Horngrenima14e Ch04 ABC vs. Traditional Costing 41s Ppt

8/10/2019 Horngrenima14e Ch04 ABC vs. Traditional Costing 41s Ppt

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Cost Management System

A cost management system (CMS) is

a collection of tools and techniques

that identifies how management’s decisions affect costs.

Learning

Objective 1



Cost Management System

The primary purposes of a cost

management system are to provide...

cost information for strategicmanagement decisions,

cost information for

operational control, and

measure of inventory value and cost

of goods sold for financial reporting.



Cost Accounting Systems

Cost accounting is that part of the cost

management system that measures

costs for the purposes of management

decision making and financial reporting.



Cost Accounting System

Cost

accumulation:

Collecting costs by some

―natural‖ classification

such as materials or labor

Costassignment:

Tracing costs to one ormore cost objectives

Learning

Objective 2




Cost

accumulation

Cost assignment

to cost objects

Cabinets

Desks

Tables

Material costs

(metals)

Finishing Department

Activity Activity

Activity Activity

Cabinets

Desks

Tables

Machining Department

Activity Activity

Activity Activity

1. Departments

2. Activities

3. Products



Cost

A cost is a sacrifice or giving up ofresources for a particular purpose.

Costs are frequently measured by

the monetary units that must be

paid for goods and services.



Cost Object

A cost object (objective) is anything for which

A separate measurement of costs is desired.

Customers Departments

Processing ordersProduct

Service



Direct, Indirect, and Unallocated Costs

Direct costs can be identified specifically and exclusively

with a given cost objective in an economically feasible way.

Learning

Objective 3

Indirect costs cannot be identified specifically and exclusively

With a given cost objective in an economically feasible way.

Unallocated costs are recorded butnot assigned to any cost object.



Cost Allocation

Cost allocation is used to assign indirect costs to cost objects, in proportion

to the cost object’s use of a particular cost -allocation base.

A cost-allocation base is some measure of input or output that

determines the amount of cost to be allocated to a particular cost object.

An ideal cost-allocation base would measure how much

of the particular cost is caused by the cost objective.

Note the similarity of this definition to that of a cost driver—an output

measure that causes costs. Therefore, most allocation bases are cost drivers .

Learning

Objective 4



Cost Allocation

Cost allocations support a company’s CMS—the system

providing cost measurements for strategic decision making,

operational control, and external reporting.

Four purposes of cost allocation:

Predict the economic effects of strategic and operational control decisions.

Provide desired motivation and to give feedback for performance evaluation.

Compute income and asset valuations for financial reporting.

Justify costs or obtain reimbursement.



Cost Pool

A cost pool is a group of individual costs that a company

allocates to cost objects using a single cost-allocation base.

1. Accumulate indirect costs for a period of time.2. Select an allocation base for each cost pool, preferably a cost driver,

that is, a measure that causes the costs in the cost pool.

3. Measure the units of the cost-allocation base used for each cost

object and compute the total units used for all cost objects.

4. Determine the percentage of total cost-allocation base unitsused for each cost object.

5. Multiply the percentage by the total costs in the cost pool to

determine the cost allocated to each cost object.



Cost Allocation

Direct costs are physically traced to a cost object.

Indirect costs are allocated using a cost-allocation base.



Direct, Indirect, and Unallocated Costs

Li Company’s Statement of Operating Income

Statement of Operating Income



Direct Material Costs

Direct materials include the acquisition costs

of all materials that a company identifies

as a part of the manufactured goods.

These costs are identified in

an economically feasible way.

Learning

Objective 5



Direct Labor Costs

Direct Labor costs include the

wages of all labor that can betraced specifically and exclusively

to the manufactured goods in an

economically feasible way.



Indirect Production Costs (Manufacturing Overhead)

Manufacturing overhead includes all costs

associated with the production process

that the company cannot be traced to

the manufactured goods in aneconomically feasible way.



Product Costs

Product costs are costs identified with goods

produced or purchased for resale.

These costs first become part of the inventory

on hand, sometimes called inventoriable costs.

Inventoriable costs become expenses in the form of

cost of goods sold only when the inventory is sold.



Period Costs

Period costs are deducted as expenses

during the current period without

going through an inventory stage.

1 2 3

4 5 6 7 8 9 10

1 1 1 2 13 14 15 16 1 7

1 8 1 9 20 21 22 23 2 4

2 5 2 6 28 2 9 30 3 127





Manufacturing CompanyDirect

Material

Purchases

Finished

Goods

Inventory

Sales

Minus

Cost of

Goods Sold

(Expenses)

Selling Expenses and

Administrative

Expenses

Period

Costs

Equals Gross Margin

Minus

Equals Operating

Income

Product

(Inventoriable)

Costs

Expiration

Financial Statement Presentation

– Manufacturing Companies

Work-in-

Process

Inventory

DirectMaterial

Inventory

Direct Labor

IndirectManufacturing



Current Asset Sections

of Balance Sheets

Cash 4,000

Receivables 25,000

Subtotal 29,000

Finished goods 32,000

Work in process 22,000

Direct material 23,000

Total inventories 77,000

Other current assets 1,000

Total current assets 107,000

Manufacturer

Cash 4,000

Receivables 25,000

Merchandise inventories 77,000

Other current assets 1,000

Total current assets 107,000

Retailer or Wholesaler



Income Statement Presentation

of Costs for a Manufacturer

Direct labor

Indirect manufacturing

The manufacturer’s cost of goods produced

and then sold is usually composed of

the three major categories of cost:

Direct materials



Income Statement Presentation

of Costs for a Retailer

The merchandiser’s cost of goods sold

is usually composed of the purchase

cost of items, including freight-in,

that are acquired and then resold.



Traditional Costing SystemLearning

Objective 7

Direct

Materials

For Pen

Casings

$22,500

Direct

Labor

For Pen

Casings

$135,000

Direct

Materials For

Cell

Phone

Casings

$12,000

Direct

Labor For

Cell Phone

Casings$15,000

Sales $360,000 Sales $80,000 Unallocated $00,000

All

Indirect

Resources

$220,000

All Unallocated Value Chain

Costs

$100,000

Cost Driver

[Direct Labor

Hours]



Traditional Costing System

Statement of Operating Income

Traditional Cost Allocation System

Pen

Casings

Cell Phone

Casings

Sales $440,000 $360,000 $80,000Direct materials 34,500 22,500 12,000

Direct labor 150,000 135,000 15,000

Indirect manufacturing 220,000 198,000 22,000

Gross profit $ 35,500 $ 4,500 $31,000Corporate expenses 100,000

Operating loss ($ 64,500)

Gross profit margin 8.07% 1.25% 38.75%



ABC System

Direct

MaterialsFor Pen

Casings

$22,500

Direct

LaborFor Pen

Casings

$135,000

Direct

Materials For

CellPhone

Casings

$12,000

Direct

Labor ForCell Phone

Casings

$15,000

Sales $360,000 Sales $80,000 Unallocated $00,000

Plant and

Machinery$180,000

All Unallocated Value Chain Costs

$100,000

Cost Driver

[Direct Labor Hours]Cost Driver

[Distinct Parts]

Engineers and

CAD Equipment$40,000

Processing

Activity

$135,000+ 8,000

$143,000

Production Support

Activity

$45,000+32,000

$77,000

75% 25%

20% 80%



Activity-Based Cost Allocation System

Sales 440,000 360,000 80,000

Direct materials 34,500 22,500 12,000

Direct labor 150,000 135,000 15,000

Processing activity 143,000 128,700 14,300

Production support activity 77,000 15,400 61,600

Gross profit 35,500 58,400 ( 22,900)

Corporate expenses 100,000

Operating loss ( 64,500)

Gross profit margin 8.07% 16.22% (28.63%)

External

Reporting

Internal Purposes

Pen

Casings

Cell

Phone

Casings



ABM is using the output of an activity-basedcost accounting system to aid strategic decision

making and to improve operational control.

Activity-Based Management

A value-added cost is the cost of an activitythat cannot be eliminated without affecting

a product’s value to the customer.

In contrast, nonvalue-added costs are coststhat can be eliminated without affecting

a product’s value to the customer.

Learning

Objective 8



Activity-Based Management

Benchmarking is the continuous process of

comparing products, services, and activitiesto the best industry standards.

Benchmarking is a tool to help an organization measureits competitive posture. Benchmarks can come from

within the organization, from competing organizations,

or from other organizations having similar processes.



Benefits of Activity-Based Costing and

Management Systems

set an optimal product mix

to estimate profit margins of new products

determine consumption of company’s shared resources

keep pace with new product techniques

and technological changes

decrease the costs associated with bad decisions take advantage of reduced cost of ABC

systems due to computer technology

Companies adopt ABC systems to:



Design of a Traditional Costing System



Design of an Activity-Based


Determine the key

components of the

cost accounting

system.

Cost objectives

Key activities

Resources

Related cost drivers

Learning

Objective 9





Account billingBill verification

Account inquiry

Correspondence

Other activities

Number or printed pagesNumber of accounts verified

Number of inquiries

Number of letters

Number of printed pages

Key

Activity

Cost

Driver



Activity Performed

Resource AccountUsed to Inquiry Correspondence Billing Verification All Other

Perform Activity Activity Activity Activity Activity Activities Total

Supervisor 40% 10% 30% 20% 100%

Account inquiry labor 90 10 100%

Billing labor 30 70 100%

Verification labor 100 100%

Paper 100 100%

Computer 45 5 35 10 5 100%

Telecommunications 90 10 100%

Occupancy 65 15 20 100%

Printing machines 5 90 5 100%

All other department resources 100 100%

Determine the relationships among

cost objectives,activities, and resources.







Collect relevant data concerning costs and the physical

flow of the cost-driver units among resources and activities.

Number of Cost Driver Units

Activity Cost Driver Units Residential Commercial Total

Account inquiry Inquiries 20,000 5,000 25,000

Correspondence Letters 1,800 1,000 2,800

Bill printing Printed pages 120,000 40,000 160,000

Verification Accounts verified 20,000 20,000

Other activities Printed pages 120,000 40,000 160,000





Calculate and interpret the new

activity-based information.

Determine the traceable costs for

each of the activity cost pools.

Determine the activity-based cost per

account for each customer class



Activity Cost Pool

Cost (from Account

Resource slide 4-33) Inquiry Correspondence Billing Verification Other

Supervisors 33,600 13,440* 3,360** 10,080*** 6,720****

Account inquiry

labor 173,460 156,114 17,346

Billing labor 56,250 16,875 39,375

Verification labor 11,250 11,250

Paper 7,320 7,320

Computer 178,000 80,100 8,900 62,300 17,800 8,900

Telecommunication 58,520 52,668 5,852

Occupancy 47,000 30,550 7,050 9,400

Printers 55,000 2,750 49,500 2,750

Other resources 67,100 67,100

Total traceable

cost 687,500 332,872 32,356 153,125 68,425 100,722

*From slides 33 and 36, account inquiry activity uses 40% of the supervisor resource. So the allocation is 40% × 33,600 = 13,440.

**10% × 33,600

***30% × 33,600

****20% × 33,600

Total traceable costs for the 5 activity cost pools.





Driver Costs

Total Number of

Traceable Costs Driver Units Cost per

(from Exhibit 4-12) (From Exhibit 4-11) Driver Unit

Activity (Driver Units) (1) (2) (1) ÷ (2)

Account inquiry (inquiries) 332,872 25,000 Inquiries 13,314880

Correspondence (letters) 32,356 2,800 Letters 11.555714

Account billing (printed pages) 153,125 160,000 Printed pages 0.957031

Bill verification (accounts verified) 68,425 20,000 Accounts verified 3.421250

Other activities (printed pages) 100,722 160,000 Printed pages 0.629513

Cost per Customer Class

Residential Commercial

Cost per Number of Number of

Driver Unit Driver Units Cost Driver Units Cost

Account inquiry 13.314880 20,000 Inquiries 266,298 5,000 Inquiries 66,574

Correspondence 11.555714 1,800 Letters 20,800 1,000 Letters 11,556

Account billing 0.957031 120,000 Pages 114,844 40,000 Pages 38,281

Bill verification 3.421250 20,000 Accts. 68,425

Other activities 0.629513 120,000 Pages 75,541 40,000 pages 25,181

Total cost 477,483 210,017

Number of accounts 120,000 20,000

Cost per account 3.98 10.50

Cost per account, traditional

system from slide 33 4.58 6.88



Activity-based cost per account for each customer class

S i D i i O i l C



Strategic Decisions, Operational Cost

Control, and ABM

Outsourcing

Reducing operating costs

Identifying nonvalue-added activities

Improving both strategic

and operational decisions



End of Chapter 4

The End

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Horngrenima14e Ch04 ABC vs. Traditional Costing 41s Ppt