1/7/20161rd Activity-Based Costing Key Concepts. Costs Life cycle First Operating & Maintenance...
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Transcript of 1/7/20161rd Activity-Based Costing Key Concepts. Costs Life cycle First Operating & Maintenance...
04/21/2304/21/23 11rdrd
Activity-Based CostingActivity-Based Costing
Key ConceptsKey Concepts
CostsCosts
Life cycleFirstOperating & MaintenanceDisposalSunkFutureOpportunityDirectIndirectOverheadFixedVariable
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Cost Structure for ManufacturingCost Structure for Manufacturing
Direct material
Direct labor Sum is prime costs
Indirect material
Indirect labor Factory overhead
Fixed and miscellaneous Sum is cost of goods made
General and administrative
Selling Sum is cost of good sold
Profit Sum is selling price
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Cost EstimatingCost Estimating
What cost components must be estimated?
First component ~ equipment, delivery, installation insurance, training
Elements – Direct labor and materials, maintenance
What approach to cost estimation will be applied?
Bottom-up, design-to-cost or top-down
How accurate should estimates be?
ROMs ~ 20% of actual costs, Detail 5%
What estimation techniques will be used?
Unit, cost indices, learning curves, capacity, analogy
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Cost EstimationCost Estimation
Cost component
estimates
Cost
Estimates
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Required price Bottom-Up
Top-Down DTCRequired price
Unit MethodUnit Method
CT = U x N
Cost of operating a car (43 cents / mile)
Cost to bury fiber cable ($30K / mile)
Cost to construct a parking space in parking garage $4500
Cost to construct Interstate highway ($6.2 M /mile)
Cost of house construction ($225 /ft2)
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Total Cost EstimateTotal Cost Estimate
Resource Amount, N Unit Cost Factor U
Cost Estimate U x N
Materials 3000 tons $45.90 per ton $137,700
Machinery, tooling 1500 hours $120 per hour 180,000
Labor, casting 3000 hours $ 55 per hour 165,000
Labor, Finishing 1200 hours $ 45 per hour 54,000
Labor, indirect 400 hours $ 75 per hour 30,000
Total cost estimate $566,700
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Cost IndexesCost Indexes
Cost index is a ratio of the cost of something today to its cost sometime in the past.
CPI ~ Consumer Price Index
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Cost CapacityCost Capacity
C2 = C1 (Q2 / Q1)x (It /I0)
The total cost for a digester with a flow rate of ½ MGD was $1.7M in 2000. Estimate the cost for a flow rate of 2 MGD. The cost index in 2000 of 131 is now 225 and the exponent x = 0.14 for the range flow 0.2 to 40 MGD.
C2 = 1,700,000 * (2/0.5)0.14 (225/131)
= $3,546,178.
Component Size Range Exponent
Activated sludge plant 1-100 MGD 0.84
Aerobic digester 0.2-40 MGD 0.14
…. … …
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Cost Estimating RelationshipsCost Estimating Relationships
Factor Method (Hans J. Lang)
CT = h x CE
Total cost = factor times cost of major equipment where h is usually used as 4.
Delivered equipment cost is $1.55M imply a total cost of
4 * $1.55M = $6.2M
Factor method can be broken down into direct and indirect costs. h = 1 + => CT = [CE(1 + )](1 + fd)
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1
n
ii
f
1
n
ii
f
Learning CurveLearning Curve
TN = T1 Nb where N is unit number, T1 is cost or time for first item, TN is the cost or time for the Nth unit and b is the slope of the learning curve in decimal.
b = (Log learning-rate 2) = Ln L / Ln 2
Unit Hours Cumulative (sim-lc 100 10 90) 1 100.00 100.00
2 90.00 190.00
3 84.62 274.62
4 81.00 355.62
5 78.30 433.92
6 76.16 510.08
7 74.39 584.47
8 72.90 657.37
9 71.61 728.98
10 70.47 799.45
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Learning Curve ExampleLearning Curve ExampleTo build 25 FEMA test units took 200 hours for the first one. The direct and indirect labor costs average $50.hour and 80% learning curve is assumed. Estimate the total labor cost for the 25 units. (sim-lc 200 25 80) Unit Hours Cumulative Unit Hours Cumulative
1 200.00 200.00 16 81.92 1784.03
2 160.00 360.00 17 80.34 1864.36
3 140.42 500.42 18 78.87 1943.24
4 128.00 628.42 19 77.51 2020.75
5 119.13 747.55 20 76.24 2096.99
6 112.34 859.88 21 75.05 2172.04
7 106.90 966.78 22 73.94 2245.98
8 102.40 1069.18 23 72.89 2318.87
9 98.59 1167.77 24 71.90 2390.76
10 95.30 1263.07 25 70.96 2461.72 TC = 2461.72 * 50 = $123,086 11 92.42 1355.50
12 89.87 1445.37
13 87.58 1532.95
14 85.52 1618.47
15 83.64 1702.11
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Indirect Cost (Overhead)Indirect Cost (Overhead)Traditional Overhead = Estimated total indirect cost
Estimated basis level
Allocation Basis Indirect Cost Category
Direct labor hours Machine shop, human resources, supervision
Direct labor cost Machine shop, supervision, accounting
Machine hours Utilities, IT network servers
Cost of materials Purchasing, receiving, inspection
Space occupied Taxes, utilities, bldg maintenance
Amount consumed Utilities, food services
Number of items Purchasing, receiving, inspection
Number of accesses Software
Number of inspections Quality assurance
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Blanket RateBlanket Rate
Example
Blanket indirect cost rate = total expected indirect costs
total estimated materials costs
Automated vs. non-automated could cause discrepancy with low value items mixed with high value items resulting in over-accumulating of indirect costs for -lower value items.
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Economic Value Added (EVA)Economic Value Added (EVA)
EVA ~ adding value to the shareholders
looks at the difference between net operating profit and the cost of capital.
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Activity Based Cost (ABC) Accounting Activity Based Cost (ABC) Accounting
Rate sensitive to value added is a production hour rate method.
Using more than one basis led to the ABC method.
Factory costs are the sum of the costs of goods.
Automation advances result in decreased direct hours.
Once 35% to 45% of final cost due to labor; now 5 to 15%
Indirect cost comprise as much as 35% to 45% of total cost
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Four Key ConceptsFour Key Concepts
Activity accounting ~ decomposes into a cause-and-effect rationale of how activities results in outputs
Cost Drivers ~ an event that affects cost/performance of a group of related activities. Number of machine hours, engineering change notices, purchase orders
Direct traceability ~ attributing costs to products or processes that consume resources
Non-value-added costs
ABC identify and place a cost on the activities performed so that management can determine desired changes
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ExampleExampleXYZ makes 2 models Qt = 50K each Model ADirect material cost $2,800,600Direct labor cost $ 350,000Direct labor hours 35,000 $7M Model BDirect material cost $ 1,500,000Direct labor cost $ 250,000Direct labor hours 25,000 $5M
Total Manufacturing overhead costs $12,000,000Traditional (volume-based absorption) costing systemCost rate = Total Overhead Costs / Total Direct Labor Hours
= 12M / 60K hours = $200 per direct labor hour
Allocated overhead 35K hours * $200 = $7M Model A => $10,150,600Allocated overhead 25K hours * $200 = $5M Model B => $6,750,000Total costs for 50K units $10,150,600/50K = $203 A and $135 B
… continued
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Activity-based Costing DataActivity-based Costing DataSix Main Activities for ManufacturingSix Main Activities for Manufacturing
Activity $ Costs Cost Driver Budgeted RateProduction $8M # of machine hrs 200K hoursEngineering 1M # ECO 40K orders Material Handling 1M # of material moves 60K movesReceiving 800K # of batches 500 batchesQuality Assure 800K # of inspections 20K inspectionsPack & Ship 400K # of products 100K products
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ABC Driver Rates for Models A & BABC Driver Rates for Models A & B
Activity Model A Model BProduction 50K hours 150K hoursEngineering 15K orders 25K ordersMaterial Handling 20K moves 40K movesReceiving 150 batches 350 batchesQuality Assurance 6K inspections 14K inspectionsPack & ship 50K products 50K products
EVA ExampleEVA Example
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Firm X Firm Y
Capital Invested $100 $200
Annual Operating Profit $ 25 $ 35
Taxes (40%) $ 10 $ 35
NOPAT (profit after tax) $ 15 $ 21
Cost Capital (12%) $ 12 $ 24
EVA +$3 -$3
Return ob Assets (ROA) 15% 10.5%
Cost of Capital 12% 12%
Difference +3% -1.5%
EVA = Difference x Assets +$3 -$3
NOPAT Net Operating Profit After Taxes
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ABC for XYZABC for XYZ Applied Activity Rate Model A Model B
Production $40/machine hr $2M $6MEngineering $25/ECO $375K $625KMaterial Hand $16.67/move $333,400 $666,600Receiving $1,600/batch $240,000 $560,000QA $40/inspection $240,000 $560,000Pack & Ship $4 / product $200,000 $200,000Total Overhead Costs $3,388,400 $8,611,600Direct material cost $2,800,600 $1.5M Direct labor costs $350,000 $250KTotal costs $6,539K $10,361,600 Cost per unit $130.78 $207.23Cost per unit (traditional) $203 $135
$12M = $3,388,400 + $8,611,600Example: Production consumes 50K + 150K = 200K machine hours. $8M/200K = $40/machine hr.
Activity-based Costing vs. TraditionalActivity-based Costing vs. Traditional(Volume-based absorption VBC)(Volume-based absorption VBC)
Model A Model B
Traditional costing $203.00 $135.00
Activity-based costing $130.78 $207.24
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Model A is less expensive to make than Model B.\
Traditional based cost estimates on Model A being responsible for more overhead costs than B using direct labor hours as its base. In reality Model B incurs more overhead because of difference in number of transactions.
ABC ExampleABC Example
A firm with 4 plants used traditional methods for business travel. See table below. Last year $500K in travel expenses were distributed at a rate of $500K/29,100 = $17.18 / employee. A switch to ABC was considered.
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City Employees Allocation
Paris 12,500 $214,777
Florence 8,600 147,766
Hamburg 4,200 72,165
Athens 3,800 65.292
29,100 $500,000
Travel Voucher BasisTravel Voucher Basis
Plant 1 2 3 4 5 Total
Paris 50 25 75
Florence 80 30 30 140
Hamburg 100 25 20 145
Athens 140 140
Total 230 50 30 20 170 500
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Plant ABC Allocation Traditional Allocation
Paris $75,000 $214,777
Florence 140,000 147,766
Hamburg 145,000 72,165
Athens 140,000 65,292
500,000, 500 = $1000/voucher
ProblemProblem
If the processing cost decreases by a constant 4% every time the output is doubled, the slope parameter of the learning curve is closest to:
a)-0.009 b) -0.059 c) 0.991 d) -1.699
(Log 0.96 2) -0.058894
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ProblemProblem
The cost of a robot is $80K and the cost for one with twice the capacity is $120K. The value of the exponent in the cost-capacity equation is closest to
a)0.51 b) 0.58 c) 0.62 d) 0.69
C2 = C1 (Q2 / Q1)x (It /I0)
120 = 80*2x
x = 0.58496
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ProblemProblem
Delivered equipment costs $650K with direct cost factor 1.82 and indirect cost factor 0.31. The total plant cost estimate is approximately
a) $2,034,500 b) $1,734,500
c) $1,384,500 d) $1,183,000
TC = (1 + 1.82 + 0.31) * 650K = $2,034,500
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ProblemProblem
Police want to allocate indirect cost for speed monitoring of 3 toll roads. An allocation basis that may not be reasonable is
a)Miles of toll road monitored
b)Average number of cars patrolling per hours
c)Amount of car traffic per section of toll road
d) Cost to operate a car.
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ProblemProblem
First one took 24.5 seconds to paint with a 95% learning rate. How long to paint the 10th one?
a)20.7 seconds b) 0.46 seconds
c)2.75 seconds d) 15.5 seconds
T10 = 24.5 * 10 (Log 0.95 2)
= 20.66 sec.
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ProblemProblem
Cost of capital is 12%. Consider the two firms below.
Which seems better? Firm B, but Firm A is better.
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Firm A Firm B
Equity $100 $200
Annual Operating Profit $25 $35
Taxes (40%) $10 $14
Net income $15 $21
Cost of Capital (12%) $12 $24
EVA (economic value added) $3 -$3