nobles finmgr5 ppt_19

Chapter 19Cost

Management Systems:

Activity-Based, Just-In-Time, and

Quality Management

Systems

Learning Objectives

1. Assign direct costs and allocate indirect costs using predetermined overhead allocation rates with single and multiple allocation bases

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Learning Objectives

2. Use activity-based costing (ABC) to compute predetermined overhead allocation rates and allocate indirect costs

3. Use activity-based management (ABM) to make decisions

4. Use activity-based management (ABM) in a service company

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Learning Objectives

5. Describe a just-in-time (JIT) management system and record its transactions

6. Describe quality management systems (QMS) and use the four types of quality costs to make decisions

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Learning Objective 1

Assign direct costs and allocate indirect costs using predetermined overhead allocation rates with single and multiple allocation bases

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How Do Companies Assign and Allocate Costs?

• Product costs consist of direct materials, direct labor, and manufacturing overhead. – Easily traced and assigned to the product:

• Direct materials costs• Direct labor costs

– Allocated to the product:• Manufacturing overhead costs

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Single Plantwide Rate

• A single plantwide rate is called the predetermined overhead allocation rate and is calculated before the period begins.– Traditional approach of allocating

manufacturing overhead– Simplest method– One allocation base is used and applied to all

units

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Single Plantwide Rate

• Predetermined overhead allocation rate formula and example:

• The manufacturing overhead costs can now be allocated to each model by multiplying this rate by the actual direct labor costs incurred.

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Multiple Department Rates

• What if there are two departments with different allocation bases?

• For example: – The overhead allocation base for the

Production Department is machine hours.– The overhead allocation base for the Software

Department is direct labor costs.

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Production Department

• The total estimated overhead costs for the Production Department are $80,000, and the total machine hours are 20,000.

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Software Department

• The estimated overhead costs for the Software Department are $20,000, and direct labor costs are $31,250.

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Total Cost

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Analysis

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Learning Objective 2

Use activity-based costing (ABC) to compute predetermined overhead allocation rates and allocate indirect costs

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How Is an Activity-Based Costing System Developed?

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• Activity based-management (ABM) – Focuses on the primary activities the business

performs – Uses cost information to make decisions that

lead to greater profits • Activity-based costing (ABC) is the process

of determining the cost of the activities as building blocks for allocating indirect costs to products and services.

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How Is an Activity-Based Costing System Developed?

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How Is an Activity-Based Costing System Developed?

Step 1: Identify activities and estimate their total costs.Step 2: Identify the allocation base for each activity and estimate the total quantity of each allocation base.Step 3: Compute the predetermined overhead allocation rate for each activity.Step 4: Allocate indirect costs to the cost object.

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Step 1: Identify Activities and Estimate Their Total Costs

• Identify activities used to allocate manufacturing overhead.

• Examples of activities include:– Quality inspections—inspecting raw materials

or finished products.– Shipping—shipping finished products to

customers– Setups—setting up machines for production– Purchasing—purchasing raw materials

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Step 1: Identify Activities and Estimate Their Total Costs

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Step 2: Identify the Allocation Base for Each Activity and Estimate the Total Quantity of

Each Allocation Base

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• Smart Touch Learning determines that setup, production, and testing are the ABC allocation bases.

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Step 3: Compute the Predetermined Overhead Allocation Rate for Each Activity

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Step 4: Allocate Indirect Costs to the Cost Object

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Traditional Costing Systems Compared with ABC Systems

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Learning Objective 3

Use activity-based management (ABM) to make decisions

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How Can Companies Use Activity-Based Management to Make Decisions?

• Activity-based management (ABM) uses activity-based costs to make decisions that increase profits while meeting customer needs.

• ABM decisions include:– Pricing and product mix – Cost management

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Pricing and Product Mix Decisions

• Pricing decision:• If the cost per unit changes, should the selling

price also change?• Product mix decision:

• Compare the gross profit of two products and sell the product with the greatest gross profit to maximize total gross profit, considering limited production capabilities.

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Cost Management Decisions

• Companies adopt ABC to get more accurate product costs for pricing and product mix decisions.

• Value engineering reevaluates activities to reduce costs while satisfying customer needs.– Cross-functional teams work together,

including marketers, engineers, production personnel, and accountants.

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Cost Management Decisions

• Target pricing:– The target price is the amount customers are

willing to pay for a product or service.– The target cost is the maximum cost to

develop, produce, and deliver the product or service and earn the desired profit.

• Cost-based pricing:– The full product cost is the cost to develop,

produce, and deliver the product or service.– Desired profit is added to this full product cost

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Cost Management Decisions

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Learning Objective 4

Use activity-based management (ABM) in a service company

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Can Activity-Based Management Be Used in Service Companies?

Use the same steps to develop overhead rates used for manufacturing companies:

Step 1: Identify activities and estimate their total costs.Step 2: Identify the allocation base for each activity and estimate the total quantity of each allocation base.Step 3: Compute the predetermined overhead allocation rate for each activity.Step 4: Allocate indirect costs to the cost object.

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Learning Objective 5

Describe a just-in-time (JIT) management system and record its transactions

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How Do Just-In-Time Management Systems Work?

• A just-in-time management system reduces inventory costs. – Raw materials and finished goods are

completed just in time for delivery to customers.

– The cost of buying, storing, and moving inventory can be significant for companies.

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How Do Just-In-Time

Management Systems Work?

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Just-in-Time Costing

• Just-in-time costing is a costing system that simplifies accounting for companies.– Tracks costs after the units are completed– Combines Raw Materials Inventory and Work-

in-Process Inventory into Raw and In-Process Inventory

– The Conversion Costs account combines direct labor and manufacturing overhead costs.

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Just-in-Time Costing

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Recording Transactions in JIT

Transaction 1Smart Touch Learning purchased $305,000 of raw materials on account.

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Recording Transactions in JIT

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Transaction 2Smart Touch Learning incurred $255,000 for labor and overhead.

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Recording Transactions in JIT

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Transaction 3Smart Touch Learning completed 2,000 standard model tablets that it moved to Finished Goods Inventory. The standard cost of each tablet is $276.75, ($150.00 direct materials + $126.75 conversion costs).

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Recording Transactions in JIT

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Transaction 4Smart Touch Learning sold 1,900 tablets on account for $500 each, for a total of $950,000. The cost of goods sold is $525,825 (1,900 tablets × $276.75).

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Recording Transactions in JIT

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Recording Transactions in JIT

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AdjustmentThe actual conversion costs incurred were $255,000. The amount of conversion costs allocated was $253,500. The difference is $1,500.

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Recording Transactions in JIT

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Learning Objective 6

Describe quality management systems (QMS) and use the four types of quality costs to make decisions

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How Do Companies Manage Quality Using a Quality Management System?

• A system that help managers improve the business’s performance by providing quality products and services is called a quality management system.

• The goals of quality management systems are to:– Improve performance– Increase customer satisfaction– Increase profits

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The Four Types of Quality Costs

• Prevention costs: Costs incurred to avoid poor-quality goods or services.

• Appraisal costs: Costs incurred to detect poor-quality materials, goods, or services.

• Internal failure costs: Costs incurred to correct goods or services before delivery to customers.

• External failure costs: Costs incurred after delivery to the customer has occurred.

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The Four Types of Quality Costs

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Quality Improvement Programs

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