ACCT210 Chapter 4 Notes
ACCT210 Chapter 4 Notes ACCT210
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This 10 page Class Notes was uploaded by Kristin Koelewyn on Wednesday February 3, 2016. The Class Notes belongs to ACCT210 at University of Arizona taught by Heather Altman in Spring 2016. Since its upload, it has received 38 views. For similar materials see Managerial Accounting in Accounting at University of Arizona.
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Date Created: 02/03/16
Accounting 210 Chapter 4 Notes: Activity-Based Costing - Tradition Costing Systems: o Allocates overhead using a predetermined rate. o Job order costing: direct labor cost may be the relevant activity base. o Process costing: machine hours may be the relevant activity base. o Illustration: Atlas Company produces two abdominal fitness products—the Ab Bench and the Ab Coaster. The direct materials cost per unit is $40 for the Ab Bench and $30 for the Ab Coaster. The direct labor cost is $12 per unit for each product. Both products require one direct labor hour per unit; both products are allocated overhead cost of $30 per unit. - The Need for a New Approach: o Tremendous change in manufacturing and service industries. o Decrease in amount of direct labor usage. o Significant increase in total overhead costs. o Inappropriate to use plantwide predetermined overhead rates when a lack of correlation exists. o Complex manufacturing processes may require multiple allocation bases; this approach is called activity-based costing (ABC). - Activity-Based Costing o An approach for allocating overhead costs. ▯ Allocates overhead to multiple activity cost pools. ▯ Assigns the activity cost pools to products or services by means of cost drivers. - Four Steps of Activity-Based Costing: o 1. Identify and classify the activities involved in the manufacture of specific products and assign overhead to cost pools. ▯ Overhead costs are assigned directly to the appropriate activity cost pool. o 2. Identify the cost driver that has a strong correlation to the costs accumulated in each cost pool. ▯ Cost driver must accurately measure the actual consumption of the activity by the various products. o 3. Compute the activity-based overhead rate for each cost pool. ▯ Next, the company computes an activity-based overhead rate per cost driver. o 4. Allocate overhead cost to products using the overhead rates determined for each cost pool. ▯ In allocating overhead costs, it is necessary to know the expected use of cost drivers for each product. Because of its low volume and higher number of components, the Ab Coaster requires more setups and purchase orders than the Ab Bench. - Activity-Based Costing Cont.: o ABC allocates overhead in a two-stage process: ▯ Stage 1: Overhead costs are assigned to activity cost pools (Step 1). ▯ Stage 2: Allocates overhead assigned to the activity cost pools to products, using cost drivers (Steps 2-4). • The more complex a product’s manufacturing operation, the more activities and cost drivers are likely to be present. - DO IT! Indicate if the following are TRUE or FALSE: o 1. A traditional costing system allocates overhead by means of multiple overhead rates. false o 2. Activity-based costing allocates overhead costs in a two-stage process. true o 3. Direct material and direct labor costs are easier to trace to products than overhead. true o 4. As manufacturing processes have become more automated, more companies have chosen to allocate overhead on the basis of direct labor costs. false o 5. In activity-based costing, an activity is any event, action, transaction, or work sequence that incurs cost when producing a product. true - Comparing Unit Costs: o Likely consequence of differences in assigning overhead. ▯ Overpricing the Ab Bench and possibly losing market share to competitors. ▯ Sacrificing profitability by under-pricing the Ab Coaster. - DO IT! Casey Company has five activity cost pools and two products. It expects to produce 200,000 units of its automobile scissors jack and 80,000 units of its truck hydraulic jack. Having identified its activity cost pools and the cost drivers for each cost pool, Casey Company accumulated the following data relative to those activity cost pools and cost drivers. Using the data below,1.) prepare a schedule showing the computations of the activity-based overhead rates per cost driver, 2.) prepare a schedule assigning each activity’s overhead cost to the two products. 1. 2. o ABC has three primary benefits: ▯ 1.) More cost pools, therefore more accurate product costing. ▯ 2.) Enhanced control over overhead costs. ▯ 3.) Better management decisions. - The Advantage of Multiple Cost Pools: o Multiple cost pools: ▯ Used instead of one plantwide pool and a single cost driver. ▯ Numerous activity cost pools with more relevant cost drivers. • Costs allocated on basis of cost drivers used to produce each product. o Classification of activity levels: ▯ Unit Level • Performed for each unit of production. • Example: Assembly of cell phones ▯ Batch Level • Performed every time a company produces another batch of a product. • Example: Batch of ice cream ▯ Product Level • Performed every time a company produces a new type of product. • Example: Time spent testing a new drug by a pharmaceutical company. ▯ Facility Level • Required to support or sustain an entire production process. • Example: A hospital - The Advancement of Enhanced Cost Control: o Value Added Activities: Increase the perceived value of a product or service to costumers, such as: ▯ Manufacturing Company: Engineering design, Machining services, Assembly, Painting ▯ Service Company: Performing surgery, Legal research, Delivering packages o Non Value Added Activities: Adds cost to, or increases the time spent on, a product/ service without increasing its perceived value, such as: ▯ Manufacturing Company: Storage of inventory, Moving of inventory, Inspections, Fixing defective goods, set up machines ▯ Service Company: Taking appointments, Reception, Bookkeeping and billing, Traveling, Ordering supplies, Advertising - Advantage of Better Management Decisions: o Activity-based management (ABM), a management tool that focuses on reducing costs and improving processes and decision- making. o Managers use ABC via ABM: for both strategic and operational decisions or perspectives, to help managers evaluate employees, departments, and business units, and to establish performance standards, as well as benchmark against other companies. - Limitations and Knowing When to Use ABC: o Limitations: ▯ Expensive to use ▯ Arbitrary allocations remain o When to use: ▯ Product lines differ in volume and manufacturing complexity. ▯ Product lines are numerous and diverse. ▯ Overhead costs constitute a significant portion of total costs. ▯ Manufacturing process or the number of products has changed significantly. ▯ Production or marketing managers are ignoring data. - DO IT! Classify Activity Levels: Morgan Toy Company manufactures six primary product lines in its Morganville plant. As a result of an activity analysis, the accounting department has identified eight activity cost pools. Each of the toy products is produced in large batches, with the whole plant devoted to one product at a time. Classify each of the following activities as either unit-level, batch-level, product-level, or facility- level: o a. Engineering design o b. Machine setup o c. Toy design o d. Interviews of prospective employees o e. Inspections after each setup o f. Polishing parts o g. Assembling parts o h. Health and safety - Apply Activity-Based Costing to Service Industries: o Overall objective: Identify key activities that generate costs and keep track of how many of those activities are completed for each service performed. ▯ General approach is to identify activities, cost pools, and cost drivers. ▯ Labeling of activities as value-added or non-value-added. ▯ Sometimes, a larger proportion of overhead costs are company-wide costs that cannot be directly traced to specific services provided by the company. - Traditional Costing Example: o The public accounting firm of Check and Doublecheck prepares the following condensed annual budget. o Assume that Check and Doublecheck records $140,000 of actual direct professional labor cost during its audit of Plano Molding Company, which was billed an audit fee of $260,000. Under traditional costing, using 50% as the rate for applying overhead to the job, Check and Doublecheck would compute applied overhead and operating income as shown in Illustration 4-16. - Activity Based Costing Example: o Check and Doublecheck distributes its estimated annual overhead costs of $600,000 to three activity cost pools. o Assigning overhead in a service industry: o Under activity-based costing, Check and Doublecheck assigns overhead costs of $57,200 as compared to $70,000 under traditional costing. - Appendix 4A: Explain Just in Time (JIT) Processing: o JIT manufacturing is dedicated to having the right amount of materials, parts, or products just as they are needed. o Objectives of JIT Processing: ▯ To eliminate all manufacturing inventories. o Elements of JIT Processing: ▯ Dependable suppliers. ▯ Multi-skilled work force. ▯ Total quality control system. o Benefits of JIT Processing: ▯ Significant reduction or elimination of manufacturing inventories. ▯ Enhanced product quality. ▯ Reduction or elimination of rework costs and inventory storage costs. ▯ Production cost savings from the improved flow of goods through the processes.
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