Activity-Based Costing, Lean Operations, and the Costs of Quality
description
Transcript of Activity-Based Costing, Lean Operations, and the Costs of Quality
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 1
Activity-Based Costing, Lean Operations, and the
Costs of QualityChapter 4
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 2
Objective 1Develop and use departmental
overhead rates to allocate indirect costs
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 3
Why and How do Companies Refine Their Cost Allocation Systems?
• Why refine?– Mismatching resources– Cost distortion
• Who can refine?– Manufacturing operations– Service companies and governmental agencies
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 4
Plantwide Overhead Rate – example in textbook
• Using one predetermined manufacturing overhead rate for all operations
Predetermined MOH rate =Total estimated manufacturing overhead costsTotal estimated amount of the allocation base
Predetermined MOH rate =$1,000,00062,500 DL hours
= $16 per DL hour
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 5
Plantwide Overhead Rate
• Using one predetermined manufacturing overhead rate to allocate MOH to units
Plantwide Overhead Rate
Actual Use of Allocation Base
MOH Allocated to
One Unit
Elliptical ×$16 per DL hour 10 DL hours = $160
Treadmill ×$16 per DL hour 10 DL hours = $160
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 6
Departmental Overhead Rates
• Separate predetermined manufacturing overhead rates for each department
Manufacturing Plant with $1,000,000 of total estimated MOH and 2 departments
Machining Department($400,000 of MOH)
Assembly Department($600,000 of MOH)
$400,000 ÷ departmental allocation base yields a MOH rate for this department
ONLY
$600,000 ÷ departmental allocation base yields a MOH rate for this department
ONLY
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 7
Departmental Overhead Rates
• When to use– Departments incur different amounts and types
of MOH
– Different jobs or products use the department resources to a different extent
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
Departmental Overhead Rates – Example on pages 182 - 187
DepartmentTotal Departmental
Manufacturing Overhead Costs
Total Departmental Labor Hours
Departmental Overhead Rate
Machining $400,000 12,500 hrs
Assembly $600,000 50,000 hrs
TOTAL $1,000,000
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
Departmental Overhead Rates – Example on pages 182 - 187
DepartmentTotal Departmental
Manufacturing Overhead Costs
Total Departmental Labor Hours
Departmental Overhead Rate
Machining $400,000 12,500 hrs $400,000/12,500 = $32/DLH
Assembly $600,000 50,000 hrs $600,000/50,000 = $12/DLH
TOTAL $1,000,000
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
Departmental Overhead Rates Example -Exhibit 4-8 (p.186) – Ellipticals
Department Departmental Overhead Rate
Actual Use of Departmental
Allocation Base
MOH Allocated to One
Elliptical
Machining $32 per DL hour × 1 DL hours =
Assembly $12 per DL hour × 9 DL hours =
Total
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
Departmental Overhead Rates Example -Exhibit 4-8 (p.186) – Ellipticals
Department Departmental Overhead Rate
Actual Use of Departmental
Allocation Base
MOH Allocated to One
Elliptical
Machining $32 per DL hour × 1 DL hours = $32
Assembly $12 per DL hour × 9 DL hours = 108
Total $140
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
Departmental Overhead Rates Example - Exhibit 4-9 (p.186) - Treadmills
Department Departmental Overhead Rate
Actual Use of Departmental
Allocation Base
MOH Allocated to
OneTreadmill
Machining $32 per DL hour × 4DL hours =
Assembly $12 per DL hour × 6DL hours =
Total
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
Departmental Overhead Rates Example - Exhibit 4-9 (p.186) - Treadmills
Department Departmental Overhead Rate
Actual Use of Departmental
Allocation Base
MOH Allocated to
OneTreadmill
Machining $32 per DL hour × 4DL hours = $128
Assembly $12 per DL hour × 6DL hours = 72
Total $200
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
Departmental Overhead Rates Example - Exhibit 4-11 (p.187)
PlantwideOverhead RateMOH Allocation
(from Exhibit 4-2)
Departmental Overhead Rates MOH
Allocation(from Exhibit 4-10)
Amount of Cost Distortion
Elliptical $ 160 $ 140 $20 overcosted
Treadmill $ 160 $ 200 $40 undercosted
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
Now turn to S4-3
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 16
S4-3 - Compute Departmental Overhead Rates
1. What is Gerbig’s plantwide overhead rate?
$3,762,000 manufacturing overhead 17,100 machine hours
= $220 per machine hour
Total estimated manufacturing overhead costsTotal estimated amount of the allocation base
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 17
S4-3 (cont.)
2. Calculate the departmental overhead rates for Gerbig’s three production lines. Round all answers to the nearest cent.
Department Overhead Cost Machine Hours Overhead Rate
Potato chips $2,147,000 11,300 MH
Corn chips $959,000 2,600 MH
Cheese puffs $ 656,000 3,200 MH
$190.00
$368.85
$205.00
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 18
S4-3 (cont.)3. Which products had been overcosted by the plantwide
rate? Which products had been undercosted by the plantwide rate?
Plantwide Rate = $220.00 per machine hour
Departmental Rate:Potato Chips = $190.00 OvercostedCorn Chips = 368.85 UndercostedCheese Puffs = 205.00 Overcosted
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 19
Objective 2Develop and use activity-based costing
(ABC) to allocate indirect costs
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 20
Activity-Based Costing
• Allocates indirect costs to production• Focuses on activities and costs of activities• Separate allocation rate for each activity
Manufacturing Activities
Machine Setup
MaterialsHandling
FabricatingParts
SupervisingAssembly
InspectingProducts
PackagingProducts
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 21
Activity MOH Costs for the Activity Total Activity Cost Pool
Machine Setup Indirect labor to set up machines $80,000
Materials Handling Forklifts, gas, operators’ wages 200,000
Fabricating Parts Machine lease payments, electricity, repairs 300,000
Supervising Assembly Production engineers’ labor 150,000
Inspecting Testing equipment, inspection labor 170,000
Packaging Packaging equipment 100,000
$1,000,000
Activity-Based Costing StepsStep 1: Identify and estimate indirect costs
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 22
Activity-Based Costing StepsStep 2: Select an allocation base for each activity
Activity Allocation base Total Cost Pool
Total Estimated Amount of Allocation Base
Machine Setup Number of setups $80,000 8,000 setups
Materials Handling Number of parts moved 200,000 400,000 parts
Fabricating Parts Machine hours 300,000 12,500 machine hours (MH)
Supervising Assembly Direct labor hours 150,000 DL hours
Inspecting Number of inspections 170,000 Inspections
Packaging Cubic feet packaged 100,000 Cubic feet
$1,000,000
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 23
Activity-Based Costing StepsStep 3: Compute cost allocation rate for each activity
Activity Allocation base Total Cost Pool Cost Allocation Rate
Machine Set-up Number of set-ups $80,000 $80,000 / 8000 = $10 per setup
Materials Handling Number of parts moved 200,000 200,000/ 400,000 = $0.50 per
part
Fabricating Parts Machine hours 300,000 300,000/ 12,500 = $24 per MH
Supervising Assembly Direct labor hours 150,000 150,000 / 50,000 = $3 per DLH
Inspecting Number of inspections 170,000 170,000 / 34,000 = $5 per inspection
Packaging Cubic feet packaged 100,000 100,000 / 400,000 =$0.25 per cubic foot
1,000,000
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 24
Step 4: Allocate some manufacturing overhead for each activity to the individual jobs that use the activities.
Activity-Based Costing StepsInfo for 1 Elliptical
Activity Activity Cost
Allocation Rate
Actual Use of Activity Allocation Base (collected
on job)
MOH Allocated to One object
Machine Setup $10 per setup × 2 setups = $20
Materials Handling $0.50 per part × 20 parts = 10
Fabricating $24 per machine hour × 1 machine hour = 24
Supervising Assembly $3 per DL hour × 9 DL hours = 27
Inspecting $5 per inspection × 3 inspections = 15
Packaging $0.25 per cubic foot × 52 cubic feet = 13
Total $109
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 25
Step 4: Allocate some manufacturing overhead for each activity to the individual jobs that use the activities.
Activity-Based Costing StepsInfo for 1 Treadmill
Activity Activity Cost
Allocation Rate
Actual Use of Activity Allocation Base (collected
on job)
MOH Allocated to One object
Machine Setup $10 per setup × 4 setups = $40
Materials Handling $0.50 per part × 26 parts = 13
Fabricating $24 per machine hour × 4 machine hour = 96
Supervising Assembly $3 per DL hour × 6 DL hours = 18
Inspecting $5 per inspection × 6 inspections = 30
Packaging $0.25 per cubic foot × 60 cubic feet = 15
Total $212
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
Examples of Cost Drivers
Activities: Cost Drivers:
Material purchasing # of purchase orders
Material handling # of parts
Production scheduling # of batches
Quality inspections # of inspections
Photocopying # of pages copied
Warranty service # of service calls
26
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 27
Now turn to E4-36B ABC Example
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 28
E4-36B ABC Example
Step 1: Identify each activity and estimate the total indirect costs of each activity.– Material handling $6,400– Machine setup $9,000– Insertion of parts $54,400– Finishing $89,700
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
E4-36B Example (cont.)
Step 2: Select an allocation base for each activity and estimate the total that will be used during the year.
ActivityTotal Est.
CostEst. Quant. of Cost Allocation
Base Mat. handling $6,400 ÷ 3,200 partsMachine setups $9,000 ÷ 25 setupsInsertion of parts $54,400 ÷ 3,200 partsFinishing $89,700 ÷ 2,300 hrs
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
E4-36B Example (cont.)
Step 3. Compute cost allocation rate for each. activityActivity Total Est.
CostEst. Quant. of Cost
Allocation Base Allocation
Rate
Mat. handling $6,400 ÷ 3,200 parts
Machine setups 9,000 ÷ 25 setups
Insertion of parts 54,400 ÷ 3,200 parts
Finishing 89,700 ÷ 2,300 hrs
$ 2.00/part
$360.00/setup
$17.00/part$39.00/hr
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 31
E4-36B Example (cont.)Step 4. Allocate some manufacturing overhead from each activity
to the individual jobs that use the activities.Job 420
Material handling 250 parts $ 2.00 $ 500
Machine setup 3 setups 360.00 1,080
Insertion of parts 250 parts 17.00 4,250
Finishing 130 finishing hours 39.00 5,070
Total $10,900
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 32
E4-36B Example (cont.)Step 4. Allocate some manufacturing overhead from each activity
to the individual jobs that use the activities.Job 420
Material handling 250 parts $ 2.00 $ 500
Machine setup 3 setups 360.00 1080
Insertion of parts 250 parts 17.00 4,250
Finishing 130 finishing hours 39.00 5,070
Total $10,900
Job 510
Material handling 425 parts $ 2.00 $850Machine setup 6 setups 360.00 2,160Insertion of parts 425 parts 17.00 7,225Finishing 320 finishing hours 39.00 12,480
Total $22,715
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 33
Cost Hierarchy
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 34
Now turn to S4-9
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 35
S4-9 Classifying Costs Within the Cost Hierarchy
1. Each container is cut from the mold once the plastic has cooled and hardened.
2. Patents are obtained for each new type of container mold.
3. Plastic resins are used as the main direct material for the containers.
4. A plant manager oversees the entire manufacturing operation.
5. The sales force incurs travel expenses to attend various trade shows throughout the country to market the containers.
Unit-level
Unit-level
Product-level
Facility-level
Facility-level
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 36
S4-9 (cont.)6. Each container product line has a product
line manager.7. The extrusion machine is calibrated for
each batch of containers made.8. Each type of container has its own
unique molds.9. Routine maintenance is performed on
the extrusion machines10. Rent is paid for the building that houses
the manufacturing processes.Facility-level
Facility-level
Product-level
Product-level
Batch-level
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 37
Objective 3Understand the benefits and limitations
of ABC/ABM systems
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 38
Activity-Based Management (ABM)
• Using ABC information to make decisions– Pricing and product mix– Cost cutting– Planning and control
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 39
Pricing and Product Mix Decisions
• Change the prices for products after identifying the different total cost
• Decide to market the higher profitability product
• Shift the product mix away from less-profitable products
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 40
Cutting Costs
• Analyze costs in value chain– Value-added activities– Non–value-added activities
• Value-added vs. non–value-added
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 41
Planning and Control Decisions
• Uses the costs of activities to create budgets
• Compare with actual activities to see if goals are being met
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 42
Using ABC Outside of Manufacturing
• Merchandising and service: find the most profitable product or service
• Manufacturers: allocate operating activities
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 43
Sustainability and Refined Costing Systems
• Environmental overhead should be allocated to different activities that drive their costs.
• Creates better transparency
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 44
Cost Benefit Test• Do the benefits of adopting ABC/ABM exceed the costs?
• Benefits are higher for companies in competitive markets:– Accurate product cost information is essential– ABM can pinpoint cost savings opportunities
• Benefits are higher when risk of cost distortion high:– Many different products, many different types/amounts of
resources– High indirect costs– High- and low-volume products
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 45
Costs of Adopting ABC
• Generally lower with– Accounting and information system expertise to
develop the system– Information technology
• Are companies glad they adopted ABC?– 89% of the companies say that it was worth the cost – Not a cure-all, helps managers understand costs
better
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 46
Signs the Old System May Be Distorting Costs
• Cost system may need repair when– Managers don’t understand costs and profits– Bids are lost when expected to win– Win bids expected to lose– Competitors price similar products much higher or
much lower• The cost system may be outdated if there is a
diversified product line
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 47
Objective 4Describe lean operations
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 48
Traditional Production Systems
• Keep large inventories on hand
• Problems:– Storage cost– Hide quality– Bottlenecks and obsolete products
• Solution: Lean Productions System
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 49
Lean Thinking
• Philosophy and a business strategy
• Primary goal: eliminate waste and cost
• Focus of JIT– Purchase raw materials just in time for production– Finish goods just in time for delivery
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 50
Lean Production/Just-in-Time
• Common characteristics of Just-in-Time (JIT)– Production occurs in self-contained cells– Broad employee roles– Small batches produced just in time –
“demand-pull system”– Shortened setup times– Shortened manufacturing cycle times– Emphasis on quality– Supply-chain management
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 51
Drawbacks to Lean Production Systems
• Vulnerable when problems strike suppliers or distributors
• Examples– Delays in delivery – Personnel problems – union strikes– Shortage of parts due to recalled products– Weather related issues
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 52
Sustainability and Lean Thinking
• Both seek to reduce waste• Lean focus on internal• Green focus on external• Lean and Green
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 53
Objective 5Describe and use the cost of quality
framework
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 54
Total Quality Management
• Goal: Provide customers with superior products and services
• Continuous improvement
• More investment up front to generate savings in the back end of the value chain
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 55
Four Types of Quality Costs
1. Prevention costs – avoid poor quality goods or services – Employee training– Improved materials– Preventive maintenance
2. Appraisal costs – detect poor quality goods or services– Inspection throughout production– Inspection of final product– Product testing
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 56
Four Types of Quality Costs (cont.)
3. Internal failure costs – avoid poor quality goods or services before delivery to customers– Production loss caused by downtime– Rejected product units
4. External failure costs – incurred after defective product is delivered– Lost profits from lost customers– Warranty costs– Service costs at customer sites– Sales returns due to quality problems
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 57
Non-Manufacturing Costs of Quality
• Service firms and merchandising companies also incur costs of quality
• Prevention– Professional training to their staff – Develop standardized service checklists
• Appraisal costs – Review work continuously– Inspect before releasing
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 58
Cost of Quality Report
• Identifies, categorizes, and quantifies all of the costs it incurs relating to quality.
• Calculate the percentage of total costs of quality that are incurred in each cost category
• Use as a framework for decisionsPrevention
Costs Appraisal
Costs
Internal Failure Costs
External Failure Costs
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 59
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 60
Now turn to E4-34A
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 61
E4-34A
Prevention costs– Training employees in TQM– Training suppliers in TQM– Identifying preferred suppliers who commit to
on-time delivery of perfect quality materials
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 62
E4-34A (cont.)
Appraisal costs– Strength testing one item from each batch
of panels – Avoid inspection of raw materials
Internal failure costs– Avoid rework and spoilage
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 63
E4-34 (cont.)
External failure costs– Avoid lost profits from lost sales due to
disappointed customers– Avoid warranty costs
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
E4-34A (cont.)Costs of Adopting New Quality Program:
Prevention costs:Training employees in TQM $ 29,000Training suppliers in TQM 33,000Identifying preferred suppliers 59,000
Appraisal costs:Strength testing 64,000
Savings on inspection of raw materials (51,000)
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
E4-34A (cont.)Quality report (continued from prior slide):
Internal failure costs: Savings on rework and spoilage (65,000)
External failure costs:Savings on formerly lost profits (92,000)Savings on warranty costs (16,000)
Net (Benefit) ($39,000)
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall.
End of Chapter 4
66