Activity Based Cost accounting system - Math Problem Example

TEST I Activity Based Costing encourages managers to watch activities or functions that are value added . These are operational acts that help identify the activities or functions that get customers. Management should study cost drivers in decision making. In this case study, the supporting excel computations show that overhead using the traditional cost accounting procedure resulted only P137,994.00 for Lever, P22,079.04 for Spring, and finally P 16,559.28 for pump products. Total manufacturing cost also under the traditional or old fashioned cost accounting procedure resulted to the usual Direct Materials cost of the products P 510,000.00 for Lever, P163,200.00 for Spring, and P 139,200.00 for Pump. Another accounting cost for resulting from the Traditional Cost Accounting procedure is the Regular item Direct labor of P 2,160,000.00 for Lever, P163,200.00 for Spring and again P16,560.00 for Pump. The total manufacturing cost under the Traditional method is the sum of Direct Materials, Direct labor and Overhead. P2,807,994.00 for Lever, P348,479.04 for Spring, and finally P 172,319.28 for pump products. Under the Activity Based Costing, The first cost driver is called VOLUME DRIVER showing amount of P 286,000.00 for Lever, P45,760.00 for Spring and P 34,320.00 for Pump. Another driver in this systems is the PURCHASING DRIVER. The purchasing cost for Lever products is P 14,810,000.00 and P2,369,600 for Spring and, the last item, P 1,777,200.00 for Pump. The next driver is the SET UP driver. Set up driver cost are P 38,533,000.00 and P 6,165,280.00 for Spring and of course P 4,623,960.00 for the last item, Pump. The cost drivers are higher than the total manufacturing cost of the traditional cost accounting system. In this new system, the cost factors can easily be traced to determine what the effects of these costs are to over all manufacturing operations. Some cost activities that will not help in the manufacturing process but sometimes, their costs are included in the factory cost of production in error. The Purchasing cost driver will display if the inventory cost is too high or too low or even unnoticed thus affecting the decision making process of management. Traditional Cost Accounting Direct Materials Lever (100,000 x $5.10) 510,000.00 510,000.00 Spring (16,000 x $10.20) 163,200.00 163,200.00 Pump ( 12,000 x $ 11.60) 139,200.00 139,200.00 Direct Labour Lever (100,000 x $21.60) 2,160,000.00 2,160,000.00 Spring (16,000 x $10.20) 163,200.00 163,200.00 Pump ( 12,000 x $ 8.20 ) 16,560.00 16,560.00 Overhead Cost Lever (100,000 x$1.37994) 137,994.00 137,994.00 Spring (16,000 x $ 1.37994) 22,079.04 22,079.04 Pump ( 12,000 x $ 1.37994) 16,559.28 16,559.28 Total Manufacturing Cost 2,807,994.00 348,479.04 172,319.28 3,328,792.32 Activity Based Costing Volume (P583,500 / 204,000) 2.86 Purchasing ( P164,100/1,108) 148.10 Set -up ( 256,630/666) 385.33 Volume Lever (100,000 x$ 2.86) 286,000.00 286,000.00 Spring ( 16,000 x $2.86 45,760.00 45,760.00 Pump ( 12,000 x $ 2.86) 34,320.00 34,320.00 Purchasing Lever ( 100,000 x $148.10) 14,810,000.00 14,810,000.00 Spring (16,000 x $148.10) 2,369,600.00 2,369,600.00 Pump (12,000 x $148.10) 1,777,200.00 1,777,200.00 Set up Lever (100,000 x $385.33) 38,533,000.00 38,533,000.00 Spring (16,000 x $ 385.33) 6,165,280.00 6,165,280.00 Pump (12,000 x $ 385.33) 4,623,960.00 4,623,960.00 Total Overhead per product 53,629,000.00 8,580,640.00 6,435,480.00 68,645,120.00 Overhead Cost Lever (100,000 x$1.38) 138,000.00 138,000.00 Spring (16,000 x $ 1.38 22,080.00 22,080.00 Pump ( 12,000 x $ 1.38 16,560.00 16,560.00 Total Overhead per product 53,629,000.00 8,580,640.00 6,435,480.00 68,645,120.00 Task II The other reason for implementing the new Activity Based Costing is due to the reason that some costs are included as factory costs that should not be there in the first place. Examples are spoilages. These spoilages could have been avoided if proper protection of company assets are infused into the factory system. If workers are encouraged or change their attitude to work better, than the wasted cost will be better. By monitoring the actual hours worked in making products we will know if the employees are too lax or even to the point of lazy in their assigned tasks. The table below shows that purchase orders and setup costs and as well as volume or machine hours are gathered and reported to management. There are other costs that should be included in the manufacturing dept balance sheet. Example is the entertainment expenses of when visitors visit the plant area. These are charged to overhead in the hope that the future customers will buy the products manufactured. The electricity costs and other wasted costs like poor quality of materials or too much spoilage, breakage or accidents should be included in the factory costs. These ought to be charged to expenses due to lack of training or care for the company's precious and scarce resources. The company will benefit from the increase of expenses. The more expenses you will include in your report, the better it is for decision making. The purchase orders of TTT are 200 for Level, 480 for Spring and 428 for Pump. The volume or total machine hours is 100,000 for Lever, 32,000.00 for Spring, and 72,000 for Pump. Unit Cost Lever Spring Pump Total Machine Hours/Unit 1.0 2.0 6.0 Direct labour hours/unit 6.5 3.0 2.5 Units /produced 100,000.00 16,000.00 12,000.00 128,000.00 Volume (total machine hours) 100,000.00 32,000.00 72,000.00 204,000.00 Total Direct Labour Hours 650,000.00 48,000.00 30,000.00 728,000.00 No of purchase order 200.00 480.00 428.00 1,108.00 No. of set ups 124.00 200.00 342.00 666.00 Overhead cost: Volume (Machine hours ) related 583,500.00 Set up related 256,630.00 Purchasing related 164,100.00 Total Overhead Costs 1,004,230.00 Overhead rate ( Total overhead cost / Total direct labor hours) 1.37944 It is noticed, in the above excel computations, that Lever is the most number of products being produced. It is produced at 100,000 units. spring and pump are produced monthly at 16,000 units for Spring and 12,000 to Pump. The total overhead cost is P1,004,230.00. The cost is only secondary in the matter at hand. What is recommended here is the complex activity of seeing to it that costs are spend wisely. We must also see that cost should always spend wise only. Overhead rate is computed by dividing total overhead cost by total direct labor cost. The case being studied states that Volume is $2.86. Another driver is purchasing cost. The purchasing cost for all three products is $148.10. Another item of special significance is Set up cost. Set up cost in our case study comes up at $385.33. It is also notice that more hours are used to produce Lever. Part III The other factors in analyzing costs in the Activity Based Cost accounting system is the Value Added cost of giving promos and entertaining customers so our sales will increase.. Increasing such cost will also increase the sales of the company. The quality of work done by the workers and quality of the materials used by the workers in the factory front lines will increase the sales at a small expense. Activity based costing focuses as a priority, on the indirect costs and the overhead costs. It is a more accurate method of costing than the traditional cost accounting system.(www.pitt.edu). Activity Based Costing is an accounting technique that helps a company compute for the actual costs of each product and service that goes out of the organization and into the hands of the customers. This results in more effective business decision making since there are more costs to study and forecast and even discover why such costs act in such a way. (www.faa.gov.) When Medical process will result in knowing how much it costs to give services, the Medical services can be make very good decisions on whether increases its expenses or no to add promotional activities so there will more clients to be medically checked by the health care service doctors. Activity based costing uses several techniques in its medical practice by investing some costs in such activities. Cost accounting can be transformed thru the following methods. First the cash basis and other accounting books not following the generally accepted accounting principles will be changed. The currently approved accounting system is the accrual basis of accounting. In this method, Income is recorded when earned or your job was done. The future payment is recorded as receivable when earned. The next step is to identify the cost centers involved. Cost center generally means that each department generates its own income and pays its own expenses. The advantage of this, like the costing we use in this case, is that heads of the many departments can now move to fulfill their company's goals of reducing costs. The Last step is to determine the cost accounting procedures that will help management do better in its business decisions. ( www.managedcaremag.com) Activity Based Costing when implemented must be given to the other employees so they will not resist the application for the new costing system. The employees are involved in this matter for they fall indirect and direct labor costs. The employees will be taught the value of better work attitudes, such as having the customer first in mind, so there will be increase in customers. The customers will increase, if the service you showed to clients is up to par to their expectations. (www.valuebasedmanagement.net). The employees will be taught that a standard will be set for everyone to follow. The actual performances, then will be compared to the standards they agreed upon. The main purpose to find out what factory expenses could be eliminated or decreased. Activity based costing is a costing model that assigns cost to manufacture products based on the many events or transactions in the daily process of service the customer with a smile.(www.superfactory.com) The procedures in making the products could be studied so that there will be suggestions and implementation of newer and better steps in the processing of goods and resulting in lesser cost and also better quality products. Additional cost of giving incentives, awards and salary increases to employees who excel and those who show big improvements in their assigned jobs. Activity based costing aids the supervisors monitor how their subordinates work and thus result in better monitoring of employees who not working in accordance with company standards. CITATIONS http://www.pitt.edu/roztocki/abc/abctutor/sld014.htm http://www.faa.gov/ait/bpi/handbook/chap5.htm http://www.valuebasedmanagement.net/methods_abc.html http://www.managedcaremag.com/archives/9705/9705.accounting.shtml http://www.superfactory.com/Community/BestPractices/ABC/default.aspx Read More