Accounting tools for business decision making 6th edition kimmel noppt sm 1 by agnes.speedy314

Accounting Tools for Business Decision Making 6th Edition Kimmel

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CHAPTER 17 Activity-Based Costing

ASSIGNMENT CLASSIFICATION TABLE

Learning Objectives Questions Brief Exercises Do It! Exercises A Problems *1. Discuss the difference between traditional costing and activity-based costing. 1, 2, 3, 4, 5 1, 2 1 1, 2, 3, 4, 5, 10, 11 1A, 3A, 4A, 5A *2. Apply activity-based costing to a manufacturer 6, 7, 9, 10, 11, 12 3, 4, 5, 6, 7 2 1, 3, 4, 5, 6, 7, 8, 9, 10, 11 1A, 2A, 3A, 4A, 5A *3 Explain the benefits and limitations of activity-based costing. 8, 13, 14, 15, 16, 17, 19 8, 9, 10, 11, 12 3 9, 10, 11, 12, 13, 16 1A, 5A

*4 Apply activity-based costing to service industries.

*5 Explain just-in-time (JIT) processing. 20

*Note: All asterisked Brief Exercises, Exercises, and Problems relate to material contained in the appendix to the chapter.

17-2

ASSIGNMENT CHARACTERISTICS TABLE

Problem Number Description Difficulty Level Time Allotted (min.) 1A Assign overhead using traditional costing and ABC; compute unit costs; classify activities as value- or non-value-added. Moderate 35–45 2A Assign overhead to products using ABC and evaluate decision. Moderate 25–35 3A Assign overhead costs using traditional costing and ABC; compare results. Moderate 35–45 4A Assign overhead costs using traditional costing and ABC; compare results. Moderate 40–50 5A Assign overhead costs to services using traditional costing and ABC; compute overhead rates and unit costs; compare results. Moderate 35–45

Correlation Chart between Bloom’s Taxonomy, Learning Objectives and End-of-Chapter Exercises and Problems

*1. Discuss the difference between traditional costing and activity-based costing.

*2. Apply activity-based costing to a manufacturer.

**3. Explain the benefits and limitations of activity-based costing.

*4. Apply activity-based costing to service industries.

*5. Explain just-in-time (JIT) processing.

17-4

Learning Objective Knowledge Comprehension Application Analysis Synthesis Evaluation

Q17-1 Q17-2 Q17-3 Q17-4 Q17-5 DI17-1 BE17-1 BE17-2 E17-1 E17-2 E17-10 E17-11 P17-1A E17-3 E17-4 E17-5 P17-3A P17-4A P17-5A

Q17-6 Q17-7 Q17-9 Q17-10 Q17-11 Q17-12 BE17-3 BE17-4 BE17-5 BE17-6 BE17-7 DI17-2 E17-1 E17-9 E17-10 E17-11 P17-1A P17-2A E17-3 E17-4 E17-5 E17-6 E17-7 E17-8 P17-3A P17-4A P17-5A

Q17-8 Q17-13 Q17-14 A4-15 Q17-16 Q17-17 Q17-19 DI17-3 BE17-11 BE17-12 E17-9 E17-10 E17-11 P17-1A BE17-8 BE17-9 BE17-10 E17-12 E17-13 E17-16 P17-5A

Q17-18 BE17-12 DI17-4 E17-14 E17-15 E17-17 BE17-9 P17-5A

Q17-20 Broadening Your Perspective BYP17-2 BYP17-3 BYP17-6 BYP17-1 BYP17-4 BYP17-7 BYP17-2 BYP17-5

ANSWERS TO QUESTIONS

1. Direct labor is a valid basis for allocating overhead when: (a) direct labor constitutes a significant part of total product cost, and (b) there is a high correlation between direct labor and changes in the amount of overhead costs.

2. The amount of direct labor in many industries has greatly decreased, due to advances in computerized systems, technological innovation, global competition and automation. Total overhead costs resulting from depreciation on expensive equipment and machinery, utilities, repairs, and maintenance have significantly increased. Many companies now use machine hours as the basis on which to allocate overhead in an automated manufacturing environment.

3. In many automated manufacturing environments, machine hours is a more relevant basis on which to allocate overhead.

4. Under a traditional volume-based costing system where overhead cost is allocated on the basis of units of output, the high-volume product will undoubtedly absorb more overhead than the lowvolume product.

5. The principal differences are:

(1)

(2)

Primary focus Bases of allocation

Activity-Based Costing Traditional Costing

Activities performed in making products

Multiple cost drivers

Units of production

Single unit-level base

6. Activity-based overhead rates are computed using the following formula:

Estimated

Expected

7. The four steps involved in developing an ABC system are:

1. Identify and classify the major activities involved in the manufacture of specific products, and allocate manufacturing overhead costs to appropriate cost pools.

2. Identify the cost driver that has a strong correlation to the costs accumulated in the cost pool.

3. Compute the overhead rate for each cost driver.

4. Assign manufacturing overhead costs for each cost pool to products, using the overhead rates (cost per driver).

8. A value-added/non-value-added activity flowchart is based on a systematic analysis of all the activities (resource-consuming actions and transactions) performed to manufacture a product or render a service. The flowchart documents each activity and the time involved in each activity. The flow chart also documents management’s proposed reengineering of the manufacturing process.

9. An activity cost pool is the overhead cost attributed to a distinct type of activity.

10. A cost driver is any factor or activity that has a direct cause-effect relationship with the resources consumed.

Overhead per

Activity

Use of Cost Drivers per Activity

11. A cost driver is accurate and appropriate if it measures the actual consumption of the activity in manufacturing a product or rendering a service and the data relating to the cost driver is available and easily obtained.

12. The formula for assigning activity cost pools to products is:

Activity-based overhead rate X Expected use of cost drivers per product

13. The primary benefit of ABC is more accurate product costing. This results from using more cost pools and enhanced control over overhead costs, and leads to better management decisions.

14. The limitations of ABC are: (a) increased costs that accompany multiple-activity cost pools and cost drivers and (b) the necessity still to allocate some costs arbitrarily.

15. ABC is the superior costing system when: (1) product lines differ greatly in volume and manufacturing complexity; (2) product lines are numerous, diverse, and require differing degrees of support services; (3) overhead costs constitute a significant portion of total costs; (4) the manufacturing process or the number of products has changed significantly; and (5) data from the existing system is being ignored.

16. Basic ABC has been enhanced by identifying activities as value-added and non-value-added.

17. Identifying non-value-added activities highlights for managers the activities that should be reduced or eliminated because they are not essential and they add no value to the product.

18. The overall objective of ABC in service firms is no different than for manufacturing companies; that is, improved costing of services rendered (by job, service, contract, or customer). The general approach to costing is the same—analyze operations, identify activities, assign overhead costs to activity cost pools, and identify and use cost drivers to assign the cost pools to the services.

19. Greater accuracy in cost allocation is achieved by recognizing the four levels of activity. Some activities are affected (driven) by changes in the number of units produced, while other activities are affected only by changes in the number of batches or the number of products, and some, facility-level activities, are unaffected by changes in either units, batches, or products produced

*20. (a) Just-in-time processing has a just-in-time philosophy and a pull approach to eliminate inventory. It is dedicated to having the right amount of materials, parts, or products just as they are needed.

(b) There are three important elements in JIT processing:

(1) A company must have dependable suppliers who are willing to deliver on short notice exact quantities of raw materials according to precise quality specifications.

(2) A multiskilled workforce must be developed.

(3) A total quality control system must be established.

17-6

Questions Chapter 17 (Continued)

SOLUTIONS TO BRIEF EXERCISES

BRIEF EXERCISE 17-1

(a) Estimated annual overhead costs = Predetermined overhead rate Expected annual operating activity

$975,000 = $9.75 per direct labor hour 100,000

(b) 92,000 direct labor hours X $9.75 = $897,000 overhead applied

(c) If the manufacturing process is complex, then multiple allocation bases can result in more accurate product-cost computations. In such situations, managers need to consider an overhead cost allocation method that uses multiple bases. That method is activitybased costing.

BRIEF EXERCISE 17-2

Under ABC, overhead costs are shifted from the high-volume products to the low-volume products. This shift results in more accurate costing for two reasons:

1. Low-volume products often require more special handling, such as more machine setups and inspections, than high-volume products. Thus, the low-volume product frequently is responsible for more overhead costs per unit than is a high-volume product.

2. Assigning overhead using ABC will usually increase the cost per unit for low-volume products. Therefore, a traditional overhead allocation such as direct labor hours is usually a poor cost driver for assigning overhead costs to low-volume products.

As a result, for Finney, one of the products (Product RX3) may have been low volume and therefore may have more overhead costs assigned to it under an ABC system.

BRIEF EXERCISE 17-3

An appropriate cost driver for each activity is: Activity Cost

Materials handling

Machine setups

Factory machine maintenance

Factory supervision

Quality control

BRIEF EXERCISE 17-4

(a) Number of parts or assemblies

(b) Number of setups

(d) Number of inspections

(e) Number of purchase orders

(f) Machine hours

(g) Square footage occupied

Number of requisitions

Number of setups

Machine hours used

Number of employees

Number of inspections

BRIEF

17-5

BRIEF EXERCISE 17-6

Driver

EXERCISE

Machine setups Machining Inspections $150,000 ÷ 2,500 = $60 per setup $375,000 ÷ 25,000 = $15 per machine hour $ 87,500 ÷ 1,750 = $50 per inspection

Activity Cost Pool Estimated Overhead ÷ Expected Use of Cost Drivers per Activity = Activity-Based Overhead Rates Designing Sizing and cutting Stitching and trimming Wrapping and packing $ 450,000 4,000,000 1,440,000 336,000 10,000designer hours 160,000machine hours 80,000labor hours 32,000finished units $45.00 per designer hour $25.00 per machine hour $18.00 per labor hour $10.50 per finished unit

Copyright © 2016 WILEY KIMMEL ACCOUNting, 6/e, Solutions Manual (For Instructor Use Only) 17-9 BRIEF EXERCISE 17-7 Activity Cost Pool Estimated Overhead ÷ Expected Use of Cost Drivers per Activity = Activity-Based Overhead Rates Ordering and receiving Food processing Packaging $ 84,000 480,000 1,760,000 12,000orders 60,000machine hours 440,000labor hours $7.00 per order $8.00 per machine hour $4.00 per labor hour Cost Drivers X Overhead Rates = Total Overhead Applied 11,000 orders 50,000 machine hours 500,000 labor hours $7.00 $8.00 $4.00 $ 77,000 400,000 2,000,000 $2,477,000 BRIEF EXERCISE 17-8 (a) (b) (c) (d) (e) (f) Non-value-added Value-added Non-value-added Non-value-added Non-value-added Value-added BRIEF EXERCISE 17-9 Value-added Activities Hours (1) (3) (5) Designing and drafting On-site supervision Consultation with client 3.0 2.0 1.5 6.5 Non-value-added Activities Hours (2) (4) (6) Staff meetings Lunch Entertaining a prospective client 1 1 2 4

EXERCISE 17-10 (a) Batch- or unit-level (b) Unit-level (c) Unit-level (d) Batch- or unit-level (e) Facility-level (f) Batch- or product-level (g) Batch- or product-level (h) Unit-level (i) Facility-level (j) Batch-level BRIEF EXERCISE 17-11 (a) Facility-level (b) Unit-level (c) Product-level (d) Unit-level (e) Batch-level (f) Batch-level (g) Product-level (h) Facility-level BRIEF EXERCISE 17-12 (a) Initial concept formation $40,000 = $2,000 per project change 20 Design $300,000 = $2 per square foot 150,000 Construction oversight $100,000 = $1,000 per month 100 (b) Initial concept formation product-level Design—unit-level Construction oversight—batch-level

BRIEF

SOLUTIONS TO DO IT! REVIEW EXERCISES

DO IT! 17-1

(a) True

(b) False

(d) True

(e) True

DO IT! 17-2

(a) Computations of activity-based overhead rates per cost driver:

(b) Assignment of each activity’s overhead cost to products using ABC:

Activity Cost Pools Estimated Overhead Expected Use of Cost Drivers per Activity ActivityBased Overhead Rates Machine setup $ 16,000 40 setups $400 per setup Machining 110,000 5,000 machine hours $ 22 per machine hr. Packing 30,000 500 orders $ 60 per order $156,000

BC113 AD908 Activity Cost Pools Expected Use of Cost Drivers per Produ ct Activity-Based Overhead Rates Cost Assig ned Expected Use of Cost Drivers per Product Activity-Based Overhead Rates Cost Assig ned Machine setup 25 $400 $10,000 15 $400 $ 6,000 Machining 1,000 $ 22 22,000 4,000 $ 22 88,000 Packing 150 $ 60 9,000 350 $ 60 21,000 Total assigned costs $41,000 $115,000

BC113 AD908 Total costs assigned (a) $41,000 $115,000 Total units produced (b) 3,000 1,500 Overhead cost per unit (a) ÷ (b) $13.67 $76.67

17-12

DO IT! 17-2 (Continued)

(d) These computations show that the total overhead assigned to Product AD908 is more than two and a half times that assigned to BC113. On a per unit basis, the overhead assigned to AD908 is close to six times that assigned to each BC113.

DO IT! 17-3

DO IT! 17-4

(a) The activity based overhead rates would be:

(b) The overhead applied to job XZ3275 is:

unit-level (b) product-level (c) facility-level (d) batch-level (e) unit-level (f) batch-level (g) facility-level (h) unit-level

(a)

Estimated Overhead  Expected Use of Cost Driver Per Activity Activity-Based Overhead Rate = Loading and unloading $ 90,000 90,000 $1.00 per piece Travel $450,000 600,000 $0.75 per mile Logistics $ 75,000 3,000 $25 per hour

(150  $1.00) + (200  $.75) + (.75  $25) = $318.75

SOLUTIONS TO EXERCISES

EXERCISE 17-1

(a) Estimated overhead = Predetermined overhead rate

Direct labor costs

labor cost

$240,000 = 160%

direct

$50,000 + $100,000

Estimated overhead Machining Machine hours $140,000 Machine setup Set up hours 100,000 Activity-based overhead rates Machining: Machine setup: $140,000 = $70 per machine hour $100,000 = $200 per setup hour 1,000 + 1,000 400 + 100

(b) Activity cost pools Cost drivers

$50,000 X 160% $80,000 $100,000 X 160% $160,000 $80,000 $160,000 Activity-based costing Machining: 1,000 X $70 $70,000 1,000 X $70 $70,000 Machine setup: 100 X $200 20,000 400 X $200 80,000 $90,000 $150,000

(c) Traditional costing Standard

Custom

EXERCISE 17-2

(a) Traditional costing system

(b) Activity-based costing system

–

(d) These costs are similar probably because the cost drivers are essentially the same; that is, they are based on a unit volume concept.

Product 540X Product 137Y Product 249S Sales $180,000 $160,000 $70,000 Costs 55,000 50,000 15,000 Operating income $125,000 $110,000 $55,000

Product 540X Product 137Y Product 249S Sales $180,000 $160,000 $70,000 Costs 50,000 35,000 35,000 Operating income $130,000 $125,000 $35,000

Product

($125,000

$110,000) ÷

Product 249S ($35,000

$55,000) ÷ $55,000

(36.36%)

137Y

$110,000 = 13.64%

–

EXERCISE 17-3

(a) Activity cost pools Cost drivers Estimated overhead

(b) Estimated overhead = $945,000

= $2.10

per direct labor hour

The wool product line is allocated $97,500 ($570,000 – $472,500) more overhead cost when an activity-based costing system is used. As a result, the cotton product line is allocated $97,500 ($472,500 – $375,000) less.

Cutting Machine hours $360,000 Design Number of setups 585,000 Activity-based overhead rates Cutting Design $360,000 = $1.80 per machine hour $585,000 = $390 per setup 200,000 1,500 Wool Cotton Activity-based costing Cutting 100,000 X $1.80 $180,000 100,000 X $1.80 $180,000 Design 1,000 X $390 390,000 500 X $390 195,000 Total cost allocated $570,000 $375,000

Direct labors hours 450,000 Wool Cotton Traditional costing 225,000 X $2.10 $472,500 225,000 X $2.10 $472,500

(a)

EXERCISE 17-4

Direct labor hours for car wheels (40,000 X 1) = 40,000 Direct labor hours for truck wheels (10,000 X 3) = 30,000 Total direct labor hours 70,000

labor

Overhead assigned Car wheels (40,000 X $11) = $440,000 Truck wheels (30,000 X $11) = 330,000 Total overhead $770,000

Activity Cost Pool Estimated Overhead ÷ Expected Use of Cost Drivers = ABC Overhead Rate Setting up machines $220,000 1,000 $220 Assembling 280,000 70,000 $ 4 Inspection 270,000 1,200 $225

Car Wheels Activity Cost Pools Expected Use of Cost Driver per Product X Activity-Based Overhead Rates = Cost Assigned Setting up machines 200 $220 $ 44,000 Assembling 40,000 $ 4 160,000 Inspection 100 $225 22,500 Total cost assigned $226,500

$770,000 (total estimated overhead) = $11 per direct labor hour. 70,000 (total direct

hours)

(b)

(c)

EXERCISE 17-4

Pools

(d) Assuming that the cost drivers are a reasonable representation of what is occurring in the two product lines, it seems appropriate to switch to activity-based costing. By using this system, more accurate cost information is developed which should lead to better allocation of resources and pricing decisions in the future.

EXERCISE 17-5

(a) Traditional costing:

$260,000 ÷ 2,500 (800 + 1,700) hours = $104 per direct labor hour

(1) One mobile safe: 800 hours X $104 = $83,200 $83,200 ÷ 200 = $416 each (2) One walk-in safe:

hours X $104 = $176,800 $176,800 ÷ 50 = $3,536 each

(Continued)

Activity Cost

Expected use of Cost Driver per Product X ActivityBased Overhead Rates = Cost Assigned Setting up machines 800 $220 $176,000 Assembling 30,000 $ 4 120,000 Inspection 1,100 $225 247,500 Total cost assigned $543,500

1,700

EXERCISE 17-5 (Continued)

(b) Activity-based costing:

(1) Material handling costs

$160,000 ÷ 500 (300 + 200) moves = $320 per move

(a) One mobile safe:

300 moves X $320 = $96,000

$96,000 ÷ 200 = $480 each

(b) One walk-in safe:

200 moves X $320 = $64,000

$64,000 ÷ 50 = $1,280 each

(2) Purchasing activity costs

$100,000 ÷ 800 (450 + 350) orders = $125 per order

(a) One mobile safe:

450 orders X $125 = $56,250

$56,250 ÷ 200 = $281.25 each

(b) One walk-in safe:

350 orders X $125 = $43,750

$43,750 ÷ 50 = $875 each

Traditional Costing Activity-Based Costing Mobile safe Walk-in safe $ 416 $3,536 ** $761.25** $ 2,155**

**$480 + $281.25 **$1,280 + $875

EXERCISE 17-6

Budgeted Costs Activity Cost Pool

Engineering design

Engineering prototypes

Depreciation, machinery

Electricity, machinery

Machine setup, indirect labor

Machine setup, indirect materials

Inspections

Tests

Depreciation, plant

Insurance, plant

Property taxes

Oil, heating

Electricity, plant lighting

Machine maintenance wages

Engineering

Cost Driver

Engineering hours

Machinery

Machine hours

Machine setup

Number of setups

Quality control

Number of tests or inspections

Factory utilities

Square feet or Machine hours

Maintenance

Number of machines or Machine hours

EXERCISE 17-7

The following cost drivers might be used to assign overhead:

Labor hours Labor hours Labor hours

Gallons of chemicals Number of cartfuls or labor hours

Number of cartfuls Gallons of juice Gallons of juice

Gallons of wine or months of aging

Number of bottles

Number of boxes

Number of shipments

Number of gallons processed

1. 2. 3. 4. 5. 6. 7. 8.

10. 11. 12. 13. 14. 15.

EXERCISE 17-8

1. Number of engineering change orders; hours of designing

2. Number of orders processed

3. Number of parts in stock

4. Weight of material; number of boxes or cartons

5. Employee turnover; number of employees hired

EXERCISE 17-9

(a) The overhead rates are:

(b) The assignment of the overhead costs to products is as follows:

*Rounded to nearest dollar

6. Machine hours; direct labor hours

7. Number of employees; number of parts; direct labor hours 8. Number of employees 9. Book or market value of assets

10. Cost of goods manufactured, direct labor hours; number of employees

11. Machine hours; number of machines

12. Gallons of paint; number of appliances

Activity Cost Pools Estimated Overhead ÷ Expected Use of Cost Drivers per Activity = Activity-Based Overhead Rates Materials handling Machine setups Quality inspections $40,000 21,500 33,000 1,000 500 600 $40 43 55

Instruments Gauges Cost Assigned Cost Driver Number Cost Number Cost Requisitions ($40) Machine setups ($43) Inspections ($55) Total costs assigned (a) Units produced (b) 400 200 200 $16,000 8,600 11,000 $35,600 50 600 300 400 $24,000 12,900 22,000 $58,900 300 $40,000 21,500 33,000 $94,500 Overhead cost per Unit (a) ÷ (b) $ 712 $ 196*

To: President, Air United, Inc.

From: Student

Re: Benefits of activity-based costing (ABC)

ABC focuses on the activities performed in producing a product. Overhead costs are assigned to products based on cost drivers that measure the activities performed on the product.

The primary benefit of ABC is more accurate and meaningful product costing. This improved cost data can lead to reduced costs as managers become more aware of the underlying causes of cost incurrence. Thus, control over costs is enhanced.

Theimproved costdatashouldalso lead tobettermanagementdecisions. More accurate product costing should contribute to setting selling prices which will help achieve desired profitability levels. In addition, it should be helpful in deciding whether to make or buy a product part or component, and sometimes even whether to eliminate a product.

17-9 (Continued) (c) MEMO

EXERCISE

EXERCISE 17-10

(a) (1) Traditional product costing system: $400,000 X .70 = $280,000 Selling costs assigned in March to the “high intensity” product line.

(2) Activity-based costing system:

(b) As compared to ABC, traditional costing grossly undercosts the selling costs assigned to the “high intensity” product line. The difference of $46,000 ($326,000 – $280,000) in the month of March is a 14.1% understatement.

Activity Cost Pools Cost Drivers Used X ActivityBased Overhead Rates = Overhead Cost Assigned Sales commissions Advertising TV Advertising—Internet Catalogs Cost of catalog sales Credit and collection Total assigned cost for March $900,000 250 2,000 60,000 9,000 $900,000 $.05 $300 $10 $2.50 $1.00 $.03 $ 45,000 75,000 20,000 150,000 9,000 27,000 $326,000

EXERCISE 17-11

(a) 1. Traditional product costing system: Quality-control overhead costs assigned in June to the low-calorie breakfast line are $11,900 ($70,000 X .17).

2. Activity-based costing system:

(b) As compared to ABC, the traditional costing system undercosts the quality-control overhead cost assigned to the low-calorie breakfast line by $1,840 ($13,740 – $11,900) in the month of June. That is a 13.4% understatement.

EXERCISE 17-12

Activity Cost Pools

Engineering

Machinery

Machine setup

Quality control

Factory utilities

Maintenance

Activity Level

Product-level

Unit-level

Batch-level

Depends on frequency. Could be unit, batch, or product-level

Facility-level

Activity Cost Pools Cost Drivers Used X ActivityBased Overhead Rate = Overhead Cost Assigned Inspections of material received In-process inspections FDA certification Total assigned cost for June 6,000 10,000 420 $ .90 $ .33 $12.00 $ 5,400 3,300 5,040 $13,740

Copyright © 2016 WILEY KIMMEL ACCOUNting, 6/e, Solutions Manual (For Instructor Use Only) 17-25 EXERCISE 17-13 1. Facility-level activity 2. Product-level activity 3. Batch-level activity 4. Product-level activity 5. Product-level activity 6. Batch-level activity 7. Facility-level activity 8. Batch-level or unit-level activity 9. Unit-level activity 10. Unit-level activity EXERCISE 17-14 (a) Activity Cost Pools Estimated Overhead ÷ Expected use of Cost Drivers = ABC Overhead Rates Scheduling and travel $85,000 1,250 $ 68.00 Setup time $90,000 600 $150.00 Supervision $60,000 $400,000* $ .15

+ $300,000 Commercial Activity Cost Pools Expected use of Cost Drivers per Product X ABC Overhead Rates = Cost Assigned Scheduling and travel 750 $ 68.00 $ 51,000 Setup time 350 $150.00 52,500 Supervision $100,000 $ .15 15,000 Total assigned costs $118,500 Residential Activity Cost Pools Expected use of Cost Drivers per Product X ABC Overhead Rates = Cost Assigned Scheduling and travel 500 $ 68.00 $ 34,000 Setup time 250 $150.00 37,500 Supervision $300,000 $ .15 45,000 Total assigned costs $116,500

*$100,000

EXERCISE 17-14 (Continued)

(b)

(c) Assuming that the cost drivers are a reasonable representation of what is occurring in the two product lines, it seems appropriate to switch to activity-based costing. By using this system, more accurate cost information is developed which should lead to better allocations of resources and more informative pricing decisions in the future.

EXERCISE 17-15

The following activities might be identified at Snap Prints Company from your analysis of its operations and a discussion with the owner-manager, Terry Morton.

Commercial Residential Revenues $300,000 $480,000 Direct material costs $ 30,000 $ 50,000 Direct labor costs 100,000 300,000 Overhead costs 118,500 248,500 116,500 466,500 Operating income (loss) $ 51,500 $ 13,500

1. Hiring and training personnel 2. Purchasing supplies and materials 3. Selling, promoting, and marketing 4. Billing and collecting 5. Designing 6. Offset printing 7. Copying 8. Faxing 9. Collating 10. Cutting and folding 11. Maintenance and repairs 12. Delivery 13. Accounting

Writing contracts is value-added; writing letters may be value-added if related to a specific case or it may be non-value-added if it is billing a client or collecting receivables. Research may be value-added if it is unique, related to a specific case, and is billable. Research may be non-value-added if it is something the attorney should already have known and is not billable to the client.

Copyright © 2016 WILEY KIMMEL ACCOUNting, 6/e, Solutions Manual (For Instructor Use Only) 17-27 EXERCISE 17-16 Value-Added Activities Hours Writing contracts and letters Taking depositions Contemplating legal strategy Litigating a case in court 1.5 1.0 1.0 2.5 6.0 Non-Value-Added Activities Hours Attending staff meetings Doing research Traveling to/from court Eating lunch Entertaining a prospective client 0.5 1.0 1.0 1.0 1.5 5.0 Questionable Classifications

EXERCISE 17-17

(a) The predetermined overhead rate under traditional costing would be:

$42,000  1,500 hours = $28

(b) The amount of overhead allocated to the average residential job would be:

$28  .5 hours = $14

(d) The amount of overhead allocated to the average residential job under activity based costing would be:

(e) The amount of overhead allocated to the average residential job under traditional costing is $14, versus $8.60 under ABC. This means that too much overhead is being allocated to residential jobs, and too little to commercial jobs under traditional costing. This would make the residential jobs appear less profitable than they actually are, and would overstate the profitability of the commercial jobs.

Activity Cost Pools Estimated Overhead  Expected Use of Cost Drivers per Activity Activity Based Overhead Rate Plowing $38,000  200,000 square yards = $0.19 per square yard Snowthrowing $ 4,000  50,000 linear feet = $0.08 per linear foot

Expected use of Cost Driver Per Job  Activity Based Overhead Rate = Cost Allocated Plowing 20  $0.19 = $3.80 Snowthrowing 60  $0.08 = 4.80 $8.60

SOLUTIONS TO PROBLEMS

PROBLEM 17-1A

(a) Computation of unit costs—traditional costing.

(c)

Products Manufacturing Costs Home Model Commercial Model Direct materials Direct labor Overhead Total unit cost $18.50 19.00 * 24.68* $62.18 $26.50 19.00 * 24.68* $70.18

X 1.5 = $24.68

Activity Cost Pool Estimated Overhead ÷ Expected Use of Cost Drivers = Activity-Based Overhead Rate Receiving Forming Assembling Testing Painting Packing and shipping $ 80,400 150,500 412,300 51,000 52,580 837,500 $1,584,280 335,000 Pounds 35,000 Machine hours 217,000 Parts 25,500 Tests 5,258 Gallons 335,000 Pounds $ .24 per pound $ 4.30 per machine hour $ 1.90 per part $ 2.00 per test $10.00 per gallon $ 2.50 per pound

*$16.45

(b)

Home Model Commercial Model Activity Cost Pool Expected Use of Drivers X ActivityBased Overhead Rates = Cost Assigned Expected Use of Drivers X ActivityBased Overhead Rates = Cost Assigned Receiving Forming Assembling Testing Painting Packing and shipping Total costs assigned Units produced (a) (b) 215,000 27,000 165,000 15,500 3,680 215,000 $ .24 $ 4.30 $ 1.90 $ 2.00 $10.00 $ 2.50 $ 51,600 116,100 313,500 31,000 36,800 537,500 $1,086,500 54,000 120,000 8,000 52,000 10,000 1,578 120,000 $ .24 $ 4.30 $ 1.90 $ 2.00 $10.00 $ 2.50 $ 28,800 34,400 98,800 20,000 15,780 300,000 $497,780 10,200 Overhead cost per unit [(a) ÷ (b)] $ 20.12 $ 48.80

Packing

Non-value-added

Value-added

Non-value-added

Value-added

(f) (1) Activity-based costing shows the commercial model absorbs nearly 21/2 ($48.80 ÷ $20.12) times as much overhead per unit as the home model.

(2) The comparison of ABC and traditional costing shows that the proper amount of overhead assigned to the two products is not equal at $24.68 but rather $20.12 for the home model and $48.80 for the commercial model. Under traditional costing, the margin of error on the commercial model was almost 100%, an understatement of $24.12 on an assignment of $24.68. These distorted overhead assignments have likely led to overpricing the home model and underpricing the commercial model.

ABC Manufacturing Costs Home Model Commercial Model Direct materials Direct labor Overhead Total cost per unit $18.50 19.00 20.12 $57.62 $26.50 19.00 48.80 $94.30

(d)

(e)

Activity

Value-

vs.

Non-Value-Added Receiving Forming Assembling Testing Painting

and shipping

PROBLEM 17-2A

(a) The allocation of total manufacturing overhead using activity-based costing is as follows:

(b) The cost per unit and gross profit of each model under ABC costing were:

(c) Management’s future plans for the two television models are not sound. Under ABC costing, the Royale model is $195.10 ($618.60 – $423.50) per unit more profitable than the Majestic model. If any product should be phased out, it is the Majestic. But, by applying ABC and activity-based management analysis, Schultz may determine how to reduce the costs of producing the Majestic model.

Royale Majestic Overhead Rate Drivers Used Cost Assigned Drivers Used Cost Assigned Total Overhead Purchase orders @ $30 Machine setups @ $50 Machine hours @ $40 Inspections @ $25 Total assigned costs (a) Units produced (b) Cost per unit (a) ÷ (b) 17,000 5,000 75,000 11,000 $ 510,000 250,000 3,000,000 275,000 $4,035,000 25,000 $ 161.40 23,000 13,000 45,000 17,000 $ 690,000 650,000 1,800,000 425,000 $3,565,000 10,000 $ 356.50 $1,200,000 900,000 4,800,000 700,000 $7,600,000

Royale Majestic Direct materials Direct

Manufacturing

Total cost per unit Sales price per

Cost per unit Gross profit $ 700.00 120.00 161.40 $ 981.40 $1,600.00 981.40 $ 618.60 $ 420.00 100.00 356.50 $ 876.50 $1,300.00 876.50 $ 423.50

labor

overhead

unit

PROBLEM 17-3A

(a) Predetermined overhead rate using machine hours:

$868,000 ÷ 100,000 hrs. = $8.68 per machine hour

(b) Manufacturing cost per stairway under traditional costing:

Computation of Activity-Based Overhead Rates

Assignment of Overhead to Order of 250 Stairs

Direct materials............................................................... $ 103,600 Direct labor...................................................................... 112,000 Overhead (14,500 X $8.68).............................................. 125,860 Total cost of 250 stairs............................................ $ 341,460 Cost per stairway ($341,460 ÷ 250)................................ $1,365.84

Activity Cost Pools Estimated Overhead ÷ Expected Use of Cost Drivers per Activity = Activity-Based Overhead Rate Purchasing Handling materials Production Setting up machines Inspecting Inventory control Utilities $ 75,000 82,000 210,000 105,000 90,000 126,000 180,000 $868,000 600 Orders 8,000 Moves 100,000 D/L Hours 1,250 Setups 6,000 Inspections 168,000 Components 90,000 Sq. ft. $125 per order $10.25 per move $2.10 per D/L hour $84 per setup $15 per inspection $.75 per component $2.00 per sq. ft.

Activity Cost Pools Expected Use of Cost Drivers X Activity-Based Overhead Rates = Cost Assigned Purchasing Handling materials Production Setting up machines Inspecting Inventory control Utilities 60 Orders 800 Moves 5,000 D/L Hours 100 Setups 450 Inspections 16,000 Components 8,000 Sq. ft. $125 $10.25 $2.10 $84 $15 $.75 $2.00 $ 7,500 8,200 10,500 8,400 6,750 12,000 16,000 Total overhead assigned $69,350

PROBLEM 17-3A (Continued)

(d) The difference between the traditional cost and the activity-based cost per unit, $1,365.84 versus $1,139.80, is not great in amount but $226.04 ($1,365.84 – $1,139.80) is 19.8% of the more correct ABC cost per unit. Activity-based costing is the preferable costing system for setting prices because the real costs are more accurately reflected. The greater accuracy is a result of multiple, more relevant activity cost drivers under ABC than the single cost driver used with the traditional volume-based system.

Total manufacturing

Direct materials...................................................................... $ 103,600 Direct labor............................................................................. 112,000 Overhead................................................................................ 69,350 Total cost of 250 stairs .................................................. $ 284,950 Total cost per stairway ($284,950 ÷ 250).............................. $1,139.80

cost per stairway under ABC:

(a) Computation of unit costs traditional costing

*$7.015 X .05 **$7.015 X .09

PROBLEM 17-4A

cost per direct labor hour is $1,241,660 ÷ (150,000 + 27,000) = $7.015 Products Manufacturing Costs CoolDay LiteMist Direct materials Direct labor Overhead $0.400 0.500 0.351* $1.251 $1.200 0.900 0.631** $2.731

(b) Activity Cost Pools Estimated Overhead ÷ Expected Use of Cost Drivers = Activity-Based Overhead Rates Grape processing Aging Bottling and corking Labeling and boxing Maintain and inspect equipment $ 145,860 396,000 270,000 189,000 240,800 $1,241,660 6,600 6,600,000 900,000 900,000 800 $22.10 per cart $ 0.06 per month $ 0.30 per bottle $ 0.21 per bottle $301 per inspection

CoolDay LiteMist Activity Cost Pools Expected Use of Cost Drivers X ActivityBased Overhead Rates = Cost Assigned Expected Use of Cost Drivers X ActivityBased Overhead Rates = Cost Assigned Grape processing Aging Bottling and corking Labeling and boxing Maintain and inspect equipment Total costs assigned (a) Liters produced (b) Overhead cost per liter [(a) ÷ (b)] 6,000 3,000,000 600,000 600,000 350 $22.10 $ 0.06 $ 0.30 $ 0.21 $301 $132,600 180,000 180,000 126,000 105,350 $723,950 3,000,000 $0.241 600 3,600,000 300,000 300,000 450 $22.10 $ 0.06 $ 0.30 $ 0.21 $301 $ 13,260 216,000 90,000 63,000 135,450 $517,710 300,000 $1.726

Overhead

(c)

(d) Products

(e) To: Mr. Jack Eller

From: Student

Subject: Product costs using traditional approach versus ABC

The memorandum covers the following points:

a. ABC allocates overhead costs as a function of each product’s use of cost drivers. Thus, ABC results in overhead allocation that more closely approximates each product’s generation of overhead costs.

b. Traditional approaches that allocate costs as a function of volume tend to be biased toward allocating too much overhead to high volume, simple products, and too little to low volume, complex products. This is because the actual incurrence of overhead costs is rarely correlated with labor costs.

c. In the case of the Benton Corporation, the LiteMist product required the company to begin using more complex methods and equipment. Overhead costs increased substantially. When overhead costs were allocated using labor rates, too much overhead was allocated to the high volume CoolDay product. This reduced the apparent profitability of this product.

PROBLEM 17-4A (Continued)

Manufacturing Costs CoolDay LiteMist Direct materials Direct labor Overhead $0.400 0.500 0.241 $1.141 $1.200 0.900 1.726 $3.826

PROBLEM 17-5A

(a) Computation of assigned overhead under traditional costing (“direct labor dollars” appears in the first line of the schedule of overhead data):

Predetermined overhead rate X direct labor dollars

Overhead assigned to audit: .40 X $1,100,000 = $440,000

Overhead assigned to tax: .40 X $700,000 = $280,000

(b)

(1)

Computation of activity-based overhead rates:

(2) Assignment of overhead to audit and tax services:

Activity Cost Pools Estimated Overhead ÷ Expected Use of Cost Drivers per Activity = Activity-Based Overhead Rates Employee training Typing and secretarial Computing Facility rental Travel $216,000 76,200 204,000 142,500 81,300 $720,000 $1,800,000 Direct labor dollars 2,500 Reports/forms 60,000 Minutes 40 Employees Direct $.12 per DL dollar $30.48 per report/form $3.40 per minute $3,562.50 per employee Direct

Audit Tax Activity Cost Pools Expected Use of Cost Driver X ActivityBased Overhead Rate = Cost Assigned Expected Use of Cost Driver X ActivityBased Overhead Rate = Cost Assigned Employee training Typing and secretarial Computing Facility rental Travel $1,100,000 800 27,000 22 56,000 $.12 $30.48 $3.40 $3,562.50 Direct $132,000 24,384 91,800 78,375 56,000 $700,000 1,700 33,000 18 25,300 $.12 $30.48 $3.40 $3,562.50 Direct $ 84,000 51,816 112,200 64,125 25,300 Overhead costs assigned $382,559 $337,441

The $57,441 difference for audits is 13% lower under ABC costing, while the $57,441 difference for tax is 20.5% higher under ABC costing. Clearly, ABC costing should be used to determine the relative profitability of each service.

Audit Tax Traditional costing ABC Difference $440,000 382,559 $ 57,441 $280,000 337,441 $ 57,441

CD17 CURRENT DESIGNS

Remaining amount ($832,000) allocated 50% to each product line

Directly

allocated

*Overhead rate = $832,000 ÷ ($234,000 + $286,000) = $160% of direct labor cost

Composite: 160% X $234,000 = 374,400.

**Using overhead rate calculated in* Rotomolded: 160% X $286,000 = $457,600

Composite Rotomolded

(a)

Directly assigned

28,000 $ 40,000

$416,000 $416,000 Total $444,000 $456,000 Number of units 1,000 4,000 Cost assigned per unit $ 444.00 $ 114.00

Composite Rotomolded

(b)

assigned $ 28,000 $ 40,000

$374,400* $457,600** Total $402,400 $497,600 Number of units 1,000 4,000 Cost assigned per unit $ 402.40 $ 124.40

Remaining amount ($832,000)

based on direct labor costs

CD17 (Continued)

(c)

(d) Activity-based costing assigns significantly more costs to the composite kayaks. Since the cost is divided into pools and each pool is allocated using a cost driver that is related to those particular costs, it provides a more accurate way to allocate the costs. Current Designs would need to weigh the additional costs of implementing an ABC system against the benefits that it provides.

Activity Cost Pools Estimated Overhead Expected Use of Cost Drivers Activity-Based Overhead Rates Design $121,100 4 $30,275 per model Prototypes 152,000 8 $19,000 per prototype Molds 188,500 13 $14,500 per mold Supervision 180,000 24 $7,500 per employee Curing time 190,400 17,000 $11.20 per day Activity Cost Pool Composite Rotomolded Expected Use of Drivers Overhead Rates Cost Assigned Expected Use of Drivers Overhead Rates Cost Assigned Design 3 $30,275 $ 90,825 1 $30,275 $ 30,275 Prototypes 6 $19,000 114,000 2 $19,000 38,000 Molds 12 $14,500 174,000 1 $14,500 14,500 Supervision 12 $ 7,500 90,000 12 $ 7,500 90,000 Curing time 15,000 $ 11.20 168,000 2,000 $ 11.20 22,400 Total amount allocated 636,825 195,175 Directly assigned 28,000 40,000 Total cost (a) $664,825 $235,175 Number of units (b) ÷ 1,000 ÷ 4,000 Cost assigned per unit (a) ÷ (b) $ 664.83 $ 58.79

The following activities and cost drivers might be submitted:

(a) Activities

Laundering

Housekeeping

Dietary

Computing information technology

Nursing care

Surgery

Clinical lab

Imaging (X-ray, etc.)

Pharmacy

Emergency room

Maintenance

Billing and collecting

Pounds of linen

(b) Cost Drivers

Square footage; number of beds

Number of meals

Minutes of computer usage; or number of work stations

Number of patients

Number of procedures or operations

Number of tests

Number of images

Number of prescriptions

Number of cases or patients

Square footage

Number of invoices

17-1 DECISION-MAKING ACROSS THE ORGANIZATION

MANAGERIAL ANALYSIS

(a) Computation of activity-based overhead rate:

(b) Charges to in-house manufacturing department:

(c) Charges to outside R & D contractor: Outside Contract Costs

BYP 17-2

Activity Cost Pools Total Estimated Overhead ÷ Expected Use of Cost Drivers Per Activity = Activity-Based Overhead Rates Market analysis Product design Product development Prototype testing $1,050,000 2,350,000 3,600,000 1,400,000 15,000 Hours 2,500 Designs 90 Products 500 Tests $ 70 per hour $ 940 per design $40,000 per product $ 2,800 per test

In-House Manufacturing Department Activity Cost Pools Cost Drivers Used X Activity-Based Overhead Rates = Cost Assigned Market analysis Product design Product development Prototype testing 1,800 Hours 280 Designs 10 Products 92 Tests $ 70 $ 940 $40,000 $ 2,800 $ 126,000 263,200 400,000 257,600 Total overhead assigned $1,046,800

Activity Cost Pools Cost Drivers Used X Activity-Based Overhead Rates = Cost Assigned Market analysis Product design Product development Prototype testing 800 Hours 178 Designs 3 Products 70 Tests $ 70 $ 940 $40,000 $ 2,800 $ 56,000 167,320 120,000 196,000 Total overhead assigned $539,320

(d) Activity-based costing permits the company to identify its R&D costs by the activities that cause the costs; that is, ABC allows closer scrutiny of the causes for cost incurrences; hence, greater control. By charging inhouse manufacturing departments for their fair share of the company’s R&D costs, these departments may exert their own control over such costs. Activity-based costing allows Ideal to compile realistic costs for bidding and charging outside users of its R&D department’s services.

17-42

BYP 17-2 (Continued)

(a) Some of the benefits of ABC for the financial services industry include:

Identification of the most profitable customers

More accurate product and service pricing

Increased product profitability

Well-organized process costs

(b) Three things that the company’s original costing method did not take into account were:

(1) The same servicing and administrative expenses were applied equally to all accounts, including fixed and adjustable rate mortgages.

(2) No consideration was given to “seasoning”, that is, the amount of time a loan had been on the books.

(3) It did not take credit quality into account.

Average number of accounts that were at least 60 days delinquent.

Average number of accounts outstanding.

Average number of bankrupt accounts plus the average number of real estate owned accounts.

BYP 17-3 REAL-WORLD FOCUS

(a) According to the authors, “ABC loses power in large-scale operations, and can be difficult to implement and maintain.” They suggest, though, that ABC should not be abandoned but, rather, improved because it provides many potential benefits.

They cite as benefits that ABC “has helped many companies identify important cost- and profit-enhancement opportunities through repricing of unprofitable customer relationships, process improvement on the shop floor, lower-cost product designs, and rationalized product variety.”

(b) One way to estimate practical capacity is to simply use a rule of thumb, such as practical capacity is 80 to 85% of theoretical capacity. The authors suggest that estimates for people be put at the lower end of the range and for machines at the upper end of the range. A more systematic approach would be to review past activity levels during a month where a high level of orders was processed with a high degree of success.

The authors say that it is not important to be extremely precise, as long as you are within 5 to 10% of the actual number.

(c) After practical capacity is determined in terms of total time available, the cost per unit of time is determined by dividing the total cost of that capacity by the total capacity in units of time. This results in a cost per unit of time. Next, managers determine the amount of time it takes to carry out each type of activity. Then the cost per time unit can be multiplied by the time it takes to perform each activity so that the cost of the activity is determined. This then enables the company to assign costs to the activities performed for specific customers or in making specific products.

(d) One of the primary benefits of the report provided by “ABC, the TimeDriven Way” is that it highlights the difference between capacity supplied and capacity used. This enables management to evaluate its effectiveness in its use of the company’s resources and to evaluate decisions regarding increasing or decreasing capacity.

As an example, the authors discuss the experience of Lewis-Goetz, a hose and belt fabricator. It found that one of its plants was operating at only 27% of capacity. It was able to use this information in making decisions regarding how it planned to meet the production requirements of a very large order it was anticipating for later in the year.

Accounting tools for business decision making 6th edition kimmel noppt sm 1