Cost Accounting

February 5th, 2023

Financial Analysis Of Gracie Fay International Company

Gracie Fay International (GIF) has an art to understand their abilities to record, classify, and summarize their financial, but they are lacking the understanding of their cost accounting systems, product costs for production of took balls, specific job order cost for special order products, and their cost information on the two models of pitching machines, which all of these areas are not being Justify on how Important cost accounting is too growing company Like GIF.

These four areas will be explored In more detail in order to shed light on each activity, which will ensure that GIF Is asking a profit, correct decisions, and recognizes any corrections that need to me made. GIF must understand that cost accounting Is an Important function In their corporate strategy. Cost accounting Is known as managerial, or management accounting, which It provides economic, and financial Information In making decision for the company. Its mall objective is to provide information In ladling management to plan, direct, and control operations.

It also improves these controls by supplying data on the cost incurred to each manufacturing department. The skill sets that I have will enhance GIF on many levels, and they include; full knowledge of purchasing policies, processes, and procedures, balance and reconcile records, able to research and resolve unbalance issues, have strong technical skills, solid decision making skills, and the ability to exercise independent Judgment, prioritize and plan, work activities efficiently to meet deadlines, work as a team or independently, detailed oriented, excellent oral and written communication skills, and strong mathematical skills.

Cost management is used to plan, and control the company’s decision process, in which reduce cost would be lower, and product value would increase for customers. It provides information that ensures management makes short, and long term decisions no matter what kinds of materials are being used, changes in plant process, or in product design. Management would make these kind of decision to increase short term profits, and Improve the long term position of the company. There are three cost system that are used for manufacturing operations; Job order cost system, Process cost systems, and Activity based (BBC).

Job order Is used to reduce products for specific orders, and It estimates the costs with producing the goods for different Jobs (Atkinson et. Al. 2005 p. 79) Process costing Is often used by companies that operate using continuous processing. This type of system applies the costs of production, labor and support actively as the goods pass through the different process stages. (Atkinson et al, 2005, p. 92-94) BBC has a two stages, the first stage Is cost Is allocated to pools, and the second stage Is the cost pools are allocated to products, or services. (Edmonds et al, 2006, p. 33). These septets include understanding the difference between manufacturing, and non manufacturing costs, computing the cost of manufacturing a product, indemnifying cost behavior when it comes to utilizing cost volume profit relationships, setting prices, budgeting, controls, and capital when it comes to the company’s strategies. Transform raw materials into finished product, and the cost consist of basic materials, and components, labor, and factory overhead in order to complete a finished product. The material, and labor is classified as direct, or indirect to the finished product.

To explain direct material, it is taking major components, which can be traced to the finished product. It counts these components carefully, because of the significance to the product, for example take a lawn mower its major components are the engine, wheels, and handle, but the indirect materials is those minor items like screws, nuts, bolts, washers, and lubricants, which is accounted for as factory overhead. Cost accounting also includes direct labor costs, which is all labor costs for specific work performed on products that can be conveniently and economically raced too product unit.

Factory overhead is all factory costs that are indirectly related with the finished inventory. When it comes to cost behavior, the costs do not change in total, even when the product numbers increase, or decrease, and is considers to be fixed cost, an example would be rent. Other cost that a factory may incur would be known as non manufacturing cost, which includes selling, administrative, and financing costs that are deducted as expenses from the sales revenues. The manufacturing production process includes, Job shops, batch flows, etc. Which help determine the type of product cost system the company may utilize.

It is understood that when making a decision its best to use estimation of costs, but management must have a good idea on how costs behave. There are several methods that management could use; the high low method, or the least square regression. When a company is setting prices there is one approach to think about, that would be the cost plus pricing. Then the company can apply the proper markup given the competitive market conditions, and other factors, like target selling price. In equines a budget aids in planning, and controlling of the company. Master budgets consist of operating, and financial budgets.

The operating budget forecast sales, while financial budget is based on data from income statement. Let not forget that budgetary control is needed, this process compares actual operating results, and to identify problem areas in order to correct the issues. In conclusion cost accounting provides products, or services that greatly benefit Gaffs management team in many areas such as, competition, downsizing, or expanding globally, therefore GIF must understand that without cost accounting in their business plan the company may not be able to expand their activities, remain profitable or improve its competitive standing. Art 2 Product Cost Variable Fixed Direct Electricity x Real Estate Taxes x Indirect Leather to tie wood together Manufacturing Labor Water x Lubricants for Machinery Equipment depreciation Electricity, and Water- is manufacturing, variable cost, because the business depends on electricity, and when sales have increased it creates more demand for more product. Real Estate Taxes, and Equipment depreciation- is fixed, because it remains instant within a relevant range of volume, or activity.

February 5th, 2023

Issues in Budgeting: Management and Cost Accounting

Today’s management accountant information, driven by the procedures and cycle of the organisation’s financial reporting system, is too late, too aggregated, and too distorted to be relevant for managers planning and control decisions.

The above quote is the opening paragraph in Johnson & Kaplan’s book, summarising what they felt was wrong with management accounting, below is a set of bullet points that develop the key arguments made in the book.

Main Arguments:

Management accounting systems and techniques in the Western World were as they had been since 1920.
Information systems were geared towards financial reporting, as was the decision making process, causing a general drift from cost management to cost accounting.
Existing management accounting could not adapt to new competitive environments, management styles, production techniques and organisational structure.
Management accounting facilitated the growth of large enterprises, throughout in early C20th and was not just a by-product.

The first argument that will be analysed is the issue that management accounting techniques had not changed since the 1920’s. On the whole Johnson & Kaplan’s argument was true, from 1920 to the mid 1980¡¦s there were no pioneering new management accounting techniques that were established. The issue raised is why no new management techniques were developed. During the 1920’s and onwards USA firms such as General Motors and Dupont were using to a great extent heavy mass production and Fordist principles. They could out produce and under cut competition while providing a high quality product to a market that was in very high demand. From this point in the 1920’s to the 1970’s these firms could produce huge amounts of products and sell them to an ever-expanding market. Competition was essentially localised, markets were secure and the USA was becoming more consumer society orientated, for reasons such as the introduction of the credit card, baby bust etc. Research revealed that firms did not need to change. The following quote summarises why no key issues techniques developed:

There was little incentive to minimise manufacturing costs, as increased costs could be passed on to the consumer¡¨(Changing Nature Of Issues In Management Accounting. Scrapens, Hopper, Ashton). In a situation where firms did not need to keep or require elaborate costing records, organisations had no real need to invest capital or time developing them. Where existing methods were producing acceptable results measurement, firms had as if it is not broken why fix it approach. It was not until the 1970s that firms in the USA (and to large extent firms in the UK) experienced many external environmental changes that highlighted internal problems.

“Major companies in manufacturing industries that had been prospering and leading the world in the 1900’s were bleeding red ink and many were dying.” (Reflections of a recovering Management Accoutnant. Johnson 1988). The issue is why did these firms struggle and dissolve during the 1970’s to the present day. Johnson & Kaplan clearly believe it was to do with a lack of development of management accounting techniques. They claim that because of shareholders predominant stakeholder interest, organisations, and particularly management accounting within them suffered greatly, becoming subservient to it. The implications of which caused poor even disastrous operating decisions for long-term prosperity. In the sense that management accounting was geared to producing good year-end results.

Johnson & Kaplan argue that information systems during the late 1970’s and early 1980’s were heavily influenced by the needs of shareholders. This is a very valid statement, as at this time database technology was starting to be implemented and firms opted for packages that aided external reporting because of statutory requirements and the high costs involved. However is was not until the 1980’s during the Thatcher-Reagen era that capital gains legislation was lifted and shareholders were free to invest divest with no tax penalties for disloyalty. This is the point in time that US and UK directors became focused on maximising share value and dividend, both of which are short-term strategies. Read also Johnson and Johnson financial analysis

External reporting was of high priority in the 1970’s and early 1980’s, but whether this caused management accounting to lose relevance, assuming it had relevance to lose in the first place, is debatable. Johnson ; Kaplan argue that when management accounting was relevant during the period of 1880 to 1920 it facilitated the growth of huge US companies, it was not merely a by-product. But other theorists argue that management accounting did not have the impact within these organisations as Johnson ; Kaplan believed.

“Evolution of accounting systems is analysed as an aspect of overall changes in the pattern of control of the labour process.” Kaplan studied Lynman mills stating that cost accounting was used to monitor performance and improve task efficiency, which lead to the firms resultant profits. Hopper ; Armstrong argue that it was the close discipline of labour and the extension of the working day that lead to profitability. Hopper ; Armstrongs underlying point was that management and cost accounting developed, as a tool for the control of labour, and improvements in this lead to higher profits. They further state that bureaucracies were not sought after because of transaction costs, but as a tool to intensify corporate controls of labour. Both theorists have merit and are supported by evidence from case studies, it is true when Johnson ; Kaplan state that firm used tools such as budgeting and ROI to develop, conversely there is evidence that show it was also used as a method for controlling labour. This example of conflicting theorist’s views highlights the need to analyse Johnson & Kaplan’s arguments in a broad to context.

The vital question that is raised is whether the drop in performance, profits etc. of US organisations in the last 30 years was down to poor management accounting. It is a very bold statement to make, as there are numerous factors that affected organisations in the USA. The mass production systems were no longer as viable, there was massive saturation in the market and the markets could not be developed any further. Firms lacked innovation because of pressures of shareholders returns; therefore there was reduced investment in R;D, new equipment and training of staff. All these factors coupled with the increase in global competition, particularly from Japan-Germany lead to many of the large firms going bust or struggling hugely.

As previously mentioned the difficulty in determining whether Johnson ; Kaplan’s points were correct was whether the above could have been avoided with accurate cost information. Assuming that cost information was inaccurate and outmoded in US manufacturing as Johnson & Kaplan discusses, would that have prevented the firms struggling as they did. The evidence suggests it would have not made a substantial difference, as many factors were beyond the control of these organisations. Accurate cost information could not have avoided the rise in shareholder dominance, saturation of markets, and the advent of the rapid increase in global competition (Drury, 2004).

Were Johnson & Kaplan Correct In What They Said? To a degree, Johnson & Kaplan were correct about what they said about US manufacturing up to the 1980’s. But when the book was published in 1987, many changes and transformations had already started to occur. As mentioned previously, Johnson ; Kaplan’s point about the dominance of financial reporting coupled with information systems being geared to external reporting did need attention. The constraint on companies, in the late 1970’s and early 1980’s was the cost, reliability issues of having two separate information systems providing information for both external and internal reporting, as at this point the two could not be integrated. Organisations were forced to go with financial reporting systems because statutory rulings.

The argument that management accounting techniques were as they were since 1920 does also have merit. But Johnson & Kaplan only researched US firms, had a relatively small sample size and used case studies to a high degree compared to actual physical research within organisations. A very large proportion of firms still used the same production methods up to 1970’s i.e. mass production. So with such a production method being used for a great proportion of the C20th, there was no real need for new accounting methods to be developed and utilised.

Johnson ; Kaplans other main argument in relevance lost was that the existing management accounting methods could not adapt to new competitive environments is also applicable. But other factors were related to the US’s lack of competitive products, such as quality, level of innovation, reliability and flexibility. Do Johnson & Kaplan’s Claims Still Have Merit? It is established up to the 1980’s US firms were dominated by financial reporting measurement, they were no longer competitive on a global basis and there were no “new” management accounting techniques. Management accounting methods had not changed enormously, but if firms had made use of ABC and balanced scorecard it is not convincing that they would have been in a different situation during the latter half of the C20th. One main point that Johnson & Kaplan did not convey from there research was: “Fundamental changes in the use of management accounting practises.”

Although the above quote concerns UK research, it can be regarded as representative of Western organisations. Modern organisations are acknowledging the importance of advanced accounting techniques, with increasing focus on commercial orientation. Recognising the fact that the company must be able satisfy the ongoing-concern concept and generate profits in the future. This aspect of organisational behaviour contrasts with Johnson & Kaplan¡¦s view that firms were geared to a short-term outlook.

The huge development of hardware and software advances in computers over the last twenty years has had the biggest impact on management accounting and organisations. Johnson & Kaplan state that information needs lagged behind, but recent information systems deal with basic transaction processing, right up to executive support systems (ESS) that can aid strategic planning years in advance. Effective management information systems provide support for planning, measuring, controlling, communicating etc. but most importantly they are accessible and easily used by any member of an organisation. Modern IS has allowed knowledge to be ¡§freed up¡¨ throughout intranets and networks, employees and managers a like can make key decisions on a much more timely basis with real time information. Effective IS in organisations can easily avoid the “lateness” of cost information and variances, which Johnson & Kaplan cited as a major problem.

Such developments have serious implications for the accountant, whose “traditional” role is now being phased out with the rise of modern IS. Research has indicated that the modern day accountant is much more involved with the daily running of the organisation than ever before, now have a: “More proactive, and central role within the management process.” (Changing Nature Of UK Management Accounting Practise. Burns, Ezzamel, Scrapens. 2000).

Modern accountants require a broad understanding of organisational processes; particularly production processes and should contribute to aiding and implementing the firm’s strategic plans. Modern management accountants are now just as involved in organisational activities as production and marketing managers. This role of the accountant is very different to the one conveyed in the writings of Johnson & Kaplan. This new “hybrid-accountant” has been formed by new information technology such as ERP, routine accounts being processed by computers, outsourcing and an increasing need for the accountant to be involved in strategic planning and decision making. Although on the surface management accounting may seem as it was in 1920 (in terms of techniques) its use is very different. “Management by numbers” as Johnson & Kaplan quote is still part of management accounting, but only a part, modern management accounting is now used more so than any other time previously for decision support and strategy. This is reflected in the rise of the new role for the modern management accountant, who can be seen as a linking pin, which binds all aspects of the organisation together.

So in other words, as mentioned previously Johnson & Kaplan were right to criticise aspects of management accounting within organisations, raising key issues about its use. However the main arguments can only be applied up to the 1980’s, as at this point in time, information technology developed, manufacturing industry declined (USA) and firms were subject to entirely different global markets. Management accounting techniques although relatively unchanged in theory, were used differently in practise and became an aid strategic planning. Dissemination of information became extremely easy and cheap to implement and costs revenues could be monitored in real time. Organisations have been slow to take up new techniques such as balanced scorecard and ABC as it is undecided whether these methods are appropriate and significantly benefit organisations and generate more “relevant” cost information. As Johnson pointed in his later book, in which he openly criticised ABC: “Listen to the customers, listen to the voice of the process, then the costs will take care of themselves.” (Relevance Regained. Johnson 1991)

Research points out that firms are now very keen to use non-financial measures as a critical success factor, and focus strongly on customer orientation. Utilising key performance indicators as a target for long term profitability. This conflicts with the view that organisations were dominated by short-term thinking, obsessed with “short term financial accounting mentality.” However, it is important to note the US is still capital market based and shareholders are the dominant user. The main difference between the present and two decades ago are Information technology developments, such as decision support systems and executive support systems allowing non-accounting managers to have access to the same information as accountants and make informed rational decisions. The key point is whether the current trend of long-term vision and strategic planning will continue, it may have to if organisations wish to survive as global competition intensifies. But there will always be an ominous cloud looming because of the stability issues of the economy and stock market within a capital market based system.

Johnson ; Kaplan did raise appropriate and important questions about western management accounting, but these points and arguments were only true of organisations operating up to the early 1980’s. Due to recent developments in IT, changes in the use of management accounting information and more focus and long term strategies, Johnson & Kaplan’s arguments no longer have a great deal of merit. Their book sent shock waves through the accounting body, with tremors still being felt today. Johnson ; Kaplan sparked the accounting profession to review itself, and have helped organisations re-evaluate the importance of having an accurate management accounting system. Despite their arguments being outdated, “Relevance Lost” has ultimately benefited management accounting practise.

In conclusion cost accounting is the process of tracking and recording and analysing costs associated with the products or activities of an organisation. In modern accounting, costs are measured in accordance with Generally Accepted Accounting Principles (GAAP). GAAP reporting records historical events and assigns a monetary value to each event that has taken place. Costs are measured in units of currency by convention. Cost accounting could also be defined as a kind of management accounting that translates the Supply Chain (the series of events in the production process that, in concert, result in a product) into financial values. Managers use cost accounting to support decision making to reduce a company’s costs and improve its profitability.

There are at least four approaches:

Standard Cost Accounting
Activity-based Costing
Throughput Accounting
Marginal Costing

Cost accounting has long been used to help managers understand the costs of running a business. Modern cost accounting originated during the industrial revolution, when the complexities of running a large scale business led to the development of systems for recording and tracking costs to help business owners and managers make decisions.

In the early industrial age, most of the costs incurred by a business were what modern accountants call “variable costs” because they varied directly with the amount of production. Money was spent on labour, raw materials, power to run a factory, etc. in direct proportion to production. Managers could simply total the variable costs for a product and use this as a rough guide for decision-making.

References

Relevance Lost. Johnson & Kaplan 1987.
Relevance Regained. Johnson 1991.
Changing Nature Of UK Management Accounting Practise. Burns, Ezzamel, Scrapens 2000.
Changing Nature Of Issues In Management Accounting. Scrapens, Hopper, Ashton.
Dury, C (2004) Management and Cost Accounting. 6th Edition. Hemel Hempstead. Prentice Hall, Europe.
Reflections Of A Recovering Management Accountant. Johnson 1998.
Management Information Systems. Laudon & Laudon 2000.

February 4th, 2023

Cost Accounting Analysis of Krispy Kreme Doughnuts Inc.

Table of contents

Introduction and overview

Krispy kreme doughnuts inc. and its brief history

Krispy Kreme Doughnuts, Inc. is a producer of yeast-raised doughnuts. It is famous for the Original Glazed, the sweet and amazingly fluffy doughnut variety. The company’s shops also offer snack food, fruit pies, cinnamon buns, and beverages, including coffee, espresso, and frozen drinks. Its headquarters is located at Winston-Salem, North Carolina. Krispy Kreme can be found in 41 US States, as well as in Australia, Canada, Hong Kong, Indonesia, Japan, Kuwait, Mexico, Philippines, Republic of South Korea, Qatar, Saudi Arabia, United Arab Emirates and United Kingdom, with approximately 460 stores worldwide as of April 9, 2008. Its principal subsidiaries are Krispy Kreme Doughnut Corporation; Krispy Kreme Distributing Company, Inc.; Krispy Kreme Coffee Company, LLC; Krispy Kreme Mobile Store Company; HD Capital Corporation; HDN Development Corporation; Montana Mills Bread Co., Inc.; Panhandle Doughnuts, LLC; Oliver Acquisition Corp.; Krispy Kreme International Ltd. (Switzerland); Hot Doughnuts Now International Ltd. (Switzerland); Krispy Kreme Europe Limited (U.K.).

In 1933, Vernon Carver Rudolph, the founder of Krispy Kreme, and his uncle purchased from a French chef from New Orleans a doughnut shop, along with it, the secret yeast-raised doughnut recipe. In 1935, Rudolph moved the operations to Nashville, Tennessee. In 1937, Rudolph establishes Krispy Kreme Doughnuts in Winston-Salem, North Carolina, focusing on retail operations to meet public demands, after initially focusing on wholesaling. By the late 1950’s, the company has established 29 shops in 12 states.

Krispy Kreme Doughnut Corporation became a wholly-owned subsidiary of Beatrice Foods Company of Chicago in 1976. But in 1982, Krispy Kreme became an independent company again when it was purchased from Beatrice Foods by a group of investors headed by Joseph McAlee, Sr. In 1995, Krispy Kreme opened its first shop outside the South in Indianapolis. The first New York City Krispy Kreme outlet makes its debut in 1996. In 1999, the First West Coast store opens in La Habra, California.

Krispy Kreme made its initial public offering in 2000, with 141 stores in 27 states. This move raised $63 million of net proceeds in NASDAQ. In 2001, Krispy Kreme opened its first store outside the United States; as well as moved its stock to the New York Stock Exchange. It acquired Montana Mills Bread Co., Inc. for $40 million in stock in 2003. The company has been rapidly expanding its international operations since 2004. Read about Doughnut Industry

Industry overview

In 2002, the doughnut industry —a $3.6 billion category— was the fastest-growing dining category, with a 9% sales growth, twice the industry average; the three fastest-growing doughnut chains are Dunkin’ Donuts, Krispy Kreme and Tim Horton’s (USA Today, 2003).

Krispy Kreme’s principal competitors are Allied Domecq Quick Service Restaurants (owner of the Dunkin Donuts franchise); Starbucks Corporation; Winchell’s Donut Houses Operating Company, L.P.; The TDL Group, Ltd. (operator of Tim Horton’s); and Cinnabon (Referenceforbusiness.com, 2008).

Krispy Kreme is among the top players in this industry, with the company achieving a 38.7% sales growth in 2002, compared to the 8.1% and 20% figures of Dunkin Donuts and Tim Horton’s, respectively; the company also earned a sales figure of $622 million, compared with $2.7 billion and $115 million of Dunkin and Horton’s (USA Today, 2003).

Krispy Kreme’s position in the industry is a factor for its success. Being a famous brand makes it easier for the company to expand its operations within the country, as well as in the international scene. Read about open access good example

Major concerns and issues

Doughnuts, being an unhealthy food, face a threat as consumers look for healthier alternatives. In 2005, “Krispy Kreme has announced that it has lowered its fiscal 2005 earnings guidance as a result of lower sales that may be impacted by individuals on the low carb diet its plans to close or sell its Montana Mills restaurants” (AIB International, 2008). A shift in consumer preferences towards healthier alternatives spells lower earnings, and could lead a reduction in the company’s operations.

Potential ethical situation

Krispy Kreme might face yet again an issue of ethical bankruptcy like it did in 2005, when it likely missed a Dec. 15 filing deadline after failing to report earnings for the last four quarters, as they have been embroiled in a controversy over how they accounted for the repurchase of franchises owned by former Krispy Kreme executives. A tighter and more open reporting should defray ethical questions about this company.

Journal entries

Krispy Kreme and activity-based costing

Activity-based costing is a practice in which activities are identified and all related costs of performing them are calculated, providing actual costs chargeable. This method estimates the costs of resources consumed by cost objects such as products and customers. Krispy Kreme uses the activity-based system, enabling the company to market their product efficiently allowing this company to lead their competition within the market. Since the goal of ABC is “to understand overhead and the profitability of products and customers” (Garrison, 2000), the information provided by this system helps Krispy Kreme in determining which are its profitable products, and which are not. Knowing this, they can build an effective marketing strategy to promote its less than lucrative products, at the same time maintaining the popularity of its other products.

Krispy kreme and ethical issues

Krispy Kreme’s credibility had already been questioned, especially in 2004; “contributing factors for that change are Krispy Kreme’s recent posting of a 55-percent drop in second-quarter earnings, an ongoing Securities and Exchange Commission investigation into the company’s franchise-buyback accounting and a stock price that recently was 64 percent lower than at the same time last year”(AEG Partners, 2004). The sudden declaration of Krispy Kreme of the drop in its earnings and blaming it on the popularity of low carb diets has been deemed questionable. The same can be said of its accounting treatment of its franchise-buybacks, of not amortizing. Ethical questions in this and several organizations have resulted from the Enron accounting scandal. A tighter and more open accounting reporting has been implemented to defray any ethical question of this company.

Krispy Kreme and budgeting

Three main areas that must be accounted in the budget process are production, franchising and distribution. Production should be necessarily included, Krispy Kreme being a manufacturing company. This budget would be used as basis by the company in estimating its production related costs, and in evaluating the pricing of such products. A production budget is a detailed plan showing the number of units that must be produced during a period in order to meet both sales and inventory needs. Franchising budget should also be included, since a substantial portion of Krispy Kreme’s income comes from this. Distribution budgets must also be taken into consideration given the wide market of the company. How Krispy Kreme will make its products available to its consumers is a very necessary aspect of its operations. These three areas cover the basis of the company and by using activity based budgeting in each of the three areas, all costs can be accounted for.

Activities that should also be considered are financing, investing and future growth. By including these activities, actual operating costs can be captured which will enable Krispy Kreme to make full use of money saving techniques in financing the operation, investing and managing assets to aid in profit margin and up hold responsibility to shareholders and finally, to maintain brand name recognition by expanding into global markets

Krispy Kreme’s cost drivers

Cost driver is any factor which causes a change in the cost of an activity. It is a factor, which causes overhead costs. Normal cost drivers of Krispy Kreme may include direct-labor hours, machine hours, units produced and units sold. Some of cost drivers for allocating a company’s service department costs include hours of service or volume handled by materials handling, square footage occupied for custodial services, labor-hours or clients or patients serviced for cost accounting, kilowatt hours used or capacity of machines for power and number of employees, employees turnover or training hours for human resources.

Besides the normal cost drivers, operating drivers factor for a large amount of the cost used by Krispy Kreme. The company produces doughnuts for the company owned retail stores; it makes doughnut mixes and other ingredients to sell to their franchise operations, which is another operating cost driver to include the management and support to franchisees.

These are considered as cost drivers since the cost of operating Krispy Kreme production along with franchise obligations require the company hire more employees and incurred such cost of which will be passed to consumers; these are factors which affects the cost of the activity.

Krispy Kreme’s indirect costs

An indirect cost is a cost that cannot be easily and conveniently traced to the particular cost object under consideration. Indirect costs absorbed by Krispy Kreme in the last few years include benefit packages for upper management costing the company large amounts of monies and/ or liability with little or no return to Krispy Kreme’s financial standing, as well as salaries of its upper management. These are considered indirect costs since these cannot be traced to a particular cost object. Even without production, these costs will be incurred by the company.

Flexible budget for Krispy Kreme

A flexible budget provides estimates of what costs should be for any level of activity within a specified range. “When a flexible budget is used in performance evaluation, actual costs are compared to what the costs should have been for the actual activity during the period rather than to the budgeted costs from the original budget” (Garrison, 2000). Krispy Kreme must employ flexible budgets for better control and supervision since it anticipates the costs for different levels of activities. It allows management to readily compare cost information even when the expectation differs from what actually happened.

Increased sales’ Impact on pricing strategy

An increased sales or revenue indicate the profitability of the products. The sustained rapid growth of the company also shows the immense market potential of Krispy Kreme. With increased sales, Krispy Kreme might want to evaluate its pricing policies, and further examine if they could increase the price without losing favor with its customers. Or it could maintain its previous prices and find a way to minimize its costs so as to arrive at the maximum earnings possible. Increased sales also boost Krispy Kreme’s market potential. This means that the company can pursue its goal of corporate expansion, since there is untapped market out there. A good market potential is a positive sign for success.

Conclusion

Krispy Kreme has been incorporated in 1937. It has come a long way since then. From the doughnut shop in Winston-Salem, North Carolina, it now has more than 460 stores in over 41 US states, as well as in Asia and Australia. The use of activity based costing helps management in better assessing the profitability of its products and services, by more clearly determining its cost. The budgets to be prepared as part of its operating budget, should include areas of production, franchising and distribution, since these comprise vital activities of Krispy Kreme. Activity based costing should be used so that all costs can be accounted for. Krispy Kreme’s cost drivers include the normal ones, such as units produced and units sold, as well as operating cost drivers.

Activity-based costing and budgeting helps an organization in their planning, control, supervision and forecasting. These are cost analysis tools which provide information necessary for the company to formulate its strategy.

Recommendation

Krispy Kreme has been in the spotlight lately with issues of its management’s credibility. Issues of sugarcoating its financial statements to please Wall Street have been buzzing aplenty. Even with large revenues, and huge growth, a company will not be successful if it loses the trust and confidence of its stockholders, as well as of the general public. The doubtful practices of Krispy Kreme, such as delaying in declaring lower revenues and blaming it on the proliferation of low-carb diets, and its accounting for franchise buybacks should be avoided. A more conservative approach should be employed. Krispy Kreme must not be as aggressive in declaring its targeted revenues. In accounting for the franchise buy-backs, the company must amortize. Their practice of not amortizing is not against the letter of GAAP, but it is against the spirit thereof.

Also, some critics believe that the aggressive expansion undertaken by Krispy Kreme is to blame for the troubles it now faces. The problem with this strategy is that it is extremely difficult to sustain this kind of growth. Most of the time, new stores are not able to sustain the same level of sales it had during its opening month. It takes additional work to maintain that level of revenues. Krispy Kreme’s strategy should be adjusted. They should not aim to open up as much new stores, but instead focus some of its efforts in monitoring its current stores to make sure that they are in good condition.

Considerations

Being in the food business, Krispy Kreme cannot help but be affected by the changes in the consumers’ preferences. Lately, people have been seeking healthier alternatives to the high calorie, fat enriched traditional doughnuts. Krispy Kreme should be more responsive to this shift and maximize this opportunity. The company has already taken a step in this direction by offering lower calorie products, such as whole wheat doughnuts, and light glazed doughnuts. However, they could do so much more. They can develop more products in this category.

References

Garrison, R.H., & Noreen, E.W. (2000). Managerial Accounting. USA: The McGraw-Hill Companies, Inc.
AEG Partners. Analysts: Krispy Kreme outlook not so sweet: company admits operational and strategic changes needed to increase profits. Retrieved April 22, 2008, from https:// www.aegpartners.com/news/index.htm
AIB International. Doughnut Statistics and Trends. Retrieved April 21, 2008, from https://www.aibonline.org/resources/statistics/doughnut.html
Krispy Kreme Doughnuts, Inc. Investor Relations. Retrieved April 20, 2008, from http://www.krispykreme.com/investorrelations.html
Krispy Kreme Doughnuts, Inc. Krispy Kreme History. Retrieved April 20, 2008, from http://www.krispykreme.com/funfacts.html
Referenceforbusiness.com. Krispy Kreme Doughnuts, Inc. – Company Profile, Information, Business Description, History, Background Information on Krispy Kreme Doughnuts, Inc.. Retrieved April 20, 2008, from http://www.referenceforbusiness.com/history2/ 68/Krispy-Kreme-Doughnuts-Inc.html
USA Today. Jumpin’ jelly! Doughnuts dominate dining growth. Retrieved April 20, 2008, from http://www.usatoday.com/money/industries/food/2003-05-27-doughnut-growth_x.htm.

February 4th, 2023

Advantages of Activity Based Costing

In modern business environment, the use of traditional costing system is no longer relevance to the company to achieve competitive advantage. Nowadays, Activity Based Costing is considered as one of the effective tools to enhance the ability of the organisation to meet global competition. This had resulted in the change from traditional costing system to an increasingly popular costing system such Activity-Based Costing (ABC). ABC system has emerged as an alternative to traditional costing system to meet the need for accurate cost information about the products, services, customer and processes.

ABC performs the arithmetic to provide accurate cost information while Activity Based Management (ABM) is focused on using this information obtained from ABC to manage activities in order to improving business (Gunasekaran et al. , 2000). Generally ABC systems enable indirect and support expenses onto each activity. Following by identify the cost drivers to measure the activity used by cost objects and allocate them to cost driver.

In order word, ABC helps the manager to understand about the cost and expense in each production by giving managers a clearer picture of the economics of their operations to managerial decision making at a strategic level (Kaplan and Copper, 1998). Apart from that, in twenty-first century market which is global consumer markets and rapidly changing product technologies have forced global manufacturers to make dramatic changes in their products, markets as well as production strategies.

In order to stay in the global market, organisations are advice to adopt ABC not only produces products at faster rates, but they produce with greater consistency and conformity to quality specifications. Also, ABC system allows the manufacturers to reduce the time between customer order and product delivery which can gives the manufacturer a competitive advantage in improving customer service (Gunasekaran et al. , 1999).

Therefore, it is necessary for organisation to adopt ABC system which can assist managers in identifying the value-added activities which they could further improve to meet customer’s demands and enhancing the product quality and process simplification and efficiency (Marx, 2009). For example, MelCo is the company that implements ABC and gets the benefits from it. MelCo is the only manufacturer of engineering components in Melbourne. Its previous costing system was a conventional costing system where overheads were allocated to products based on labour hour utilised (Sohal and Chung, 1998).

However, management found that implement ABC system in the organisation is seem to be useful because it can assist high level of flexibility and responsiveness that demanded by the marketplace. Besides, ABC system can generate true costing and pricing which automatically give performance measures and product profitability as well as provide a variety of information for management in strategic decision making. Even though it incur high cost, MelCo think that it is worthiness because it provides a tool for management for commercial decision making although it just implement for 12 months (Sohal and Chung, 1998).

Due to the changes of business environment, the company requires to manufacture very wide product range for a large customer base with high quality and innovative products in order to fulfil the demand of the consumer. By implementing ABC in organisation, ABM guides efforts to adapt business strategies to meet competitive pressures as well as to improve business operations. ABC information enables ABM to yield continuous improvement process. By continuous improvement, organisation can yield the maximum profitability as well as improved the customer’s satisfaction (Gunasekaran et al. 2000). Nowadays, customers want products and services that fit their specific needs; they want quality service at affordable price to be right now. However, since traditional costing system is volume-based, inaccurate information will be generated which lead to company make wrong decision (Gunasekaran et al. , 1999). Apart from that, stable product and mass production are no longer valid for today manufacturing system. Thus, manufacturing companies have reduced the implication of traditional cost accounting system by implementing ABC systems.

In contrast to standard costing, ABC can identify value-added and non-value-added activities. To clarify this, all activities should be compared with similar activities in another company or within the organisation in order to perform the best. Hence, benchmarking should be encourages to be carried out for both value-added and non-value added activities because it is a best practice which is mostly used in real-life situation (Gunasekaran et al. , 1999). For example, 100% on time delivery of customer orders is an essential activity.

Apart from that, non-value-added activities such as inspection and material handling can be reduced by using different quality assurance methods and techniques such as total quality management and just in time. With ABC, the company has a better access to decision which related to TQM and JIT (Gunasekaran et al. , 1999). To achieve cost reduction in a strategic way, activity-based costing presents to be more accurate in determining costly activities in order to help companies to better manage those activities.

Unlike the information available under traditional management accounting, ABC systems are capture the significant information among customer orders and provide strategic decision making with the indication of the changes in the customer’s specifications (Lere, 2000). By implementing ABC system, it also can reduce non-value activities as well as cost of their products to compete in today competitive market. Non-value added activities can be eliminated with the implementation of strategies such as total quality management, just in time and business process re-engineering.

Managers should pay more attention to those activities which will incur high cost but does not add any value to the product. Besides, managers prepared with the ABC systems were able to reduce overall costs, identify the opportunities for continuous improvement of the products. Nowadays, technology plays a dominant role of integrating various functional areas. Although the automation in advanced manufacturing environment has reduced the labour component, at the same time overheads have increased (Gunasekaran et al. , 1999).

Therefore, in manufacturing environment, it is necessary for organisation to minimize non-value adding activities to reduce the cost of their products to compete in the market. By implementing ABC system in organisation, it will help to reduce direct labour component, increase in overheads as well as productivity of knowledge workers. Apart from that, ABC also helps organisation in better communications and team working environment as well as reduce time required to perform an activities due to knowledge workers and re-engineering the suggestions by employees to reduce the non-value activities (Gunasekaran et al. 1999). In contrast, the traditional costing systems do not provide non-financial information such as defect rates, level of quality about the organisation. However, implementation of activity based costing is not an easy task as there are several difficulties in implementing ABC system. One of the first fundamentals for the success of an ABC implementation is top management support for the project (Zhang and Che, 2010). The failure of ABC projects can generally be attributed to lack of visible and active management.

If the organisation’s senior managers do not show the commitment and act passive in the program, it will negatively reduce the motivation of the employees. Apart from that, the productivity of the employees will also affect as well. Therefore, top management should be give full support with clear understanding of goals and objectives of the whole organisation to the employees. Besides, they should meet regularly in order to advise the management on the strategic and technology business problems (Gunasekaran et al. , 1999).

Commitment of employees is one of the important factors in implementing ABC system. For the successful implementation in ABC, the employees must have a clear understanding of its capabilities, goals and objectives (Zhang and Che, 2010). As a result, education and training are necessary for the employees to make sure that they understand the objective of ABC system. When the employees are well trained and educated, they can easily reduce the time and effort required to perform an activity, on-time delivery as well as reduce the cycle time of the product.

Also, employees should be provide with internal and external company training facilities to ensure them gain latest knowledge and trend in order to maintain company’s standard in today global market (Zhang and Che, 2010). For example, MelCo is a company that implementing ABC system and it found that the problems during implementation was lack of available skills in-house which means that they do not have considerable amount of education and training.

Therefore, MelCo are recommended that training of employees should be taking into consideration (Sohal and Chung, 1998). As a conclusion, the changes of global business environment had changes the way of the company doing the business and shift traditional management accounting to strategic management accounting for cost management in organisations. However, it does not means that traditional management accounting is usefulness and not applicable in today business environment.

Relevance of traditional cost accounting is very subjective in each view of the organisation. It may be suitable for some companies treated standard costing and variance analysis as a tool that enhances planning and control and improves performance evaluation rather than abolished it. To compete in today business environment, strategic management accounting is the most suitable accounting system for the organisation as ABC method can provides more accurate and better cost information which can helps manager to understand and make strategic decision making.

Furthermore, ABC system can eliminate the non-value added activities which added value to the product cost, by doing so, organisation can reduce those unnecessary costs. Thus, ABC system is most appropriate management accounting costing in today business environment. However, there are several problems and difficulties in implementing ABC system, company should take into consideration when implementing ABC in order to maximize the fully benefits for ABC systems.

February 4th, 2023

Cost Accounting Answers

CHAPTER 4 JOB COSTING 4-1Cost pool––a grouping of individual indirect cost items. Cost tracing––the assigning of direct costs to the chosen cost object. Cost allocation––the assigning of indirect costs to the chosen cost object. Cost-allocation base––a factor that links in a systematic way an indirect cost or group of indirect costs to cost objects. 4-2In a job-costing system, costs are assigned to a distinct unit, batch, or lot of a product or service.

In a process-costing system, the cost of a product or service is obtained by using broad averages to assign costs to masses of identical or similar units. 4-3An advertising campaign for Pepsi is likely to be very specific to that individual client. Job costing enables all the specific aspects of each job to be identified. In contrast, the processing of checking account withdrawals is similar for many customers. Here, process costing can be used to compute the cost of each checking account withdrawal. -4The seven steps in job costing are: (1) identify the job that is the chosen cost object, (2) identify the direct costs of the job, (3) select the cost-allocation bases to use for allocating indirect costs to the job, (4) identify the indirect costs associated with each cost-allocation base, (5) compute the rate per unit of each cost-allocation base used to allocate indirect costs to the job, (6) compute the indirect costs allocated to the job, and (7) compute the total cost of the job by adding all direct and indirect costs assigned to the job. -5Major cost objects that managers focus on in companies using job costing are a product such as a specialized machine, a service such as a repair job, a project such as running the Expo, or a task such as an advertising campaign. 4-6Three major source documents used in job-costing systems are (1) job cost ecord or job cost sheet, a document that records and accumulates all costs assigned to a specific job, starting when work begins (2) materials requisition record, a document that contains information about the cost of direct materials used on a specific job and in a specific department; and (3) labor-time sheet, a document that contains information about the amount of labor time used for a specific job in a specific department. -7The main advantages of using computerized source documents for job cost records are the accuracy of the records and the ability to provide managers with instantaneous feedback to help control job costs. 4-8Two reasons for using an annual budget period are a. The numerator reason––the longer the time period, the less the influence of seasonal patterns in overhead costs, and b. The denominator reason––the longer the time period, the less the effect of variations in output levels or quantities of the cost-allocation bases on the allocation of fixed costs. -9Actual costing and normal costing differ in their use of actual or budgeted indirect cost rates: | |Actual |Normal | | |Costing |Costing | |Direct-cost rates |Actual rates |Actual rates | |Indirect-cost rates |Actual rates |Budgeted rates |

Each costing method uses the actual quantity of the direct-cost input and the actual quantity of the cost-allocation base. 4-10A house construction firm can use job cost information (a) to determine the profitability of individual jobs, (b) to assist in bidding on future jobs, and (c) to evaluate professionals who are in charge of managing individual jobs. 4-11The statement is false. In a normal costing system, the Manufacturing Overhead Control account will not, in general, equal the amounts in the Manufacturing Overhead Allocated account.

The Manufacturing Overhead Control account aggregates the actual overhead costs incurred while Manufacturing Overhead Allocated allocates overhead costs to jobs on the basis of a budgeted rate times the actual quantity of the cost-allocation base. Underallocation or overallocation of indirect (overhead) costs can arise because of (a) the Numerator reason––the actual overhead costs differ from the budgeted overhead costs, and (b) the Denominator reason––the actual quantity used of the allocation base differs from the budgeted quantity. 4-12Debit entries to Work-in-Process Control represent increases in work in process.

Examples of debit entries under normal costing are (a) direct materials used (credit to Materials Control), (b) direct manufacturing labor billed to job (credit to Wages Payable Control), and (c) manufacturing overhead allocated to job (credit to Manufacturing Overhead Allocated). 4-13Alternative ways to make end-of-period adjustments to dispose of underallocated or overallocated overhead are as follows: (i)Proration based on the total amount of indirect costs allocated (before proration) in the ending balances of work in process, finished goods, and cost of goods sold. ii)Proration based on total ending balances (before proration) in work in process, finished goods, and cost of goods sold. iii) Year-end write-off to Cost of Goods Sold. iv) The adjusted allocation rate approach that restates all overhead entries using actual indirect cost rates rather than budgeted indirect cost rates. 4-14A company might use budgeted costs rather than actual costs to compute direct labor rates because it may be difficult to trace direct labor costs to jobs as they are completed (for example, because bonuses are only known at the end of the year). -15Modern technology of electronic data interchange (EDI) is helpful to managers because it ensures that a purchase order is transmitted quickly and accurately to suppliers with minimum paperwork and costs. 16. (10 min) Job order costing, process costing. a. Job costingl. Job costing b. Process costingm. Process costing c. Job costingn. Job costing d. Process costingo. Job costing e. Job costingp. Job costing f. Process costingq. Job costing g. Job costingr. Process costing h. Job costing (but some process costing)s. Job costing i.

Process costingt. Process costing j. Process costingu. Job costing k. Job costing 4-17(20 min. )Actual costing, normal costing, accounting for manufacturing overhead. 1. [pic]=[pic] =[pic]= 1. 80 or 180% [pic]=[pic] =[pic]= 1. 9 or 190% 2. Costs of Job 626 under actual and normal costing follow: ActualNormal CostingCosting Direct materials$ 40,000$ 40,000 Direct manufacturing labor costs30,00030,000 Manufacturing overhead costs $30,000 ( 1. 90; $30,000 ( 1. 80 57,000 54,000 Total manufacturing costs of Job 626$127,000$124,000 3. pic]=[pic] ( [pic] =$1,450,000 ( 1. 80 =$2,610,000 [pic]=[pic] – [pic] =$2,755,000 ( $2,610,000 = $145,000 There is no under- or overallocated overhead under actual costing because overhead is allocated under actual costing by multiplying actual manufacturing labor costs and the actual manufacturing overhead rate. This, of course equals the actual manufacturing overhead costs. All actual overhead costs are allocated to products. Hence, there is no under- or overallocated overhead. 4-18(20 -30 min. ) Job costing, normal and actual costing. 1. pic]=[pic] = [pic] =$50 per direct labor-hour [pic]=[pic] = [pic] =$40 per direct labor-hour These rates differ because both the numerator and the denominator in the two calculations are different—one based on budgeted numbers and the other based on actual numbers. |2a. |Laguna |Mission | | |Model |Model | | Normal costing | | | |Direct costs | | |Direct materials |$106,760 |$127,550 | |Direct labor |36,950 |41,320 | | |143,710 |168,870 | |Indirect costs | | | |Assembly support ($50 ( 960; $50 ( 1,050) |48,000 |52,500 | |Total costs |$191,710 |$221,370 | |2b.

Actual costing | | | |Direct costs | | | |Direct materials |$106,760 |$127,550 | |Direct labor |36,950 |41,320 | | |143,710 |168,870 | |Indirect costs | | | |Assembly support ($40 ( 960; $40 ( 1,050) |38,400 |42,000 | |Total costs |$182,110 |$210,870 | 3. Normal costing enables Amesbury to report a job cost as soon as the job is completed, assuming that both the direct materials and direct labor costs are known at the time of use. Once the 960 direct labor-hours are known for the Laguna Model (June 2011), Amesbury can compute the $191,710 cost figure using normal costing. Amesbury can use this information to manage the costs of the Laguna Model job as well as to bid on similar jobs later in the year. In contrast, Amesbury has to wait until the December 2011 year-end to compute the $182,110 cost of the Laguna Model using actual costing.

Since manufacturing overhead allocated is greater than the actual manufacturing overhead costs, Gammaro overallocated manufacturing overhead: Manufacturing overhead allocated$4,080,000 Actual manufacturing overhead costs 4,050,000 Overallocated manufacturing overhead$ 30,000 4-20(20-30 min. )Job costing, accounting for manufacturing overhead, budgeted rates. 1. An overview of the product costing system is [pic] Budgeted manufacturing overhead divided by allocation base: Machining overhead:[pic] = $36 per machine-hour Assembly overhead:[pic] = 180% of direct manuf. labor costs 2. Machining department, 2,000 hours ( $36$72,000 Assembly department, 180% ( $15,000 27,000 Total manufacturing overhead allocated to Job 494$99,000 3.

MachiningAssembly Actual manufacturing overhead$2,100,000$ 3,700,000 Manufacturing overhead allocated, $36 ( 55,000 machine-hours1,980,000— 180% ( $2,200,000 — 3,960,000 Underallocated (Overallocated)$ 120,000$ (260,000) 4-21 (20(25 min. ) Job costing, consulting firm. 1. Budgeted indirect-cost rate for client support can be calculated as follows: Budgeted indirect-cost rate = $13,600,000 ? $5,312,500 = 256% of professional labor costs 2. At the budgeted revenues of $21,250,000 Taylor’s operating income of $2,337,500 equals 11% of revenues. Markup rate = $21,250,000 ? $5,312,500 = 400% of direct professional labor costs 3. Budgeted costs

Direct costs: Director, $198 ( 4$ 792 Partner, $101 ( 171,717 Associate, $49 ( 422,058 Assistant, $36 ( 153 5,508$10,075 Indirect costs: Consulting support, 256% ( $10,075 25,792 Total costs$35,867 As calculated in requirement 2, the bid price to earn an 11% income-to-revenue margin is 400% of direct professional costs. Therefore, Taylor should bid 4 ( $10,075 = $40,300 for the Red Rooster job. Bid price to earn target operating income-to-revenue margin of 11% can also be calculated as follows: Let R = revenue to earn target income R – 0. 11R = $35,867 0. 89R = $35,867 R = $35,867 ? 0. 89 = $40,300 Or Direct costs $10,075 Indirect costs 25,792

Operating income (0. 11 ( $40,300) 4,433 Bid price$40,300 4-22(15–20 min. )Time period used to compute indirect cost rates. 1. | |Quarter | | |1 |2 |3 |4 |Annual | |(1) Pools sold |700 |500 |150 |150 |1,500 | |(2) Direct manufacturing labor hours (0. 5 ( |350 |250 |75 |75 |750 | Row 1) | | | | | | |(3) Fixed manufacturing overhead costs |$10,500 |$10,500 |$10,500 |$10,500 |$42,000 | |(4) Budgeted fixed manufacturing overhead |$30 |$42 |$140 |$140 |$56 | |rate per direct manufacturing labor hour | | | | | | |($10,500 ( Row 2) | | | | | | | |Budgeted Costs Based on Quarterly | | |Manufacturing Overhead Rate | | |2nd Quarter |3rd Quarter | |Direct material costs ($7. 0 ( 500 pools; 150 pools) |$ 3,750 |$ 1,125 | |Direct manufacturing labor costs |4,000 |1,200 | |($16 ( 250 hours; 75 hours) | | | |Variable manufacturing overhead costs |3,000 |900 | |($12 ( 250 hours; 75 hours) | | | |Fixed manufacturing overhead costs | 10,500 | 10,500 | |($42 ( 250 hours; $140 ? 5 hours) | | | |Total manufacturing costs |$21,250 |$13,725 | |Divided by pools manufactured each quarter | ? 500 | ? 150 | |Manufacturing cost per pool |$ 42. 50 |$ 91. 50 | 2. | |Budgeted Costs Based on Annual Manufacturing | | |Overhead Rate | | |2nd Quarter |3rd Quarter | |Direct material costs ($7. 0 ( 500 pools; 150 pools) |$ 3,750 |$1,125 | |Direct manufacturing labor costs |4,000 |1,200 | |($16 ( 250 hours; 75 hours) | | | |Variable manufacturing overhead costs |3,000 |900 | |($12 ( 250 hours; 75 hours) | | | |Fixed manufacturing overhead costs | 14,000 | 4,200 | |($56 ( 250 hours; 75 hours) | | | |Total manufacturing costs |$24,750 |$7,425 | |Divided by pools manufactured each quarter | ( 500 | ( 150 | |Manufacturing cost per pool |$ 49. 50 |$49. 50 | 3. | |2nd Quarter |3rd Quarter | |Prices based on quarterly budgeted manufacturing overhead rates calculated in |$55. 25 |$118. 5 | |requirement 1 | | | |($42. 50 ( 130%; $91. 50 ( 130%) | | | |Price based on annual budgeted manufacturing overhead rates calculated in |$64. 35 |$64. 35 | |requirement 2 | | | |($49. 50 ( 130%; $49. 50 ( 130%) | | |

Splash should use the budgeted annual manufacturing overhead rate because capacity decisions are based on longer annual periods rather than quarterly periods. Prices should not vary based on quarterly fluctuations in production. Splash could vary prices based on market conditions and demand for its pools. In this case, Splash would charge higher prices in quarter 2 when demand for its pools is high. Pricing based on quarterly budgets would cause Splash to do the opposite—to decrease rather than increase prices! 4-23(10–15 min. ) Accounting for manufacturing overhead. 1. Budgeted manufacturing overhead rate= [pic] = $30 per machine-hour 2. Work-in-Process Control7,350,000 Manufacturing Overhead Allocated7,350,000 (245,000 machine-hours ( $30 per machine-hour = $7,350,000) 3. 7,350,000– $7,300,000 = $50,000 overallocated, an insignificant amount of actual manufacturing overhead costs $50,000 ? $7,300,000 = 0. 68%. Manufacturing Overhead Allocated7,350,000 Manufacturing Department Overhead Control7,300,000 Cost of Goods Sold50,000 4-24(35(45 min. ) Job costing, journal entries. Some instructors may also want to assign Exercise 4-25. It demonstrates the relationships of the general ledger to the underlying subsidiary ledgers and source documents. 1. An overview of the product costing system is: 2. & 3. This answer assumes COGS given of $4,020 does not include the writeoff of overallocated manufacturing overhead. |2. (1) Materials Control |800 | | | |Accounts Payable Control | |800 | | |(2) Work-in-Process Control |710 | | | |Materials Control | |710 | | |(3) Manufacturing Overhead Control |100 | | | |Materials Control | |100 | | |(4) Work-in-Process Control |1,300 | | | |Manufacturing Overhead Control |900 | | | |Wages Payable Control | |2,200 | | |(5) Manufacturing Overhead Control | 400 | | | |Accumulated Depreciation––buildings and | | | | |manufacturing equipment | |400 | | |(6) Manufacturing Overhead Control | 550 | | | |Miscellaneous accounts | |550 | | |(7) Work-in-Process Control |2,080 | | | |Manufacturing Overhead Allocated | |2,080 | | |(1. 60 ( $1,300 = $2,080) | | | | |(8) Finished Goods Control |4,120 | | | |Work-in-Process Control |4,120 | | |(9) Accounts Receivable Control (or Cash) |8,000 | | | |Revenues | |8,000 | | |(10) Cost of Goods Sold |4,020 | | | |Finished Goods Control | |4,020 | | |(11) Manufacturing Overhead Allocated |2,080 | | | |Manufacturing Overhead Control | |1,950 | | |Cost of Goods Sold | |130 | 3. |Materials Control | |Bal. /1/2011 |100 |(2) Work-in-Process Control (Materials used) | | |(1) Accounts Payable Control | |(3) Manufacturing Overhead Control (Materials |710 | |(Purchases) |800 |used) | | | | | |100 | |Bal. 12/31/2011 |90 | | | |Work-in-Process Control | |Bal. /1/2011 |60 |(8) Finished Goods Control (Goods completed) | | |(2) Materials Control (Direct | | |4,120 | |materials) |710 | | | |(4) Wages Payable Control (Direct | | | | |manuf. labor) | | | | |(7) Manuf. Overhead Allocated |1,300 | | | | | | | | | |2,080 | | | |Bal. 2/31/2011 |30 | | | |Finished Goods Control | |Bal. 1/1/2011 |500 |(10) Cost of Goods Sold |4,020 | |(8) WIP Control | | | | |(Goods completed) |4,120 | | | |Bal. 12/31/2011 |600 | | | Cost of Goods Sold | |(10) Finished Goods Control (Goods | |(11) Manufacturing Overhead Allocated (Adjust | | |sold) |4,020 |for overallocation) | | | | | |130 | |Bal. 12/31/2011 |3,890 | | | |Manufacturing Overhead Control | | (3) Materials Control (Indirect materials)| |(11) To close |1,950 | |(4) Wages Payable Control (Indirect manuf. |100 | | | |labor) | | | | |(5) Accum. Deprn.

Control (Depreciation) |900 | | | |(6) Accounts Payable Control | | | | |(Miscellaneous) |400 | | | | | | | | | |550 | | | |Bal. |0 | | | Manufacturing Overhead Allocated | |(11) To close |2,080 |(7) Work-in-Process Control (Manuf. overhead | | | | |allocated) |2,080 | | | |Bal. | 0 | 4-25(35 minutes) Journal entries, T-accounts, and source documents. 1. i. Direct Materials Control 124,000 Accounts Payable Control124,000 Source Document: Purchase Invoice, Receiving Report Subsidiary Ledger: Direct Materials Record, Accounts Payable ii. Work in Process Control a 122,000 Direct Materials Control122,000

Source Document: Material Requisition Records, Job Cost Record Subsidiary Ledger: Direct Materials Record, Work-in-Process Inventory Records by Jobs iii. Work in Process Control80,000 Manufacturing Overhead Control54,500 Wages Payable Control134,500 Source Document: Labor Time Sheets, Job Cost Records Subsidiary Ledger:, Manufacturing Overhead Records, Employee Labor Records, Work-in-Process Inventory Records by Jobs iv. Manufacturing Overhead Control129,500 Salaries Payable Control 20,000 Accounts Payable Control 9,500 Accumulated Depreciation Control 30,000 Rent Payable Control 70,000 Source Document: Depreciation Schedule, Rent Schedule, Maintenance wages due, Invoices for miscellaneous factory overhead items Subsidiary Ledger: Manufacturing Overhead Records v.

Work in Process Control200,000 Manufacturing Overhead Allocated200,000 ($80,000 [pic] $2. 50) Source Document: Labor Time Sheets, Job Cost Record Subsidiary Ledger: Work-in-Process Inventory Records by Jobs vi. Finished Goods Control b387,000 Work in Process Control387,000 Source Document: Job Cost Record, Completed Job Cost Record Subsidiary Ledger: Work-in-Process Inventory Records by Jobs, Finished Goods Inventory Records by Jobs vii. Cost of Goods Sold c432,000 Finished Goods Control432,000 Source Document: Sales Invoice, Completed Job Cost Record Subsidiary Ledger: Finished Goods Inventory Records by Jobs viii. Manufacturing Overhead Allocated200,000

Manufacturing Overhead Control ($129,500 + $54,500)184,000 Cost of Goods Sold 16,000 Source Document: Prior Journal Entries ix. Administrative Expenses 7,000 Marketing Expenses120,000 Salaries Payable Control30,000 Accounts Payable Control90,000 Accumulated Depreciation, Office Equipment 7,000 Source Document: Depreciation Schedule, Marketing Payroll Request, Invoice for Advertising, Sales Commission Schedule. Subsidiary Ledger: Employee Salary Records, Administration Cost Records, Marketing Cost Records. aMaterials used = [pic] + Purchases – [pic] [pic] b[pic] = [pic] + [pic] – [pic] [pic] cCost of goods sold = [pic] + [pic] – [pic] [pic] 2. T-accounts Direct Materials Control | |Bal. 1/1/2011 |9,000 |(2) Work-in-Process Control (Materials used) | | |(1) Accounts Payable Control (Purchases) | | |122,000 | | |124,000 | | | |Bal. 12/31/2011 |11,000 | | | Work-in-Process Control | |Bal. 1/1/2011 |6,000 |(6) Finished Goods Control (Cost of goods | | |(2) Materials Control | |manufactured) | | |(Direct materials used) |122,000 | |387,000 | |(3) Wages Payable Control (Direct manuf. labor)| | | | |(5) Manuf.

Overhead Allocated |80,000 | | | | | | | | | |200,000 | | | |Bal. 12/31/2011 |21,000 | | | |Finished Goods Control | |Bal. 1/1/2011 |69,000 |(7) Cost of Goods Sold |432,000 | |(6) WIP Control | | | | |(Cost of goods manuf. ) |387,000 | | | |Bal. 2/31/2011 |24,000 | | | |Cost of Goods Sold | |(7) Finished Goods Control (Goods sold) | |(8) Manufacturing Overhead Allocated (Adjust | | | |432,000 |for overallocation) | | | | | |16,000 | | | | | | Manufacturing Overhead Control | |(3) Wages Payable Control | |(8) To close |184,000 | |(Indirect manuf. labor) |54,500 | | | |(4) Salaries Payable Control (Maintenance) | | | | |(4) Accounts Payable Control (Miscellaneous) |20,000 | | | |(4) Accum. Deprn.

Control (Depreciation) | | | | |(4) Rent Payable Control (Rent) |9,500 | | | | | | | | | |30,000 | | | | | | | | | |70,000 | | | |Bal. |0 | | | |Manufacturing Overhead Allocated | |(8) To close |200,000 |(5) Work-in-Process Control (Manuf. verhead | | | | |allocated) | | | | | |200,000 | | | |Bal. | 0 | 4-26(45 min. )Job costing, journal entries. Some instructors may wish to assign Problem 4-24. It demonstrates the relationships of journal entries, general ledger, subsidiary ledgers, and source documents. 1. An overview of the product-costing system is 2. Amounts in millions. (1) Materials Control |150 | | |Accounts Payable Control | |150 | |(2) Work-in-Process Control |145 | | |Materials Control | |145 | |(3) Manufacturing Department Overhead Control | 10 | | |Materials Control | |10 | |(4) Work-in-Process Control | 90 | | |Wages Payable Control | |90 | |(5) Manufacturing Department Overhead Control | 30 | | |Wages Payable Control | |30 | |(6) Manufacturing Department Overhead Control | 19 | | |Accumulated Depreciation | |19 | |(7) Manufacturing Department Overhead Control | 9 | | |Various liabilities | |9 | |(8) Work-in-Process Control | 63 | | |Manufacturing Overhead Allocated | |63 | |(9) Finished Goods Control |294 | | |Work-in-Process Control | |294 | |(10a)

Cost of Goods Sold |292 | | |Finished Goods Control | |292 | |(10b) Accounts Receivable Control (or Cash ) |400 | | |Revenues | |400 | The posting of entries to T-accounts is as follows: |Materials Control | |Work-in-Process Control | |Bal 12 |(2) 145 | |Bal. |(9) 294 | | | | |(2) 145 | | | | | |(4) 90 | | | | | |(8) 63 | | |(1) 150 |(3) 10 | | | | |Bal. 7 | | | | | | | | | | | | | | |Bal. | | |Finished Goods Control | |Cost of Goods Sold | |Bal. 6 |(10a) 292 | |(10a) 292 | | |(9) 294 | | |(11) 5 | | |Bal. 8 | | | | | |Manufacturing Department | | |Overhead Control | |Manufacturing Overhead Allocated | |(3) 10 |(11) 68 | |(11) 63 |(8) 63 | |(5) 30 | | | | | |(6) 19 | | | | | |(7) 9 | | | | | Accounts Payable Control | |Wages Payable Control | | |(1) 150 | | |(4) 90 | | | | | |(5) 30 | |Accumulated Depreciation | |Various Liabilities | | |(6) 19 | | |(7) 9 | Accounts Receivable Control | |Revenues | |(10b) 400 | | | |(10b) 400 | | | | | | | The ending balance of Work-in-Process Control is $6. 3. (11) Manufacturing Overhead Allocated63 Cost of Goods Sold5 Manufacturing Department Overhead Control68 Entry posted to T-accounts in Requirement 2. 4-27(15 min. )Job costing, unit cost, ending work in progress. 1. Direct manufacturing labor rate per hour |$26 | | |Manufacturing overhead cost allocated |$20 | | |per manufacturing labor-hour | | | | |Job M1 |Job M2 | |Direct manufacturing labor costs |$273,000 |$208,000 | |Direct manufacturing labor hours ($273,000[pic]$26; | 10,500 | 8,000 | |$208,000[pic]$26) | | | |Manufacturing overhead cost allocated (10,500 [pic] $20; |$210,000 |$160,000 | |8,000 [pic] $20) | | | | | | | |Job Costs May 2011 |Job M1 |Job M2 | |Direct materials |$ 78,000 |$ 51,000 | |Direct manufacturing labor | 273,000 | 208,000 | |Manufacturing overhead allocated | 210,000 | 160,000 | |Total costs |$561,000 |$419,000 | 2. |Number of pipes produced for Job M1 |1,100 | | |Cost per pipe ($561,000 [pic]1,100) |$510 | | 3. Finished Goods Control561,000 Work-in-Process Control 561,000 4.

Rafael Company began May 2011 with no work-in-process inventory. During May, it started and finished M1. It also started M2, which is still in work-in-process inventory at the end of May. M2’s manufacturing costs up to this point, $419,000, remain as a debit balance in the Work-in-Process Inventory account at the end of May 2011. 4-28(20(30 min. ) Job costing; actual, normal, and variation from normal costing. 1. Actual direct cost rate for professional labor=$59 per professional labor-hour Actual indirect cost rate = [pic]=$42 per professional labor-hour [pic] = [pic]=$55 per professional labor-hour Budgeted indirect cost rate = [pic]=$43 per professional labor-hour |(a) |(b) |(c) | | |Actual |Normal |Variation of | | |Costing |Costing |Normal Costing | |Direct-Cost Rate |$59 |$59 |$55 | | |(Actual rate) |(Actual rate) |(Budgeted rate) | |Indirect-Cost Rate |$42 |$43 |$43 | | |(Actual rate) |(Budgeted rate) |(Budgeted rate) | |2. |(a) |(b) |(c) | | Actual |Normal |Variation of | | |Costing |Costing |Normal Costing | |Direct Costs |$59 ( 160 = $ 9,440 |$59 ( 160 = $ 9,440 |$55 ( 160 = $ 8,800 | |Indirect Costs |$42 ( 160 = 6,720 |$43 ( 160 = 6,880 |$43 ( 160 = 6,880 | |Total Job Costs |$16,160 |$16,320 |$15,680 | All three costing systems use the actual professional labor time of 160 hours. The budgeted 150 hours for the Pierre Enterprises audit job is not used in job costing. However, Chico may have used the 150 hour number in bidding for the audit. The actual costing figure of $16,160 is less than the normal costing figure of $16,320 because the actual indirect-cost rate ($42) is less than the budgeted indirect-cost rate ($43).

Overhead |(After Proration) | | |(1) |(2) |(3) = (1) + (2) | |WIP |$ 50,700 |$ 0 |$ 50,700 | |Finished Goods |245,050 |0 |245,050 | |Cost of Goods Sold | 549,250 | 3,000 | 552,250 | |Total |$845,000 |$3,000 |$848,000 | 3b. Underallocated manufacturing overhead prorated based on ending balances: |Account |Dec. 31, 2011 Account |Account |Proration of $3,000 |Dec. 1, 2011 Account | | |Balance |Balance as a |Underallocated |Balance | | |(Before Proration) |Percent of Total |Manuf. Overhead |(After Proration) | | |(1) |(2) = (1) ? $845,000 |(3) = (2)[pic]$3,000 |(4) = (1) + (3) | |WIP |$ 50,700 |0. 06 |0. 06 [pic] $3,000 = $ 180 |$ 50,880 | |Finished Goods |245,050 |0. 29 |0. 29 [pic] $3,000 = 870 |245,920 | |Cost of Goods Sold | 549,250 |0. 65 |0. 5 [pic] $3,000 = 1,950 | 551,200 | |Total |$845,000 |1. 00 |$3,000 |$848,000 | 3c. Underallocated manufacturing overhead prorated based on 2011 overhead in ending balances: |Account |Dec. 31, 2011 |Allocated Manuf. |Allocated Manuf. Overhead |Proration of $3,000 |Dec. 31, 2011 | | |Account |Overhead in |in |Underallocated |Account | | |Balance |Dec. 31, 2011 Balance |Dec. 31, 2011 |Manuf.

Overhead |Balance | | |(Before Proration) |(Before Proration) |Balance as a |(4) = (3)[pic]$3,000 |(After Proration) | | |(1) |(2) |Percent of Total | |(5) = (1) + (4) | | | | |(3) = (2) ? $114,000 | | | |WIP |$ 50,700 |$ 10,260a |0. 09 |0. 09 [pic] $3,000 = $ 270 |$ 50,970 | |Finished Goods |245,050 |29,640b |0. 26 |0. 6 [pic] $3,000 = 780 |245,830 | |Cost of Goods Sold | 549,250 | 74,100c |0. 65 |0. 65 [pic] $3,000 = 1,950 | 551,200 | |Total | $845,000 |$114,000 |1. 00 | $3,000 | $848,000 | a,b,c Overhead allocated = Direct manuf. labor cost[pic]50% = $20,520; $59,280; $148,200[pic]50% 4. Writing off all of the underallocated manufacturing overhead to Cost of Goods Sold (CGS) is usually warranted when CGS is large relative to Work-in-Process and Finished Goods Inventory and the underallocated manufacturing overhead is immaterial. Both these conditions apply in this case.

ROW should write off the $3,000 underallocated manufacturing overhead to Cost of Goods Sold Account. 4-31 (20(30 min)Job costing, accounting for manufacturing overhead, budgeted rates. 1. An overview of the job-costing system is: [pic] 2. Budgeted manufacturing overhead divided by allocation base: a. Machining Department: [pic]= $52 per machine-hour b. Finishing Department: [pic]= 194% of direct manufacturing labor costs 3. Machining Department overhead, $52 ( 130 machine-hours$6,760 Finishing Department overhead, 194% of $1,100 2,134 Total manufacturing overhead allocated$8,894 4. Total costs of Job 431: Direct costs: Direct materials––Machining Department$15,500 ––Finishing Department5,000

Direct manufacturing labor—Machining Department400 —Finishing Department 1,100$22,000 Indirect costs: Machining Department overhead, $52 ( 130$ 6,760 Finishing Department overhead, 194% of $1,100 2,134 8,894 Total costs$30,894 The per-unit product cost of Job 431 is $30,894 ? 400 units = $77. 235 per unit The point of this part is (a) to get the definitions straight and (b) to underscore that overhead is allocated by multiplying the actual amount of the allocation base by the budgeted rate. 5. MachiningFinishing Manufacturing overhead incurred (actual)$11,070,000$8,236,000 Manufacturing overhead allocated 210,000 hours ( $5210,920,000 94% of $4,400,000 8,536,000 Underallocated manufacturing overhead$ 150,000 Overallocated manufacturing overhead$ 300,000 Total overallocated overhead = $300,000 – $150,000 = $150,000 6. A homogeneous cost pool is one where all costs have the same or a similar cause-and-effect or benefits-received relationship with the cost-allocation base. Fasano likely assumes that all its manufacturing overhead cost items are not homogeneous. Specifically, those in the Machining Department have a cause-and-effect relationship with machine-hours, while those in the Finishing Department have a cause-and-effect relationship with direct manufacturing labor costs.

Fasano believes that the benefits of using two cost pools (more accurate product costs and better ability to manage costs) exceeds the costs of implementing a more complex system. 4-32(15(20 min. ) Service industry, job costing, law firm. 1. [pic] 2. [pic]= [pic] =[pic] =$65 per professional labor-hour Note that the budgeted professional labor-hour direct-cost rate can also be calculated by dividing total budgeted professional labor costs of $2,600,000 ($104,000 per professional ( 25 professionals) by total budgeted professional labor-hours of 40,000 (1,600 hours per professional ( 25 professionals), $2,600,000 ( 40,000 = $65 per professional labor-hour. [pic][pic]= [pic] [pic] =[pic] =$55 per professional labor-hour |4. |Richardson |Punch | |Direct costs: | | | |Professional labor, $65 ( 100; $65 ( 150 |$ 6,500 |$ 9,750 | |Indirect costs: | | | |Legal support, $55 ( 100; $55 ( 150 |5,500 |8,250 | | |$12,000 |$18,000 | 4-33(25–30 min. Service industry, job costing, two direct- and indirect-cost categories, law firm (continuation of 4-32). Although not required, the following overview diagram is helpful to understand Keating’s job-costing system. [pic] |1. |Professional |Professional | | |Partner Labor |Associate Labor | |Budgeted compensation per professional |$ 200,000 |$80,000 | |Divided by budgeted hours of billable | | | |time per professional |? 1,600 |? ,600 | |Budgeted direct-cost rate |$125 per hour* |$50 per hour† | *Can also be calculated as [pic]= [pic]= [pic]=$125 †Can also be calculated as [pic]= [pic]= [pic]=$ 50 |2. |General |Secretarial | | |Support |Support | |Budgeted total costs |$1,800,000 |$400,000 | |Divided by budgeted quantity of allocation base |? 40,000 hours |? ,000 hours | |Budgeted indirect cost rate |$45 per hour |$50 per hour | |3. |Richardson |Punch | |Direct costs: | | | |Professional partners, | | | |$125 ( 60 hr. ; $125 ( 30 hr. |$7,500 |$3,750 | |Professional associates, | | | |$50 ( 40 hr. ; $50 ( 120 hr. 2,000 |6,000 | |Direct costs |$ 9,500 |$ 9,750 | |Indirect costs: | | | |General support, | | | |$45 ( 100 hr. ; $45 ( 150 hr. |4,500 |6,750 | |Secretarial support, | | | |$50 ( 60 hr. ; $50 ( 30 hr. 3,000 |1,500 | |Indirect costs |7,500 |8,250 | |Total costs |$17,000 |$18,000 | |4. |Richardson |Punch | |Single direct – Single indirect | | | |(from Problem 4-32) |$12,000 |$18,000 |Multiple direct – Multiple indirect | | | |(from requirement 3 of Problem 4-33) |17,000 |18,000 | |Difference |$ 5,000 |$ 0 | | |undercosted |no change | The Richardson and Punch jobs differ in their use of resources. The Richardson job has a mix of 60% partners and 40% associates, while Punch has a mix of 20% partners and 80% associates. Thus, the Richardson job is a relatively high user of the more costly partner-related resources (both direct partner costs and indirect partner secretarial support). The Punch job, on the other hand, has a mix of partner and associate-related hours (1 : 4) that exactly equals the mix of partner and associate hours for the firm as a whole. The refined-costing system in Problem 4-33 increases the reported cost in Problem 4-32 for the Richardson job by 41. % (from $12,000 to $17,000) while it happens to correctly cost the Punch job. 4-34(20(25 min. ) Proration of overhead. [pic] 2. [pic]=[pic] – [pic] =$4,900,000 – $4,500,000* =$400,000 *$60 ( 75,000 actual machine-hours = $4,500,000 a. Write-off to Cost of Goods Sold | |Dec. 31, 2011 |Write-off |Dec. 31, 2011 | | |Account |of $400,000 |Account | | |Balance |Underallocated |Balance | |Account |(Before Proration) |Manufacturing (After Proration) | |(1) |(2) |Overhead |(4) = (2) + (3) | | | |(3) | | | | | | | |Work in Process |$ 750,000 |$ 0 |$ 750,000 | |Finished Goods |1,250,000 |0 |1,250,000 | |Cost of Goods Sold |8,000,000 |400,000 |8,400,000

February 4th, 2023

Facts about Cost Accounting

Harvard Business School 9-192-068 Rev. May 1, 1993 DO A Brief Introduction to Cost Accounting T NO Organizations and managers are almost always interested in and concerned about costs. Control of past, present, and future costs is part of every manager’s job. In companies that try to earn profits, control of costs directly affects the amount of profit earned. Knowledge of the cost of products or services is indispensable for decisions about pricing or product and service mix. In nonprofit organizations, control of costs influences the level of services that can be provided and the future survival of the organization.

Cost accounting systems can be important sources of information for managers. For this reason, effective managers understand the strengths and limitations of cost accounting systems and actively participate in the evaluation and evolution of cost measurement and management systems. Unlike accounting systems that support the preparation of periodic financial reports, cost accounting systems and reports are not subject to rules or standards such as generally accepted accounting principles. Managers are permitted to exercise as much creativity and ingenuity as they wish in the quest for information on costs.

As a result, there is much variety in cost accounting systems used in different companies and sometimes even in different parts of the same organization. PY CO This brief introduction to cost accounting will review the principal uses of cost data, provide some vocabulary for cost accounting, and present several of the questions managers have to answer in designing or using a cost accounting system. Its purpose is to provide the beginner with some vocabulary and ideas to use in learning about and exploring how cost management systems are designed and used by managers.

While many of the references are to products and manufacturing environments, the vocabulary and concepts are equally applicable to services. Some Uses of Information About Costs Information about costs is used for two purposes in most organizations. Cost accounting systems provide information for evaluating the performance of an organizational unit or its manager. They also provide a means for estimating the costs of units of product or service that the organization may manufacture or provide to others. Professor William J. Bruns, Jr. prepared this note as the basis for class discussion. Copyright © 1991 by the President and Fellows of Harvard College. To order copies, call (617) 495-6117 or write the Publishing Division, Harvard Business School, Boston, MA 02163. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of Harvard Business School. 1 192-068 A Brief Introduction to Cost Accounting Performance Measurement

DO Reports on the costs incurred by part of an organization—department or a division, for example—are one means by which efficiency and effectiveness can be evaluated. By comparing actual costs to those that were expected—to standard costs or budgeted costs—the degree to which costs have been controlled can be judged. Deviations from expectations—variances—can be identified, evaluated, and discussed by managers. If needed, corrective actions can be taken or expectations can be modified to incorporate previously unexpected efficiencies.

Performance measurement reporting is usually periodic and systematic. Costs are assigned to parts of an organization that are identified as cost centers. When managers are held accountable for the costs incurred in a cost center, they are sometimes called responsibility centers. Performance reports provide information on the achievement of established objectives, efficiency of operations, and opportunities for cost control or cost reduction. Performance reports are used for both information and performance measurement and evaluation. T NO Product Costs and the Cost of Services

Inventory cost In manufacturing companies, product costs must be measured to determine the cost of items transferred from work-in-process to finished goods inventory. To satisfy the demands created by the cost concept used in financial reporting, a cost accounting system must measure all of the costs of the manufacturing process and assign some part of those costs to each unit of product. The costs of obtaining, maintaining, and managing the manufacturing facility need to be added to the costs of material and productive labor that each unit requires.

The former costs are called indirect costs, and the latter are called direct costs. Generally accepted accounting principles require that inventory cost includes a “fair share” of total manufacturing costs, including indirect costs. In practice, there is considerable variation in how indirect costs are assigned to products. Information on costs is indispensable for analyzing the profitability of a product or product line. Product cost information allows managers to evaluate contribution margin—the difference between price and variable costs—and gross margin—the difference between price and total product costs.

Information about sales, marketing, and distribution costs allows managers to evaluate the profitability of a product or product line. Without good information about costs, managers have no way to associate net income with actions or products about which they make decisions and over which they exercise control. Profitability analysis PY CO In companies that offer more than one product or service, information about costs is a key to managing the mix of products or services offered to customers or clients.

With cost and profitability information, a manager can direct sales and marketing effort to the most profitable products. Unprofitable products can be eliminated, repriced, or bundled with more profitable products. The importance of product line decisions to future profitability requires confidence that product costs have been accurately determined. Product mix Although prices are determined by market forces of supply and demand, product differentiation and marketing offer many managers some degree of latitude in setting prices.

Product costs and trends in product costs often provide signals to managers that prices should be changed. In particular, a change in the cost of a critical material or component may signal the need to reconsider the prices asked for products. Pricing 2 A Brief Introduction to Cost Accounting 192-068 DO Cost of service Many products require the seller to provide additional services to customers. In such cases, information about the cost of services is as important to managers as product costs.

The same is true for managers of companies or organizations that provide only services. Unless the cost of service is measured, there is no way to know if providing the service is profitable or not and whether changes in pricing or marketing strategy are needed. Cost Behavior T NO Basic knowledge about cost behavior is a prerequisite for understanding, using, or designing cost accounting or cost management systems. The level of cost can be a function of either or both the volume of activity or time when the cost is incurred.

Because prices of material, labor, and other resources change as time passes, and because time allows changes in manufacturing methods or service delivery, comparing costs at two points in time can be informative about efficiency. However, understanding the effect of changes in volume on costs is essential to measuring, analyzing, and using information about costs for both performance measurement and product costing. Relation of Costs to Volume If a company changes the amount of product or service it provides to customers or clients, its total costs will usually change as well.

If more product is manufactured and sold, then we should expect the higher volume to cause costs to increase. However, in many instances, the increase in costs will not be proportional to the increase in product volume. To understand why, the concepts of variable costs and fixed costs must be understood. PY CO Variable costs A cost which changes in strict proportionality with volume is called a variable cost. That is, if volume increases by 50%, a variable cost will increase in total by 50% as well. Materials used to create a product are a common example of a variable cost item.

The total cost of materials to manufacture 20 units is double the cost to manufacture 10 units. Nonvariable costs A cost that does not vary at all with volume is called a nonvariable, or fixed, cost. Over time the level of a fixed cost may change, but the change is independent of the volume of activity. Building rent is usually a nonvariable cost. The rent paid is independent of the number of units of product or service produced in the building or the number of customers served. Nonvariable costs can often be changed by management decisions, but they do not change simply because the volume of activity changes.

Semivariable costs Many costs include a combination of variable costs and nonvariable costs. The total amount of these costs varies in the same direction as volume, but less than proportionately with changes in volume. Sometimes semivariable costs can be separated into a fixed portion and a variable portion by isolating elements of the cost. The total cost of driving an automobile is semivariable with respect to the number of miles driven, but the cost of gasoline, oil, tires, and maintenance may be variable, whereas insurance and registration fees are probably fixed.

Often costs are assumed to be variable when they actually are incurred in chunks. Such costs, also known as step-function costs, are fixed for a range of volume of production but change in a chunk when volume drops below or exceeds the limits of the relevant range of volume. The costs of stockroom employees are often chunky. As volume of inventory or products increases, one stockroom employee may be able to handle material and finished goods until the volume level Chunky costs 3 192-068 A Brief Introduction to Cost Accounting ncreases to the point where another employee must be added. The new staffing level will then be sufficient even as volume rises further until another “step” is reached. Chunky costs and costs that are not easily related to volume measures usually require special analysis and management. DO Accounting for Costs Classifying Costs The word cost is used many different ways in accounting and by managers. For clarity, other words are often attached to the word cost to enhance its meaning. In cost accounting, costs are usually classified into two categories: direct costs and indirect costs.

Direct costs can be specifically traced to or are caused by a product, project, organizational unit, or activity. Materials specifically used in the manufacture of a product are an example of a direct cost. Labor specifically employed to provide a service would be another example. Many direct costs are variable costs, but nonvariable costs can also be direct costs if they can be traced directly to a project, organizational unit, or activity. Direct costs T NO When a cost cannot be traced directly to a single product, project, organizational unit, or activity, it is classified as an indirect cost.

The rental cost of a factory building making more than one product is an indirect cost with respect to each product. There is no feasible way to associate specifically an indirect cost with an individual unit or batch of products. Indirect costs Indirect costs are included in overhead cost, or burden. To account for the full cost of manufacturing products, some portion of the overhead cost must be associated with each unit of product. The methods by which overhead costs are associated with products or services comprise the essence of most cost accounting systems. PY CO

Accounting for Direct Costs A simplified cost flow chart for a manufacturing company is shown in Exhibit 1. Resources are acquired for cash or on credit and are classified as materials, payroll, or overhead. Payroll, which is classified as indirect cost, becomes part of overhead. In the production process, material, labor, and overhead cost becomes the cost of work-in-process inventory. When completed, work in process becomes finished goods and, later, cost of goods sold. It is easy to understand the accounting for direct costs such as material and productive labor.

As material is converted to product by the effort of production labor, the costs of material used and labor can be associated with products. As products are completed and transferred to finished goods and cost of goods sold, these direct costs are transferred with them. All the cost accountant has to do is keep track of how much material and labor cost is used in producing each unit of product. (Actually, this is a little more complicated than it may sound here, but this brief description captures the essence of the accounting process for these direct costs. ) 4 A Brief Introduction to Cost Accounting 192-068

Accounting for Indirect Costs DO Accounting for indirect costs is more complicated than accounting for direct costs. Costs must be collected and associated with activities before they can be assigned to products. The relationship between expenditures or costs and products or services is often far from obvious. Assignment to activities is often based on arbitrary decisions about the possible relationships between the reason for an expenditure and an activity. For example, rent for a building that houses both manufacturing and sales activities might be assigned to each activity in the same ratio as the floor space occupied by each.

Then, the manufacturing rent cost may be assigned to products manufactured using a measure of volume or some other measure of effort or activity. Almost all cost accounting systems use a two-stage procedure for assigning indirect costs to products or other cost objects. First, costs are assigned to cost centers, or cost pools. Second, costs are assigned from each pool to products using cost drivers. The concept of a cost driver is based on the idea that products drive the consumption of resources. T NO The first question that the cost accounting system designer has to answer concerns how many cost centers to use.

Using more cost centers than necessary adds complexity and cost to the cost accounting process itself. But using too few cost pools can create a risk that assigned costs will have little relationship to the activities and products that caused the cost to be incurred and resources to be consumed. In a manufacturing plant, the number of cost pools needed may be as small as one if machines, labor, and products are homogenous, or the number needed may be much larger if there is greater diversity in activities or products. In some manufacturing plants, each department, or even each machine, may be treated as a separate cost center. PY CO

The second set of questions the cost accounting system designer has to answer concerns how to assign costs to each cost center or cost pool. Expenditures for indirect costs may be assigned based on direct labor cost, floor space, headcounts, or direct costs. More complex systems will attempt to implement as much direct charging to each cost pool as possible by using actual measures of the resources used by each cost center. The third set of questions the cost accounting system designer has to answer concerns how to assign the costs collected for each cost center to the products that are manufactured by or pass through that center.

Often the costs are assigned in proportion to the use of a resource that is easily measured. Each unit product may be assigned the same proportion of indirect cost as it consumes labor time, labor cost, machine time, or material cost, for example. Given the number and complexity of choices facing the cost accounting system designer and the fact that there are no constraining “generally accepted principles of cost accounting,” it should be obvious that there is great diversity in the cost accounting systems used by different organizations.

A new manager or employee has no choice but to learn about the systems the company uses before using the cost information the system has produced. Every manager has to be continually alert to be sure the cost information available is the right information for the decision or task at hand. 5 Material Inventory Payroll Other Asset and Liability Accounts Overhead PY CO Cash Acquiring Resources Cost Flow Chart for a Manufacturing Company Work-in-Process Inventory Production Finished Goods Inventory T NO Exhibit 1 192-068 Cost of Goods Sold Sale of Products DO -6-

February 3rd, 2023

Seligram Inc. Case Analysis

Table of contents

At the beginning, the Electronic Testing Operations (ETO) measured two components of cost: direct labor and burden, but the burden is grouped into a single cost pool that includes all costs and divided by direct labor dollars to obtain the burden rate. (Q2) ETO’s manager picked up 5 components to evaluate the impact of different accounting system. The reported costs from existing system can be computed as follows, given the burden rate 145%:

Product Direct Labor Burden

Total Costs ICA 917 1,330 2,247 ICB 2,051 2,974 5,025

Capacitor 1,094 1,586 2,680

Amplifier 525 761 1,286

Diode 519 753 1,272

Based on the accounting manger’s proposal, the operation burden can be divided into machine-hour and direct labor burden. We use the revised burden rate 21% and machine-hour rate $80. 1 to show the updated costs:

Product Direct Labor Burden Machine Hour Machine Burden

Total Costs ICA 917 193 18. 50 1,482 2,591 ICB 2,051 431 40. 00 3,204 5,686

Capacitor 1,094 230 7. 50 601 1,924

Amplifier 525 110 5. 00 401 1,036

Diode 519 109 12. 00 961 1,589

If ETO follows the consultant’s recommend, treats the main test room and mechanical test room as different cost pools. The three-burden-pool system reports the cost: ($63. 34 for main room burden rate and $112. 63 for mechanical room)

Product Direct Labor Burden Main Room Hour Mech

Total Costs ICA 917 193 8. 50 10. 00 1,665 2,774 ICB 2,051 431 14. 00 26. 00 3,815 6,297

Capacitor 1,094 230 3. 00 4. 50 697 2,021

Amplifier 525 110 4. 00 1. 00 366 1,001

Diode 519 109 7. 00 5. 00 1,007 1,635

Among the three costing systems, we prefer the consultant’s proposal (Q3). The accounting manager treats the machine hours as separate cost pool because the automated operation process leads to large percentage of total cost comparing to direct labor. Measuring the machine hour costs can help us to assess the total burden more accurate. However, given the same machine hours, the different hours spend in main room and mechanical room also incurs different costs. We can see from Exhibit 5 that mechanical room has higher unit cost per hour.

Therefore, the three-cost-pool system can trace the costs back to the actual operation factors more clearly. (Q1) According to the two explanations shown above, the critical problem that causes ETO to fail is the single cost pool accounting system. In the single cost pool system, all products consume direct labor and overhead in the same proportion. However, some products need more direct labors while others require automated machinery operation. And the trends of direct labor obsolescence also biased the calculation of burden rate, which causes the verall product cost assessment become misleading.

Managerial Accounting Case Study

Seligram, Inc: ETO Group 1 2 Although we prefer the consultant’s proposal, the three-cost-pool system still can be further improved by introducing another cost pool, the technical support costs (Q4). Both the accounting manager and consultant regard the administrative and technical functions as the same cost factor. However, we think the technical support is very different in nature comparing with administrative cost. Each type electrical component which sent to ETO varies greatly in its complexity.

For example, a keyboard IC is much simpler then a 3D graphic processing IC and requires less (or nearly no) technical support since keyboard IC is a matured product. Administrative cost usually includes general overhead such as indirect salaried employee, security, store/warehousing, telephones, and others. If we classify the technical functions in the same cost pool as administration costs, then a keyboard IC and a 3D graphic processing IC share the same direct labor burden rate, which is not reasonable. Therefore we recommend a four-cost-pool system that separate technical support from general direct labor burden. Q5) From the data provided in Exhibit 5 and Exhibit 7, we can calculate the main test room burden rate if the new machine is included. The first year’s burden rate will be:

Hours Variable Depreciation Other

Total Old Machine 33,201 887,379 88,779 1,126,958 2,103,116

New Machine 400 100,000 500,000 225,000 825,000

Sum 33,601 987,379 588,779 1,351,958 2,928,116

Machine Hour Burden Rate $ 8 7. 14 (first year)

And the remaining years’ burden rate:

Hours Variable Depreciation Other Total Old Machine 33,201 887,379 88,779 1,126,958 2,103,116

New Machine 2,400 100,000 125,000 150,000 375,000

Sum 35,601 987,379 213,779 1,276,958 2,478,116

Machine Hour Burden Rate $ 6 9. 61 (remaining years)

The original burden rate calculated from three-cost-pool system is $63. 34. Both the first year ($87. 14) and remaining years’ ($69. 61) burden rate per machine hour are much higher, especially for the first year. Since the new equipment is only needed by one or two customers in the foreseeable future, we should treat the new machine as separate cost center, or the new equipment will have a disastrous effect on ETO’s pricing structure.

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