Describe A Difference Between Traditional C

Describe A Difference Between Traditional C

Acct 211 Summer 2014 Final 1. Describe a difference between traditional cost systems and ABC cost systems. 2. Match the activities to the appropriate level they are grouped in: 1. processing purchase orders 2. design new products 3. hire a new employee 4. process a unit in the manufacturing process a. organization sustaining b. unit level c. product level d. batch level 3. Apex’s ABC activity information is as follows: total cost total activity activity rate customer orders 315, orders product design 257, designs order size 380, machine hours customer relations 367, customers other 490,500 n/a Compute the activity rate for all applicable activities above. 4. Apex manufactures 2 models of sailboats, the standard and the deluxe. standard boat activity rate activity ABC cost allocation customer order 2 orders product design 0 designs order size 200 machine hours customer relations n/a deluxe boat activity customer order 1 orders product design 1 designs order size 100 machine hours customer relations n/a Use the activity rate from above in #4 in the activity rate column. Compute the ABC cost allocation above. 5. What are 2 advantages of budgeting? 6. Why is self-imposed budgeting better than budgets that are just imposed from top management down? 7. The _________________ budget should always be prepared first. 8. List 3 different types of budgets. 9. True or False – managers should be punished for missing a budget target. 10. Why is it important to identify only the relevant costs when making decisions? 11. Sherri is going to Chicago to see her friend Ryan. She is trying to decide which is cheaper, driving or riding the train. Following is a list of costs that Sherri has compiled in relation to the trip. Identify which costs are relevant (R). · _________ Annual straight line depreciation on the car · _________ Cost of gasoline · _________ Annual cost of auto insurance and license fee · _________ Maintenance and repairs · _________ Parking fees at home · _________ Cost of train ticket · _________ Reduction in resale value of car due to mileage used and wear and tear · _________ Cost of putting dog in kennel while she is gone · _________ Cost of parking car in Chicago 12. Austin LTD. Manufactures a component that is used in the fans it produces. A supplier has offered to supply the component for $25 per part. The annual requirements of Austin are 20,000 components. Austin’s cost detail of manufacturing the component is as follows: per unit direct materials $9 direct labor $5 variable overhead $1 depreciation of equipment $3 supervisor's salary $2 general factory overhead $10 total $30. It was determined that the special equipment has no resale value and cannot be used for another process. The factory overhead is an allocation and would be unaffected by the decision. The costs above are based on the same 20,000 units that the supplier would supply. Should Austin continue to manufacture the component or purchase it from the outside supplier? 13. Mountain Goat Cycles has just received a request from the Seattle Police Department to produce 100 specially modified mountain bikes at $179 each. Mountain Goat Cycles can easily modify its City Cruiser model to fit the specifications of the Seattle Police Department. The normal selling price of the City Cruiser bike is $249 and its unit product cost is $182 as shown below: Direct Materials $86 Direct Labor $45 Manufacturing Overhead $51 Total Unit Product Cost $182 The variable portion of the above manufacturing overhead is $6 per unit. The order would have no effect on the company’s total fixed manufacturing overhead costs. The special modifications requested by the Seattle Police Department would require $17 per unit incremental variable costs. In addition, the company would have to pay a graphics design studio $1,200 to design and cut stencils that would be used for painting the Police Department’s logo on the bikes. Currently, Mountain Goat Cycles is not operating at capacity. a. Should Mountain Goat Cycles accept the special order? b. Show your calculations to show what effect the order will have on net income. c. Would it make a difference if Mountain Goat Cycles was operating at capacity? Why or why not? 14. The financial information for Chase drug store by business line is as follows: total drugs cosmetics housewares sales $250,000 $125,000 $75,000 $50,000 variable expenses $105,000 $50,000 $25,000 $30,000 contribution margin $145,000 $75,000 $50,000 $20,000 fixed expenses salaries $50,000 $29,500 $12,500 $8,000 advertising $15,000 $1,000 $7,500 $6,500 utilities $2,000 $500 $500 $1,000 depreciation $5,000 $1,000 $2,000 $2,000 rent $20,000 $10,000 $6,000 $4,000 insurance $3,000 $2,000 $500 $500 general administrative $30,000 $15,000 $9,000 $6,000 total $125,000 $59,000 $38,000 $28,000 net income/ loss $20,000 $16,000 $12,000 -$8,000 It was determined that the associated salaries, advertising and insurance would all be eliminated if Chase drops the housewares segment. The utilities, depreciation, rent and general and administrative fees are all allocations. Chase is currently deciding whether the company would benefit overall if the housewares business line was dropped completely, since it is losing money consistently each month. Using what you know about avoidable and unavoidable costs, advise Chase as their outside consultant as to which is the better business decision. (Support your work with numbers.) 15. John Boy Lumber cuts logs to create 2 immediate joint products, lumber and sawdust. Unfinished lumber can be sold as is for $140 or processed further at a sales price of $270. Sawdust can be sold as is for $40 or processed further for a sales price of $50. There are joint product costs (costs up to the split off point) allocated to each of the products – $176 for lumber and $24 for sawdust. The cost of further processing is $40 for lumber and $20 for sawdust. a. Should John Boy Lumber process lumber further or sell the unfinished lumber as is? b. Should John Boy Lumber process the sawdust further or sell it as is? 16. There are 2 types of capital budgeting decisions, screening decisions and preference decisions. What is the difference between the two? 17. What is the concept of the time value of money? 18. Why do companies have hurdle rates (or required rates of return)? 19. What is the cost of capital and why is it used as the hurdle rate for companies? 20. How are flexible budgets more helpful vs. static or planning budgets? 21. Warrior Company needs a new processing machine. The company is considering 2 different machines: machine 0178 and machine 2216. Machine 0178 costs $20,000 and will reduce operating costs by $5,000 per year. Machine 2216 costs $15,000 and reduces operating costs by $3,000 per year. Compute the payback for each machine and determine which should be selected using the payback method. 22. Westerville Services Company, a division of a golf holding company, provides various services to operators of golf courses in Columbus, Ohio. Select financial information concerning the most recent year appears below: Sales $10,000,000 Net income $3,000,000 Average operating assets $20,000,000. Ignore the impact of income taxes on your calculation. Compute the return on investment (ROI) for Westerville Services Company. 23. Ohio Golf Inc. specializes in managing and developing golf course communities in Ohio and surrounding states. In the most recent year, the company had a net operating income of $2,000,000 on sales of $10,000,000. The company’s average operating assets for the year were $12,000,000 and its minimum required rate of return is 15% based on the company’s cost of capital. Ignore the impact of income taxes on your calculation. Compute the company’s residual income for the year. 24. Why is it helpful to evaluate residual income when determining performance and not just focus on ROI? 25. What is target costing? How does it differ from cost plus pricing? 26. What is decentralization? Describe 2 benefits of decentralizing. 27. What are the 4 perspectives of the balanced scorecard? 28. Why is it important to focus on lead indicators as well as lag indicators?

Paper For Above instruction

Introduction

Accounting systems form the backbone of managerial decision-making and cost management within an organization. Traditional cost systems and Activity-Based Costing (ABC) are two prominent methods utilized to allocate costs, each with distinctive features. This paper will explore the fundamental differences between traditional costing and ABC, how activities are classified at different levels, and the application of ABC in cost allocation, illustrated with specific examples. Furthermore, the discussion will address the advantages of budgeting, the importance of self-imposed budgets, and various types of budgets. Additionally, the significance of relevant costs in decision-making, incremental analysis, and joint product considerations will be examined. The paper will also cover capital budgeting decisions, the concept of time value of money, and hurdle rates, followed by an analysis of flexible versus static budgets, investment appraisal, and performance evaluation metrics such as ROI and residual income. Finally, the paper will conclude with insights into target costing, decentralization benefits, the balanced scorecard perspectives, and the importance of lead and lag indicators.

Differences Between Traditional Cost Systems and ABC

Traditional cost systems allocate overhead costs to products primarily based on a single volume-related activity, such as direct labor hours or machine hours. This method assumes a proportional relationship between overheads and production volume, which can lead to distorted costs, especially for products that consume activities differently. In contrast, Activity-Based Costing (ABC) assigns costs more accurately by identifying specific activities that consume resources and tracing costs to products based on actual usage. ABC recognizes that activities such as designing products, processing orders, or managing customer relations drive costs unrelated to volume alone, enabling more precise product costing and better management decisions.

The primary difference lies in the way costs are allocated: traditional methods often oversimplify by using a single cost driver, whereas ABC uses multiple cost drivers aligned with different activities, leading to more accurate cost information and improved decision-making (Cooper & Kaplan, 1988).

Activity Classification at Different Levels

Activities in a manufacturing or service environment can be grouped into different levels based on their function and scope. These levels include:

• Unit Level: Activities performed for each unit produced, such as processing a unit in the manufacturing process.
• Batch Level: Activities performed for groups of units or batches, such as processing purchase orders or hiring a new employee.
• Product Level: Activities related to designing or managing a specific product, such as designing new products.
• Organization Sustaining: Activities that support the entire organization and are not tied to any specific product or batch, such as maintaining general administration or customer relationships.

Matching activities to their appropriate level helps organizations identify and manage costs more effectively (Kaplan & Cooper, 1998).

Application of ABC Activity Rates and Cost Allocation

Using Apex’s available activity information, the activity rates can be computed by dividing total costs by the total activity levels for each activity. For example, if the total cost for customer orders is $315 and there are a certain number of customer orders, the activity rate is calculated as:

Activity Rate = Total Cost / Total Activity

This approach is applied similarly to other activities such as product design, order size, and customer relations. For the sailboats, the activity rates from the previous calculations are then used to allocate costs to each model based on their respective levels of activity, providing more precise cost figures for decision-making (Kaplan & Atkinson, 1998).

Advantages of Budgeting

Budgeting offers several benefits, chiefly among them being improved financial control and strategic planning. Two key advantages are:

1. Financial Planning and Coordination: Budgeting helps in aligning organizational activities with strategic goals, facilitating resource allocation and forecasting future financial performance.
2. Performance Evaluation: Budgeting provides benchmarks for evaluating actual performance, enabling managers to identify variances and take corrective actions.

Self-Imposed vs. Top-Down Budgeting

Self-imposed budgeting, known as participative budgeting, involves managers at various levels preparing their own budgets and negotiating with higher management. This approach encourages ownership, motivation, and more accurate estimates because those responsible for operations are involved in the planning process. Conversely, top-down budgets are imposed by senior management with limited input from lower levels. Self-imposed budgets tend to result in more realistic and attainable goals, as they leverage the insights of those directly involved in day-to-day operations (Anthony & Govindarajan, 2007).

Types of Budgets

Some common types of budgets include:

• Operational Budget
• Financial Budget
• Cash Budget

Performance Evaluation and Relevant Costs

Managers should not be punished for missing budget targets if the causes were outside their control. Instead, focus should be on understanding variances and addressing underlying issues. When making decisions, it is crucial to identify relevant costs—costs that will change as a result of the decision—since including irrelevant costs can lead to suboptimal choices (Drury, 2013).

Relevant Costs in Decision-Making

Relevant costs are those that differ between alternatives. For example, when deciding whether to accept a special order, only the additional variable costs and incremental revenues should be considered, ignoring sunk costs such as prior fixed expenses. This focus ensures that decisions reflect the true economic impact and prevent Misallocations (Brealey, Myers, & Allen, 2017).

Case Analysis: Relevant Costs and Decision-Making

Sherri's Trip to Chicago

In her decision to drive or take the train, relevant costs include gasoline, train ticket, and mileage-related wear, as they are directly impacted by her choice. Fixed costs like depreciation, insurance, and parking fees at her home are sunk or irrelevant. The resale value reduction could be relevant if she considers selling her car afterward or counting total costs of ownership. Thus, focusing solely on costs that change depending on her decision proves critical for an economically sound choice.

Austin's Make or Buy Decision

Austin should compare the cost of manufacturing internally ($30 per unit) to the outside supplier price ($25 per unit). Since the variable costs of production ($17 per unit: materials, labor, overhead) are less than the supplier cost, and fixed equipment has no resale value or alternate use, purchasing from the supplier is more economical unless additional strategic factors are considered.

Mountain Goat's Special Order

Accepting the order at $179 per bike yields a contribution margin over the incremental costs ($17 variable costs + stencil cost amortized per unit). Calculations show that the order increases profits if the marginal contribution exceeds additional costs—since the company is not at capacity. At capacity, stock-keeping and opportunity costs would need reassessment, which might negate the benefits of accepting the order.

Capital Budgeting Decisions and Investment Appraisal

Screening decisions evaluate whether projects meet baseline investment criteria, such as payback, ROI, or net present value (NPV). Preference decisions rank projects based on strategic impact or efficiency. The time value of money recognizes that a dollar today is worth more than a dollar in the future, influencing investment evaluations (Brealey et al., 2017). Companies use hurdle rates or required rates of return to ensure investments generate sufficient returns relative to risks and opportunity costs, with the cost of capital acting as the benchmark (Ross, Westerfield, & Jaffe, 2016).

Budgeting and Performance Measures

Flexible budgets adjust for actual activity levels, offering a more accurate performance measure than static budgets by accounting for changes in volume. ROI and residual income are common financial performance metrics, with residual income considering the minimum required return, thus providing a clearer picture of value added beyond ROI limitations (Horngren, Sundem, & Stratton, 2002).

Target Costing and Decentralization

Target costing involves setting cost reduction goals to meet a desired profit margin based on market conditions, differing from cost-plus pricing, which adds a markup to cost. Decentralization distributes decision-making authority across various levels, enhancing responsiveness and motivation. Benefits include faster decision-making and increased operational focus (Anthony & Govindarajan, 2007).

Balanced Scorecard and Performance Indicators

The balanced scorecard encompasses four perspectives: financial, customer, internal business processes, and learning & growth. Focusing on lead indicators (predictive) along with lag indicators (outcomes) enables organizations to proactively manage operations and improve long-term performance (Kaplan & Norton, 1992).

Conclusion

Understanding different cost systems, budgeting processes, investment appraisal techniques, and performance measurement tools are essential for effective managerial decision-making. Incorporating accurate cost allocation methods like ABC, along with strategic financial metrics and performance tools such as the balanced scorecard, enables organizations to align operations with strategic goals, optimize resource utilization, and create value.

References

• Anthony, R. N., & Govindarajan, V. (2007).  Management Control Systems. McGraw-Hill Education.
• Brealey, R. A., Myers, S. C., & Allen, F. (2017). Principles of Corporate Finance. McGraw-Hill Education.
• Cooper, R., & Kaplan, R. S. (1988). Measure Costs Right: Make the Right Decisions. Harvard Business Review.
• Drury, C. (2013). Management and Cost Accounting. Cengage Learning.
• Horngren, C. T., Sundem, G. L., & Stratton, W. O. (2002). Introduction to Management Accounting. Pearson Education