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Study Objectives
1. Describe the basics of plantwide anddepartmental overhead costing.
2. Explain why plantwide and departmentaloverhead costing may not be accurate.
3. Provide a detailed description of activity-based product costing.
4. Explain how the activity-based costingsystems can be simplified.
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Functional-BasedProduct Costing Model
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Functional-Based Product Costing
Overhead costs are assigned to products usingpredeterm ined overhead rates.
Budgeted BudgetedOverhead = annual annualrate overhead driver level
ActualApplied Overhead= driver overhead rate usage
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Overhead Application:Plantwide Rates
Budgeted overhead $360,000
Expected activity (in direct labor hours) 120,000
Predetermined overhead rate 3.00$
calculator
Currency
translator
Actual activity (in direct labor hours) 40,000 60,000
Predetermined overhead rate $3.00 $3.00
Overhead applied to production $120,000 $180,000
Units produced 80,000 90,000
Overhead per unit $1.50 $2.00
Suncal, Inc.
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Overhead Variances
Overapplied overheadApplied overhead > actual overhead
Underapplied overheadApplied overhead < actual overhead
Disposition of overhead variances
Immaterial: assign to cost of goods sold Material: allocate among inventories and cost
of goods sold
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Overhead Application:Plantwide Rates
calculator
Currency
translator Total
Actual activity (in direct labor hours) 40,000 60,000
Predetermined overhead rate $3.00 $3.00
Overhead applied to production $120,000 $180,000 $300,000Units produced 80,000 90,000
Overhead per unit $1.50 $2.00
Actual overhead 320,000
Underapplied overhead $20,000
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Overhead Application:Departmental Rates
Fabrication Assembly Total
Overhead 280,000$ 80,000$ 360,000$
Direct labor hours:
Pocket calculator 10,000 30,000 40,000
Currency translator 10,000 50,000 60,000Total DL hours 20,000 80,000 100,000
Machine hours:
Pocket calculator 5,000 1,000 6,000
Currency translator 15,000 2,000 17,000
Total machine hours 20,000 3,000 23,000
Application rate 14.00$ 1.00$
per machine
hour
per direct labor
hour
Production Departments
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Overhead Application:Departmental Rates
calculator
Currency
translator
Fabrication:
5,000 hr $14.00 $70,000
15,000 hr $14.00 $210,000Assembly:
30,000 hr $1.00 30,000
50,000 hr $1.00 50,000
$100,000 $260,000
Units produced 80,000 90,000
Overhead per unit $1.25 $2.89
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Limitations of Plantwide andDepartmental Rates
Non-Unit-Related Costs
The use of either plantwide or departmentalrates assumes that the number of units
produced causes overhead costs to increase Some overhead costs are not driven by the
number of units produced
Product Diversity Products consume overhead activities in
different proportions
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Limitations of Plantwide andDepartmental Rates
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Unit Cost Based onPlantwide and Departmental Rates
Scented Regular
PLANT-WIDE RATE
Prime costs 160,000$ 1,500,000$
Overhead costs:
$4.00 20,000 80,000
$4.00 160,000 640,000
Total manufacturing costs 240,000$ 2,140,000$
Units of production 20,000 200,000
Unit cost 12.00$ 10.70$
DEPARTMENTAL RATES
Prime costs 160,000$ 1,500,000$
Overhead costs:
Cutting Department:
$1.35 10,000 13,500$1.35 150,000 202,500
Printing deparment:
$6.30 8,000 50,400
$6.30 72,000 453,600
Total manufacturing costs 223,900$ 2,156,100$
Units of production 20,000 200,000
Unit cost 11.20$ 10.78$
This schedule uses
the data from exhibit4-2 to determine unitcost using departmentoverhead rates basedon labor (cutting) andmachine (printing)
hours.
This schedule usesthe data from exhibit4-2 to determine unitcost using a singleplantwide overhead
rate based on directlabor hours.
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Limitations of Plantwide andDepartmental Rates
Application of overhead using unit-baseddrivers may be inappropriate if
Multiple products are produced
Product diversity exists
Non-unit-level overhead is a significantpercentage of production costs
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Limitations of Plantwide andDepartmental Rates
Scented Regular
ACTIVITY RATES
Prime costs 160,000$ 1,500,000$
Overhead costs:
Setting up:
$2,400 60 144,000
$2,400 40 96,000Machining:
$2.22 10,000 22,200
$2.22 80,000 177,600
Inspecting:
$8.89 2,000 17,780
$8.89 16,000 142,240
Moving materials:$400 180 72,000
$400 120 48,000
Total manufacturing costs 415,980$ 1,963,840$
Units of production 20,000 200,000
Unit cost 20.80$ 9.82$
4 Activities:
SetupCost $240,000
Qty 100MachiningCost $200,000Qty 90,000
InspectingCost $160,000
Qty 18,000Moving materials
Cost $120,000Qty 300
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Design Steps for an ABC System
1. Identify, define, and classify activitiesand key attributes Activity inventorya list of identified
activities Activity definitionfinancial and
nonfinancial descriptions of the activities
Activity classificationprimary and
secondary Activity dictionaryactivity name,
description, driver, and cost objects
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Design Steps for an ABC System
2. Assign the cost of resources to theactivities
Cost of performing each activity
Use both direct and indirect tracing
General ledger costs are unbundled andreassigned
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Design Steps for an ABC System
3. Assign the cost of secondary activities
To those activities that consume theiroutput
Total cost of the secondary activity is thesum of the direct and assigned costs
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Design Steps for an ABC System
4. Identify cost objects and specify theamount of each activity consumed byspecific cost objects
Cost objects are identified Activity drivers are used to measure the
demands placed on activities. Transaction drivers measure demand by
quantity of events Duration drivers measure demand by
elapsed time
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Design Steps for an ABC System
5. Calculate primary activity rates
Budgeted activity costs
Practical activity capacity
6. Assign activity costs to cost objects
Multiply activity rate by activity measure
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Reducing the Size and Complexityof an ABC System
Approximately Relevant ABC Systems
Use only the most expensive activities forABC assignment.
Assign using cause-and-effect drivers
All other activity costs are added to cost poolsof the expensive activities
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Reducing the Size and Complexityof an ABC System
Time-Driven ABC System Overcomes the drawback of traditional ABC
systems: few people report idle or unused
time1) Managers estimatepractical capacity as a
percentage of theoretical capacity
2) Determine a per-time-unit rate
3) Determine the time required for one unit ofactivity
4) Multiply rate by time
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COST MANAGEMENT
Guan Hansen Mowen
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End Chapter 4