standard products to low-volume, more complex products.
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Now compare the unit product costs using the traditional costing system and our ABC Activity-Based Costing Example system.
Costing Method Activity-based costing Traditional costing Product A $ 257.50 130.00 Product B $ 78.50 104.00
Can you see how different allocation methods might lead to making different management decisions?
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Based on these results Bilson also decides to use ABC to assign Its 500,000 customer service costs. The applicable activity is number of customer consultations. Customers buying Product A, the deluxe model, require more consultations than those buying Product B, the standard model.
Activity-Based Costing Example
Cost per consultation = 500,000 ÷ 125,000 consultations = 4.00
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No change in sales price
ABC Costing Example Activity-Based Costing
Product A Product B Volume Sales Price 5,000 $ 195.00 $ 975,000 200,000 1,087,500 $ (312,500) 200,000 $ (512,500) $ 156.00 $ 3,900,000 725,000 1,237,500 $ 1,937,500 300,000 $ 1,637,500 25,000
Sales Revenue Direct Material $ 40.00 Conversion 217.50 Gross Margin $ (62.50) Customer Service Costs Product operating income
$ $
29.00 49.50 77.50
Let’s compare product income using traditional and ABC costing.
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Product A Volume Sales Price 5,000 $ 195.00 $ 975,000 200,000 1,087,500 $ (312,500) 200,000 $ (512,500)
Product B 25,000 $ 156.00 $ 3,900,000 725,000 1,237,500 $ 1,937,500 300,000 $ 1,637,500
Sales Revenue Direct Material $ 40.00 Conversion 217.50 Gross Margin $ (62.50) Customer Service Costs Product operating income
$ $
29.00 49.50 77.50
ABC Costing
Product A Volume Sales Price 5,000 $ 195.00 $ 40.00 30.00 60.00 65.00 975,000 200,000 150,000 300,000 325,000 100,000 225,000
Product B 25,000 $ 156.00 $ 3,900,000 725,000 625,000 1,250,000 $ 1,300,000 400,000 $ 900,000
Sales Revenue Direct Material $ Direct Labor Overhead Gross Margin $ Customer Service Costs Product operating income
$
$ $
$
29.00 25.00 50.00 52.00
Traditional Costing
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Activity-Based Costing Example
Should Bilson increase the price of Product A? Should Bilson reduce the price of Product B?
Should Bilson drop Product A?
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• The price of Product A, the deluxe model, should probably be increased. Activity-Based Costing Example Customers who buy deluxe models may buy based on features instead of price. • The price of Product B, the standard model, may be too high. Customers who buy standard models are price sensitive. Decreasing the price would increase volume, possibly resulting in more income.
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accurate and informative product costs lead to better decisions. ABC– Benefits and Limitations ? More accurate measurements of the activities driving costs. ? Provides managers with easier access to relevant costs.
An ABC system is very expensive to develop and implement; it is also very time-consuming.
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? More
•
When Should a Company Use ABC? Indirect costs are significant in proportion to direct costs.
• Complex, low-volume products are profitable while standard, high-volume products are not.
• Different departments believe costs are assigned inaccurately.
• Goods are complex, requiring many inputs and processes.
• The company loses bids it thought were low, and wins bids it thought were high. • Operations have changed significantly, but the costing system has not changed. • Introduction of new models result in higher sales, apparent profits per unit, but an overall income decline.
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Under-costing and over-costing of products and services.
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separate items for lunch. Jose’s order amounts to Roberta consumed Nancy’s order is Total
Undercosting and Jose, Roberta, andExample Nancy order Overcosting
14 30 16 60
What is the average cost per lunch?
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Under-costing and Over-costing Example
60 ÷ 3 = 20
Jose and Nancy are overcosted.
Roberta is undercosted.
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Three guidelines for refining a costing system.
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Existing Single IndirectKoleCost Poolmanufactures a normal lens Corporation System Example
(NL) and a complex lens (CL). Kole currently uses a single indirect-cost rate job costing system. Cost objects: 80,000 (NL) and 20,000 (CL).
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Existing Single IndirectNormal Lenses Example Cost Pool System(NL)
Direct materials Direct mfg. labor Total direct costs 1,520,000 800,000 2,320,000
Direct cost per unit: 2,320,000 ÷ 80,000 = 29
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Existing Single IndirectComplex Lenses Example Cost Pool System (CL)
Direct materials Direct mfg. labor Total direct costs 920,000 260,000 1,180,000
Direct cost per unit: 1,180,000 ÷ 20,000 = 59
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Existing Single IndirectINDIRECT-COST All Indirect Costs POLL Cost Pool System 2,900,000 Example
INDIRECT COST-ALLOCATION BASE 50,000 Direct Manufacturing Labor-Hours
58 per Direct Manufacturing Labor-Hour
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Existing Single IndirectCOST OBJECT: Indirect Costs Cost Pool System Example NL AND CL
LENSES Direct Costs
DIRECT COSTS
Direct Materials
Direct Manufacturing Labor
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Existing Single IndirectKole uses 36,000 direct manufacturing Cost Pool System Example
labor-hours to make NL and 14,000 direct manufacturing labor-hours to make CL. How much indirect costs are allocated to each product?
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Existing Single2,088,000 IndirectNL: 36,000 × 58 = Cost Pool System Example
CL: 14,000 × 58 = 812,000 What is the total cost of normal lenses? Direct costs 2,320,000 + Allocated costs 2,088,000 = 4,408,000 What is the cost per unit? 4,408,000 ÷ 80,000 = 55.10
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Existing Single IndirectWhat is the total cost of complex lenses? Cost Pool System Example
Direct costs 1,180,000 + Allocated costs 812,000 = 1,992,000 What is the cost per unit? 1,992,000 ÷ 20,000 = 99.60
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Existing Single IndirectCost Pool System Example
Normal lenses sell for 60 each and complex lenses for 142 each. Normal Complex Revenue 60.00 142.00 Cost 55.10 99.60 Income 4.90 42.40 Margin 8.2% 29.9%
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Refining a Costing System Direct-cost tracing
Indirect-cost pools Cost-allocation basis
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Refining of Products andSystem a Costing Process 1. Design
The Design Department designs the molds and defines processes needed (details of the manufacturing operations).
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Refining a Costing System 2. Manufacturing Operations
Lenses are molded, finished, cleaned, and inspected. 3. Shipping and Distribution Finished lenses are packed and sent to the various customers.
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Distinction between the traditional and the activity-based costing approaches to designing a costing system.
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Fundamental Assignment to Other Activity-Based Costing System
Cost Objects Activities Cost Objects Cost of: • Product • Service • Customer
Costs of Activities
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Activity-Based Costing Kole A cross-functional team at System
Corporation identified key activities: Design products and processes. Set up molding machine. Operate machines to manufacture lenses.
Maintain and clean the molds.
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Activity-Based Costing System Set up batches of finished lenses for shipment.
Distribute lenses to customers.
Administer and manage all processes.
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Activity Indirect Cost Pool
Design Setup Shipping Activity-Based Costing System
Cost Allocation Base
PartsSquare feet
No. of Setup Hours
No. of Shipments
Product Cost Objects
Lenses NL
Lenses CL
Lenses Other
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Activity-Based Costing System NL CL
Quantity produced 80,000 20,000 No. produced/batch 250 50 Number of batches 320 400 Setup time per batch 2 hours 5 hours Total setup-hours 640 2,000 Total setup costs are 409,200.
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Activity-Based cost per setup-hour? Costing System What is the setup
409,200 ÷ 2,640 hours = 155 What is the setup cost per direct manufacturing labor-hour? 409,200 ÷ 50,000 = 8.184
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Allocation using Costing System Activity-Based direct labor-hours: NL: 8.184 × 36,000 = 294,624 CL: 8.184 × 14,000 = 114,576 Total 409,200 Allocation using setup-hours: NL: 155 × 640 = 99,200 CL: 155 × 2,000 = 310,000 Total 409,200
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Four-part cost hierarchy.
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Cost Hierarchies A cost hierarchy is a categorization
of costs into different cost pools. Cost drivers bases (cost-allocation bases) Degrees of difficulty in determining cause-and-effect relationships
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ABC systems commonly use a Cost Hierarchies four-part cost hierarchy to identify cost-allocation bases: 1. Output unit-level costs
2. 3. 4. Batch-level costs Product-sustaining costs Facility-sustaining costs
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Output Unit-Level Costs These are resources sacrificed
on activities performed on each individual unit of product or service. Energy Machine depreciation
Repairs
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Batch-Level Costs These are resources sacrificed on activities that are related to a group of units of product(s) or service(s) rather than to each individual unit of product or service. Setup-hours
Procurement costs
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Product-Sustaining Costs These are often called service-sustaining
costs and are resources sacrificed on activities undertaken to support individual products or services. Design costs
Engineering costs
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Facility-Sustaining Costs These are resources sacrificed on
activities that cannot be traced to individual products or services but support the organization as a whole. General administration
– rent
– building security
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Cost products or services using activity-based costing.
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Step 1
Identify cost objects.
Implementing Step 2 Activity-Based Costing
Identify the direct costs of the products. Direct material Direct labor Mold cleaning and maintenance
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NL CL
Implementing Cleaning and maintenance costs of Activity-Based Costing
360,000 are direct batch-level costs. Why? Because these costs consist of workers’ wages for cleaning molds after each batch of lenses is run.
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Implementing Normal Lenses (NL) Activity-Based Costing
Cost Hierarchy Description Category Direct materials Unit-level 1,520,000 Direct mfg. labor Unit-level 800,000 Cleaning and maint. Batch-level 160,000 Total direct costs 2,480,000
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Implementing Activity-Based Costing
Complex Lenses (CL) Cost Hierarchy Description Category Direct materials Unit-level 920,000 Direct mfg. labor Unit-level 260,000 Cleaning and maint. Batch-level 200,000 Total direct costs 1,380,000
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Implementing Step 3 Activity-Based Costing Select the cost-allocation bases to use for
allocating indirect costs to the products. (1) (2) (3) Activity Cost Hierarchy Total Costs Design Product-sustaining 450,000 Setups Batch-level 409,200 Operations Unit-level 637,500
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Implementing Step 4 Activity-Based Costing Identify the indirect costs associated
with each cost-allocation base. Overhead costs incurred are assigned to activities, to the extent possible, on the basis of a cause-and-effect relationship.
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Implementing Step 5 Activity-Based per unit. Compute the rate Costing
(1) (5) NL CL Total Setup-hours: 640 2,000 2,640 409,200 ÷ 2,640 = 155
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Implementing Step 6 Activity-Based Costing Compute the indirect costs allocated
to the products. NL: 155 × 640 = CL: 155 × 2,000 = Total 99,200 310,000 409,200
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Implementing Step 7 Activity-Based Costing Compute the costs of the products.
NL and CL would show three direct cost categories. Direct materials Direct manufacturing labor
1.
2.
3.
Cleaning and maintenance
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Implementing NL and CL would show six indirect cost pools.
1.
2.
Activity-Based Costing Design
Molding machine setups
3.
4. 5.
Manufacturing operations
Shipment setup Distribution
6.
Administration
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doc_995325647.pptx
It also explains under costing and over costing, Distinction between the traditional and the activity-based costing approaches to designing a costing system.
Activity-Based Costing Systems
The Value Chain—Focus on Core Operations
The value chain is the set of activities and resources necessary to create and deliver products and services valued by customers.
R&D and Design
Suppliers and Production
Distribution and Marketing
Customer Service
2
Value Chain
• A value chain is a related sequence of value-creating activities within an organization.
?It helps managers better understand the interdependencies of those activities. ?A company’s value chain is part of its supply chain. ?It includes the value chains of suppliers and customers.
3
Supply Network and Value Chain for a Manufacturing Company
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Value Chain
? When
organizations work cooperatively with others in their supply chain or larger value chain, new processes can be introduced to reduce the total cost of products or services.
5
Supply Network and Value Chain for a Service Organization
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Discussion
Q. What is a supply chain?
7
Discussion
Q. What is a supply chain? A. A supply chain is an interdependent collection of organizations that supplies materials, products, or services to a customer.
8
Value-Adding Activities
• A value-adding activity is an activity that adds value to a product or service as perceived by the customer. • Examples include:
– Designing a car. – Assembling a car. – Painting a car. – Installing brakes on a car.
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Value and Non-value-Added Activities
Value-added activities add to product or service desirability in customers’ eyes.
Identify
Non-valueadded activities
Eliminate
Non-value-added activities add cost without additional desirability, and can be eliminated without reducing quality or performance. 10
Value and Non-value-Added Activities
Activities
Analysis and Classification
Non-valueAdded Activities
Reduce or Eliminate
ValueAdded Activities
Continually Evaluate and Improve 11
Examples of non-valueadded activities are:
Get rid Non-value-Added Activities – Storage of materials, of them! work-in-process, or
finished goods.
– Moving parts and materials in the factory.
– Waiting for work. – Inspection.
12
Non-value-Adding Activities
• A non-value-adding activity is an activity that adds cost to a product or service but does not increase its market value. • Examples include:
?Moving materials. ?Storing materials.
13
Process Value Analysis
• Process value analysis (PVA) is an analytical method of identifying all activities and relating them to events that cause or drive the need for the activities and the resources consumed.
14
Costs and Resources
? By
identifying non-value-adding activities, organizations can reduce costs and redirect resources to value-adding activities. manage the cost of an activity, the frequency of the activity can be reduced or it can be eliminated.
? To
? Outsourcing may
also reduce costs.
15
Value-Adding Activities in a Service Organization
Western Data Services, Inc. Value-Adding Activities for the Classic Letter Value-Adding Activities
Design the letter Create a database of customer names and addresses sorted in the ZIP code order Verify the conformity of mailing information with USPS requirements Process the job
How the Activity Adds Value
Enhances the effectiveness of the communication Increases the probability that the client will efficiently and effectively reach targeted customer group Ensures that the client’s mailing will receive the best postal rate Creates the client mailing
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Deliver the letters to the post office Begins the delivery process
Nonvalue Adding Activities in a Service Organization
• Prepare a job order form and schedule the job. • Order, receive, inspect and store paper, envelopes and supplies. • Set up machines to process a specific lettersize. • Log the total number of items processed in a batch. • Bill the client and record and deposit payments.
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Discussion
Q. What are examples of non-value-adding activities?
18
Discussion
Q. What are examples of non-value-adding activities? A. Moving materials.
Storing materials.
Repairing equipment.
Building maintenance.
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Traditional cost systems were created when Traditional Costing Systems manufacturing processes were labor intensive.
A single company-wide overhead rate, based on direct labor hours, may be used to allocate overhead to products in these labor intensive processes.
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Traditional Costing Systems
Overhead is allocated to jobs using direct labor hours. If overhead is 120, how much overhead is allocated to each job?
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Traditional Costing Systems
Overhead Rate = 120 ÷ 8 direct labor hours Overhead Rate = 15 per direct labor hour Job 1 = 2 hours × 15 per hour = 30 Job 2 = 6 hours × 15 per hour = 90
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Traditional Costing Systems
Automation increases overhead from 120 to 420 and reduces the Job 2 labor hours from 6 to 1. Allocate the 420 overhead to the two jobs using direct labor.
23
Traditional Costing Systems
Overhead Rate = 420 ÷ 3 direct labor hours Overhead Rate = 140 per direct labor hour Job 1 = 2 hours × 140 per hour = 280 Job 2 = 1 hour × 140 per hour = 140
24
Traditional Costing Systems
Is this reasonable? Automation benefited Job 2, but Job 1 is allocated more overhead. Clearly, we need another cost driver to allocate overhead.
25
A costing method that first assigns costs to activities, then assigns costs to products based Activity-Based Costing (ABC) on their use of the activities.
26
A costing method that first assigns costs to activities, then assigns costs to products based Activity-Based Costing (ABC) on their use of the activities.
Products Require Activities Activities Consume Resources
People Manage Activities
27
Both manufacturing and nonmanufacturing costs may be assigned to products.
Activity-Based Costing (ABC)
ABC is a good supplement to our traditional cost system.
A
Allocation bases often differ from traditional costing systems.
B
C
ABC is used primarily for decision making, not for inventory valuation for external reporting.
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Activity-Based Costing (ABC)
Activity-Based Costing
Traditional Costing
29
Activity-Based Costing (ABC)
Traditional Costing Resource Costs Activity-Based Costing Resource Costs
Directly traced or allocated Cost Pools: Plants or Departments
Predetermined overhead rate Cost Objects
Directly traced or allocated Cost Pools: Activities or Activity Centers
Cost driver rates for each activity Cost Objects
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Activity-Based Costing (ABC)
Costs
An Activity Cost Pool is a “container” in which costs are accumulated that relate to a single activity in the ABC system.
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related to the company’s products or services. ?Estimate the cost of each activity identified. ?Calculate a cost-driver rate for each activity. ?Assign activity costs to products using the cost-driver rate.
Four Steps the activities ?Identify and classifyin the ABC
Process
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UNIT-LEVEL ACTIVITES
Resources acquired and activities performed for individual units.
BATCH-LEVEL ACTIVITES ? Identify and Classify Activities
Resources acquired and activities performed for a group or batch of similar products or services.
PRODUCT - LEVEL ACTIVITES
Resources acquired and activities performed to produce and sell a specific product or service.
CUSTOMER- LEVEL ACTIVITES
Resources acquired and activities performed to serve specific customers.
FACILITY-LEVEL ACTIVITIES
Resources acquired and activities performed to provide general capacity to
produce goods or services.
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ABC teams of middlemanagement or above develop the activity dictionary.
TOP DOWN APPROACH ? Identify and Classify Activities
RECYCLING APPROACH
Reuses documentation of processes used for other purposes.
INTERVIEW OR PARTICIPATIVE APPROACH
ABC teams include or interview operating employees.
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? Estimate the Cost of The ABC teams should gather data on the costs of all the Activities activities identified in Step 1.
Examine accounting records for recorded cost information. Ask employees to indicate how much time they work on various activities.
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Two pieces of ? Calculate Cost-Driver Rates for Activity Activity Cost-Driver information are ÷ = Cost Volume Rate Activities required to compute
the cost-driver rate:
•Activity Cost
•Activity Volume MAY Company has 4 employees in its Quality Control Department. Salaries and costs for the department total 360,000 per year. MAY produces 500,000 units of product a year. What is the cost-driver rate per unit? 360,000 ÷ 500,000 units = .72 per unit 4-36
? Calculate Cost-Driver Rates for MAY has a customer service center where Activities customers can call to ask questions.
Customers pay a fixed fee for each call they make to the service center. It costs MAY 1,260,000 a year to operate the center. The center receives 120,000 calls per year. The center handles 1,000,000 minutes of calls. What is the appropriate cost driver; total minutes for all calls or number of calls? What is the cost-driver rate?
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Since Cost-Driver Rates for ? Calculate customers are charged ?per call?, the proper activity in this case is the number of Activities calls handled by the center. The cost-driver rate would be: 1,260,000 ÷ 120,000 units = 10.50 per call
38
Cause and effect relationship between activity and costs
? Calculate Cost-Driver Rates for Measurable Activities
Appropriate cost-driver base Predict or explain an activity’s use of resources
Based on resource’s practical capacity to support activities
39
Practical Capacity Note
When estimating the cost of an activity, only the costs associated with the product should be used (practical capacity). The cost of ?unused capacity? should not be applied to products. EXAMPLE
Suppose we rent a 1,000 square foot warehouse for 1,000 per month. Only 800 sq. ft. are used to store Product A. The rest of the warehouse is ?unused?.
How much rent cost should be allocated to Product A?
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Practical Capacity Note
80%, or 800 should be assigned to Product A
20%, or 200 should be assigned to “unused capacity”
41
1. Identify all the activities related to a given product or service.
? Assign 2. Determine Costs tocosts Activity 3. Assign how many units to products Products using the costof each activity
are used per unit of product. driver rates for each activity.
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Example: Yazz, Inc. produces 130,000 units of Product A and 400,000 units for Product B. Using the following cost information, how much overhead should be allocated to Product A?
Cost-Driver Activity Cost-Driver Base Rate Factory Floor Space Square Footage $ 50.000 Electricity Kilowatts $ 0.050 Water Gallons $ 0.160 Quality Control Units Inspected $ 0.850 Packaging - Inner Ounces of product $ 0.025 Packaging - Outer Boxes $ 1.250 Resources Used by Product A 20,000 Sq. Ft. 15,000 KW 80,000 Gal. 135,000 Units 270,000 Oz. 135,000 Boxes
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? Assign Activity Costs to Products
Cost-Driver Activity Base Factory Floor Square Space Footage Electricity Kilowatts Water Gallons Quality Control Units Inspected Packaging - Inner Ounces of product Packaging Boxes Outer
? Assign Activity Costs to Products
$ $ $ $ $ 0.050 0.160 0.850 0.025 1.250 15,000 80,000 135,000 270,000 KW Gal. Units Oz. $ $ $ $
Cost-Driver Resources Used Cost Rate Assigned by Product A $ 50.000 20,000 Sq. Ft. $ 1,000,000 750 12,800 114,750 6,750 168,750
135,000 Boxes $
Total Cost Assigned to Product A $ 1,303,800
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Activity-Based Costing Example
Let’s look at an example from the Bilson Company.
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Activity-Based Costing Example
• Product A requires 3.0 DLH and Product B requires 2.5 DLH to produce.
• Bilson, Inc. manufactures and sells 5,000 units of Product A (deluxe model), and 25,000 units of Product B (standard model) each year.
• Employing a traditional costing system, Bilson assigns overhead cost to products using direct labor hours.
• The predetermined overhead rate is:
Mfg. overhead cost Direct labor hours = 1,550,000 77,500 = 20/DLH
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Bilson’s unit product costs using traditional costing are: Activity-Based Costing Example
Direct material Direct labor Manufacturing overhead 3.0 DLH × $20/DLH 2.5 DLH × $20/DLH Total unit product cost Product A $ 40.00 30.00 60.00 $ 130.00 50.00 $ 104.00 Product B $ 29.00 25.00
Bilson marks its products up by 50 percent and allocates its 500,000 customer service costs based on revenue.
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130.00 × 1.50
Traditional Costing Activity-Based Costing Example
Product A Product B Volume Sales Price 5,000 $ 195.00 $ 40.00 30.00 60.00 65.00 975,000 200,000 150,000 300,000 325,000 100,000 225,000 $ 156.00 $ 3,900,000 725,000 625,000 1,250,000 $ 1,300,000 400,000 $ 900,000 25,000
Sales Revenue Direct Material $ Direct Labor Overhead Gross Margin $ Customer Service Costs Product operating income
$
$ $
$
29.00 25.00 50.00 52.00
975,000 ÷ (975,000 +3,900,000) × 500,000
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Sales of Product A have increased steadily since introduction, but company income has declined. Management at Bilson is unhappy with the traditional costing system and they have decided to try activity-based costing.
Activity-Based Costing Example
In addition, management has observed that the cost of direct labor is relatively stable. Since labor does not behave like a unit-level cost, labor will be combined with overhead and the total conversion cost will be assigned using ABC.
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Activity-Based Costing Example
In addition, management has observed that the cost of direct labor is relatively stable. Since labor does not behave like a unit-level cost, labor will be combined with overhead and the total conversion cost will be assigned using ABC.
The total conversion cost is: Traditional overhead Labor (77,500 hours @ 10) Total
1,550,000 775,000 2,325,000
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Activity-Based Costing Example
Activity Machine setups Quality inspections Production orders Machine-hours worked Material receipts Total
Total conversion cost
Management has identified the following five activities and costs in the production of its two products:
Cost $ 800,000 450,000 225,000 650,000 200,000 $ 2,325,000
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The following transaction data has been complied by management of Activity-BasedBilson: Costing Example
Activity Machine setups Quality inspections Production orders Machine-hours worked Material receipts Total 5,000 9,000 600 50,000 800 Product A 3,000 6,000 200 15,000 150 Product B 2,000 3,000 400 35,000 650
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These data can be used to develop predetermined cost-driver rates Example Activity-Based Costing for each of the five activities:
Activity Costs Machine setups $ 800,000 Quality inspections 450,000 Production orders 225,000 Machine-hours worked 650,000 Material receipts 200,000 Total $ 2,325,000 Total Transactions 5,000 9,000 600 50,000 800 Rate per Transaction $ 160.00 50.00 375.00 13.00 250.00 per per per per per setup inspection order hour receipt
800,000 ÷ 5,000 Machine setups = 160.00 per setup
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Activity-Based Costing Example
Product A
Activity ABC Rate Machine setups $ 160.00 Quality inspections 50.00 Production orders 375.00 Machine-hours worked 13.00 Material receipts 250.00 Total overhead assigned Number of units produced Conversion per unit Transactions 3,000 6,000 200 15,000 150 Amount $ 480,000 300,000 75,000 195,000 37,500 $ 1,087,500 ÷ 5,000 $217.50
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The activity-based overhead rates we just calculated can be used to assign conversion costs to Bilson’s two products.
Activity-Based Costing Example
Product B
Activity ABC Rate Machine setups $160.00 Quality inspections 50.00 Production orders 375.00 Machine-hours worked 13.00 Material receipts 250.00 Total overhead assigned Number of units produced Conversion per unit Transactions 2,000 3,000 400 35,000 650 Amount $ 320,000 150,000 150,000 455,000 162,500 $ 1,237,500 ÷ 25,000 $ 49.50
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The activity-based overhead rates we just calculated can be used to assign conversion costs to Bilson’s two products.
Activity-Based Costing Example
Product B
Activity ABC Rate Transactions Amount Machine setups $160.00 2,000 $ 320,000 Quality inspections 50.00 3,000 150,000 Production orders 375.00 400 150,000 Machine-hours worked 13.00 35,000 455,000 Material receipts 250.00 650 162,500 Total overhead assigned $ 1,237,500 Total conversion units produced A $ 1,087,500 Number of assigned to Product ÷ 25,000 Total conversion assigned to Product B 1,237,500 Overhead per unit $ 49.50
Total overhead $ 2,325,000
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The activity-based overhead rates we just calculated can be used to assign conversion costs to Bilson’s two products.
Activity-Based Costing Example
Activity Based Costing Direct materials Conversion Total unit product cost Product A $ 40.00 217.50 $ 257.50 Product B $ 29.00 49.50 $ 78.50
Let’s compute the product cost for A and B using our ABC overhead rates:
These amounts did not change as a result of using ABC.
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Now compare the unit product costs using the traditional costing system and our ABC Activity-Based Costing Example system.
Costing Method Activity-based costing Traditional costing Product A $ 257.50 130.00 Product B $ 78.50 104.00
Remember, we used one overhead rate based on direct labor hours.
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Now compare the unit product costs using the traditional costing system and our ABC Activity-Based Costing Example system.
Costing Method Activity-based costing Traditional costing Product A $ 257.50 130.00 Product B $ 78.50 104.00
Adopting activity-based costing usually results in a shift of batch-level and product-level overhead costs from high-volume standard products to low-volume, more complex products.
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Now compare the unit product costs using the traditional costing system and our ABC Activity-Based Costing Example system.
Costing Method Activity-based costing Traditional costing Product A $ 257.50 130.00 Product B $ 78.50 104.00
Can you see how different allocation methods might lead to making different management decisions?
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Based on these results Bilson also decides to use ABC to assign Its 500,000 customer service costs. The applicable activity is number of customer consultations. Customers buying Product A, the deluxe model, require more consultations than those buying Product B, the standard model.
Activity-Based Costing Example
Cost per consultation = 500,000 ÷ 125,000 consultations = 4.00
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No change in sales price
ABC Costing Example Activity-Based Costing
Product A Product B Volume Sales Price 5,000 $ 195.00 $ 975,000 200,000 1,087,500 $ (312,500) 200,000 $ (512,500) $ 156.00 $ 3,900,000 725,000 1,237,500 $ 1,937,500 300,000 $ 1,637,500 25,000
Sales Revenue Direct Material $ 40.00 Conversion 217.50 Gross Margin $ (62.50) Customer Service Costs Product operating income
$ $
29.00 49.50 77.50
Let’s compare product income using traditional and ABC costing.
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Product A Volume Sales Price 5,000 $ 195.00 $ 975,000 200,000 1,087,500 $ (312,500) 200,000 $ (512,500)
Product B 25,000 $ 156.00 $ 3,900,000 725,000 1,237,500 $ 1,937,500 300,000 $ 1,637,500
Sales Revenue Direct Material $ 40.00 Conversion 217.50 Gross Margin $ (62.50) Customer Service Costs Product operating income
$ $
29.00 49.50 77.50
ABC Costing
Product A Volume Sales Price 5,000 $ 195.00 $ 40.00 30.00 60.00 65.00 975,000 200,000 150,000 300,000 325,000 100,000 225,000
Product B 25,000 $ 156.00 $ 3,900,000 725,000 625,000 1,250,000 $ 1,300,000 400,000 $ 900,000
Sales Revenue Direct Material $ Direct Labor Overhead Gross Margin $ Customer Service Costs Product operating income
$
$ $
$
29.00 25.00 50.00 52.00
Traditional Costing
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Activity-Based Costing Example
Should Bilson increase the price of Product A? Should Bilson reduce the price of Product B?
Should Bilson drop Product A?
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• The price of Product A, the deluxe model, should probably be increased. Activity-Based Costing Example Customers who buy deluxe models may buy based on features instead of price. • The price of Product B, the standard model, may be too high. Customers who buy standard models are price sensitive. Decreasing the price would increase volume, possibly resulting in more income.
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accurate and informative product costs lead to better decisions. ABC– Benefits and Limitations ? More accurate measurements of the activities driving costs. ? Provides managers with easier access to relevant costs.
An ABC system is very expensive to develop and implement; it is also very time-consuming.
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? More
•
When Should a Company Use ABC? Indirect costs are significant in proportion to direct costs.
• Complex, low-volume products are profitable while standard, high-volume products are not.
• Different departments believe costs are assigned inaccurately.
• Goods are complex, requiring many inputs and processes.
• The company loses bids it thought were low, and wins bids it thought were high. • Operations have changed significantly, but the costing system has not changed. • Introduction of new models result in higher sales, apparent profits per unit, but an overall income decline.
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Under-costing and over-costing of products and services.
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separate items for lunch. Jose’s order amounts to Roberta consumed Nancy’s order is Total
Undercosting and Jose, Roberta, andExample Nancy order Overcosting
14 30 16 60
What is the average cost per lunch?
69
Under-costing and Over-costing Example
60 ÷ 3 = 20
Jose and Nancy are overcosted.
Roberta is undercosted.
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Three guidelines for refining a costing system.
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Existing Single IndirectKoleCost Poolmanufactures a normal lens Corporation System Example
(NL) and a complex lens (CL). Kole currently uses a single indirect-cost rate job costing system. Cost objects: 80,000 (NL) and 20,000 (CL).
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Existing Single IndirectNormal Lenses Example Cost Pool System(NL)
Direct materials Direct mfg. labor Total direct costs 1,520,000 800,000 2,320,000
Direct cost per unit: 2,320,000 ÷ 80,000 = 29
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Existing Single IndirectComplex Lenses Example Cost Pool System (CL)
Direct materials Direct mfg. labor Total direct costs 920,000 260,000 1,180,000
Direct cost per unit: 1,180,000 ÷ 20,000 = 59
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Existing Single IndirectINDIRECT-COST All Indirect Costs POLL Cost Pool System 2,900,000 Example
INDIRECT COST-ALLOCATION BASE 50,000 Direct Manufacturing Labor-Hours
58 per Direct Manufacturing Labor-Hour
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Existing Single IndirectCOST OBJECT: Indirect Costs Cost Pool System Example NL AND CL
LENSES Direct Costs
DIRECT COSTS
Direct Materials
Direct Manufacturing Labor
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Existing Single IndirectKole uses 36,000 direct manufacturing Cost Pool System Example
labor-hours to make NL and 14,000 direct manufacturing labor-hours to make CL. How much indirect costs are allocated to each product?
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Existing Single2,088,000 IndirectNL: 36,000 × 58 = Cost Pool System Example
CL: 14,000 × 58 = 812,000 What is the total cost of normal lenses? Direct costs 2,320,000 + Allocated costs 2,088,000 = 4,408,000 What is the cost per unit? 4,408,000 ÷ 80,000 = 55.10
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Existing Single IndirectWhat is the total cost of complex lenses? Cost Pool System Example
Direct costs 1,180,000 + Allocated costs 812,000 = 1,992,000 What is the cost per unit? 1,992,000 ÷ 20,000 = 99.60
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Existing Single IndirectCost Pool System Example
Normal lenses sell for 60 each and complex lenses for 142 each. Normal Complex Revenue 60.00 142.00 Cost 55.10 99.60 Income 4.90 42.40 Margin 8.2% 29.9%
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Refining a Costing System Direct-cost tracing
Indirect-cost pools Cost-allocation basis
81
Refining of Products andSystem a Costing Process 1. Design
The Design Department designs the molds and defines processes needed (details of the manufacturing operations).
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Refining a Costing System 2. Manufacturing Operations
Lenses are molded, finished, cleaned, and inspected. 3. Shipping and Distribution Finished lenses are packed and sent to the various customers.
83
Distinction between the traditional and the activity-based costing approaches to designing a costing system.
84
Fundamental Assignment to Other Activity-Based Costing System
Cost Objects Activities Cost Objects Cost of: • Product • Service • Customer
Costs of Activities
85
Activity-Based Costing Kole A cross-functional team at System
Corporation identified key activities: Design products and processes. Set up molding machine. Operate machines to manufacture lenses.
Maintain and clean the molds.
86
Activity-Based Costing System Set up batches of finished lenses for shipment.
Distribute lenses to customers.
Administer and manage all processes.
87
Activity Indirect Cost Pool
Design Setup Shipping Activity-Based Costing System
Cost Allocation Base
PartsSquare feet
No. of Setup Hours
No. of Shipments
Product Cost Objects
Lenses NL
Lenses CL
Lenses Other
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Activity-Based Costing System NL CL
Quantity produced 80,000 20,000 No. produced/batch 250 50 Number of batches 320 400 Setup time per batch 2 hours 5 hours Total setup-hours 640 2,000 Total setup costs are 409,200.
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Activity-Based cost per setup-hour? Costing System What is the setup
409,200 ÷ 2,640 hours = 155 What is the setup cost per direct manufacturing labor-hour? 409,200 ÷ 50,000 = 8.184
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Allocation using Costing System Activity-Based direct labor-hours: NL: 8.184 × 36,000 = 294,624 CL: 8.184 × 14,000 = 114,576 Total 409,200 Allocation using setup-hours: NL: 155 × 640 = 99,200 CL: 155 × 2,000 = 310,000 Total 409,200
91
Four-part cost hierarchy.
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Cost Hierarchies A cost hierarchy is a categorization
of costs into different cost pools. Cost drivers bases (cost-allocation bases) Degrees of difficulty in determining cause-and-effect relationships
93
ABC systems commonly use a Cost Hierarchies four-part cost hierarchy to identify cost-allocation bases: 1. Output unit-level costs
2. 3. 4. Batch-level costs Product-sustaining costs Facility-sustaining costs
94
Output Unit-Level Costs These are resources sacrificed
on activities performed on each individual unit of product or service. Energy Machine depreciation
Repairs
95
Batch-Level Costs These are resources sacrificed on activities that are related to a group of units of product(s) or service(s) rather than to each individual unit of product or service. Setup-hours
Procurement costs
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Product-Sustaining Costs These are often called service-sustaining
costs and are resources sacrificed on activities undertaken to support individual products or services. Design costs
Engineering costs
97
Facility-Sustaining Costs These are resources sacrificed on
activities that cannot be traced to individual products or services but support the organization as a whole. General administration
– rent
– building security
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Cost products or services using activity-based costing.
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Step 1
Identify cost objects.
Implementing Step 2 Activity-Based Costing
Identify the direct costs of the products. Direct material Direct labor Mold cleaning and maintenance
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NL CL
Implementing Cleaning and maintenance costs of Activity-Based Costing
360,000 are direct batch-level costs. Why? Because these costs consist of workers’ wages for cleaning molds after each batch of lenses is run.
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Implementing Normal Lenses (NL) Activity-Based Costing
Cost Hierarchy Description Category Direct materials Unit-level 1,520,000 Direct mfg. labor Unit-level 800,000 Cleaning and maint. Batch-level 160,000 Total direct costs 2,480,000
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Implementing Activity-Based Costing
Complex Lenses (CL) Cost Hierarchy Description Category Direct materials Unit-level 920,000 Direct mfg. labor Unit-level 260,000 Cleaning and maint. Batch-level 200,000 Total direct costs 1,380,000
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Implementing Step 3 Activity-Based Costing Select the cost-allocation bases to use for
allocating indirect costs to the products. (1) (2) (3) Activity Cost Hierarchy Total Costs Design Product-sustaining 450,000 Setups Batch-level 409,200 Operations Unit-level 637,500
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Implementing Step 4 Activity-Based Costing Identify the indirect costs associated
with each cost-allocation base. Overhead costs incurred are assigned to activities, to the extent possible, on the basis of a cause-and-effect relationship.
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Implementing Step 5 Activity-Based per unit. Compute the rate Costing
(1) (5) NL CL Total Setup-hours: 640 2,000 2,640 409,200 ÷ 2,640 = 155
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Implementing Step 6 Activity-Based Costing Compute the indirect costs allocated
to the products. NL: 155 × 640 = CL: 155 × 2,000 = Total 99,200 310,000 409,200
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Implementing Step 7 Activity-Based Costing Compute the costs of the products.
NL and CL would show three direct cost categories. Direct materials Direct manufacturing labor
1.
2.
3.
Cleaning and maintenance
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Implementing NL and CL would show six indirect cost pools.
1.
2.
Activity-Based Costing Design
Molding machine setups
3.
4. 5.
Manufacturing operations
Shipment setup Distribution
6.
Administration
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doc_995325647.pptx