E1715 Spear Custom Furniture Uses An Activity-Based Costing

E1715spear Custom Furniture Uses An Activity Based Cost Accounting Sy

Spear Custom Furniture utilizes an activity-based cost accounting system involving four overhead cost pools: Maintenance, Materials Handling, Set-ups, and Quality Control. Each pool has a specified budgeted amount, and costs are allocated using corresponding cost drivers: machine hours, material moves, set-ups, and inspections. The company is bidding on a project for Cosmopolitan University, estimating direct materials, direct labor hours, and other activities. The task involves estimating manufacturing costs and bid price, as well as analyzing activity-based cost components. Additionally, in the case of Accessory World, the focus is on calculating costs associated with the production process involving Cutting and Coating departments, specifically determining transferred sets, equivalent units, cost per unit, and inventory costs. Further, evaluating activities for their value addition in a manufacturing process and understanding how activity analysis can help reduce costs are key points addressed in this scenario.

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The application of activity-based costing (ABC) systems in manufacturing is crucial for accurately allocating overhead costs to products and services, thereby enabling companies to determine precise product costs and make informed bidding and pricing decisions. Spear Custom Furniture exemplifies this approach by maintaining four specific overhead cost pools—Maintenance, Materials Handling, Set-ups, and Quality Control—and allocating these costs based on appropriate cost drivers. This methodology facilitates a more accurate reflection of resource consumption, particularly when overhead costs constitute a significant portion of total manufacturing expenses.

In estimating the total cost of manufacturing tables for Cosmopolitan University, the integrated cost analysis involves both direct costs and allocated overheads. The direct costs include materials and labor, which are straightforward to quantify. Direct materials are estimated at $14,000, and direct labor costs at $15,000 for 500 hours, implying an hourly wage rate of $30 per hour ($15,000 / 500 hours). To determine allocated overhead, activity-based costing applies the budgeted overhead pools via their respective cost drivers: machine hours, material moves, set-ups, and inspections.

The calculation begins with determining the activity-based overhead rates. For instance, the total allocated overhead for maintenance is $40,000, using machine hours as a driver with a budgeted total of 600 hours; thus, the overhead rate per machine hour is $66.67 ($40,000 / 600 hours). Similarly, for Materials Handling, with a total of $20,000 over 400 moves, the rate is $50 per move; for Set-ups, with $10,000 over 100 set-ups, the rate is $100 per set-up; and for Quality Control, with a budgeted $45,000 over 300 inspections, the rate is $150 per inspection.

Applying these rates to the project estimates, the number of machine hours is 60; material moves are 20; set-ups are 4; and inspections are 2. The overhead costs allocated are calculated as follows: Maintenance is $4,000 (60 hours x $66.67), Material Handling is $1,000 (20 moves x $50), Set-up costs are $400 (4 set-ups x $100), and Quality Control is $300 (2 inspections x $150). The total overhead allocation sums to $5,700. Thus, the total estimated manufacturing cost combines direct materials ($14,000), direct labor ($15,000), and allocated overhead ($5,700), totaling $34,700.

To determine the company's bid price, a markup of 75% is applied to the estimated manufacturing cost, which results in a bid price of approximately $60,725 ($34,700 x 1.75). This markup ensures coverage of overheads and desired profit margins, while also remaining competitive in the bidding process. The process exemplifies how activity-based costing provides accuracy and insights essential for strategic decision-making, especially in bidding, pricing, and cost management.

In another context, Accessory World’s production of floor mats involves two departments—Cutting and Coating—each incurring specific costs and working through activity centers like cutting sheets and spraying with chemical coatings. Cost analysis in May involves evaluating units in process, their costs, and determining the number of mat sets transferred, as well as calculating equivalent units for resource allocation using systems like FIFO or weighted-average. This process ensures that costs assigned accurately reflect the stage of completion and resource consumption at each department, facilitating better inventory valuation and cost control.

Specifically, the calculation of the number of mat sets started within the Coating Department involves analyzing beginning inventory, units transferred in, and ending inventory, together with the percentage of completion for materials and conversion costs. Equivalent units are determined based on work done, which assists in calculating cost per equivalent unit. The transfer of costs from the Cutting Department to the Coating Department and then to finished goods inventory involves journal entries reflecting these transfers and inventory valuation at each stage, ensuring accurate financial reporting and cost management.

Furthermore, organizations like Accessory World analyze activities to identify value-added and non-value-added components within their processes. Activities such as set-ups and inspections that do not directly add value from the customer’s perspective are classified as non-value-added. Identifying these activities allows managers to target cost reduction strategies, streamline processes, and eliminate waste through process improvement initiatives like lean manufacturing and continuous improvement.

Implementing activity analysis as part of cost management provides numerous benefits, including improved accuracy of product costing, enhanced decision-making, and operational efficiency. For instance, in the case of Mays Electronics, understanding the activity costs associated with producing circuit boards reveals potential cost-saving opportunities while also questioning the validity of current costing methods when prices fall below costs. This insight can drive strategic pricing, cost control, and resource allocation decisions, ensuring sustainability and competitiveness in a dynamic marketplace.

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