ACTIVITY-BASED COSTING CHAPTER © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use CHAPTER OBJECTIVES Describe the basics of plantwide and departmental overhead costing Explain why plantwide and departmental overhead costing may not be accurate Provide a detailed description of activitybased product costing Explain how ABC can be simplified © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use EXHIBIT 4.1—UNIT-BASED PRODUCT COSTING MODEL LO-1 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use UNIT-LEVEL PRODUCT COSTING • Overhead costs are assigned to products using predetermined overhead rates Predetermined overhead rate = Budgeted annual overhead Budgeted annual driver level Applied overhead = Overhead rate Actual driver usage LO-1 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use UNIT-LEVEL PRODUCT COSTING • Unit level drivers: factors that measure the demands placed on unit-level activities by products • Unit level activities: activities performed each and every time a unit of a product is produced • Five most commonly used unit level drivers • • • • • Units produced Direct labor hours Direct labor dollars Machine hours Direct material dollars LO-1 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use UNIT-LEVEL PRODUCT COSTING Overhead Overhead Variances Variances • The difference between actual overhead and applied overhead • If actual overhead > applied overhead: underapplied overhead • If actual overhead < applied overhead: overapplied overhead LO-1 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use UNIT-LEVEL PRODUCT COSTING Overhead Overhead Variances Variances Disposal of Variance • If immaterial, assign to cost of goods sold • If material, allocate among work-in-process inventory, finished goods inventory, and cost of goods sold LO-1 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use UNIT-LEVEL PRODUCT COSTING Overhead Application: Departmental Rates •Costs assigned to individual production department, creating departmental overhead cost pools •Unit level drivers are used to compute predetermined overhead rates for each department •Overhead is assigned to products by multiplying the departmental rates by the amount of the driver used in the respective departments LO-1 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use LIMITATIONS OF PLANTWIDE AND DEPARTMENTAL RATES Non-Unit-Related Overhead Costs •Plantwide and department rates assume that a product’s consumption of overhead is directly related to units produced •Some costs, however, such as setups cost a certain amount no matter how many products are produced •Other costs, such as engineering hours, may depend on something entirely different, such as work orders, not units •Non-unit-based drivers are factors, other than the number of units produced, that measure the demands that cost objects place on activities LO-2 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use LIMITATIONS OF PLANTWIDE AND DEPARTMENTAL RATES Product Diversity • Even if there are significant non-unit driven overhead costs, it will not cause distorted costing if the products all consume overhead in the same proportion as unit-level driven overhead costs LO-2 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use ACTIVITY-BASED COSTING SYSTEM Assign the cost of secondary activities to primary activities • Treat the secondary activity like a resource from the previous step LO-3 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use ACTIVITY-BASED COSTING SYSTEM Identify cost objects and specify the amount of each activity consumed by them • Assign costs consumed by more than one activity in proportion to their usage of the activity as measured by the activity driver • Transaction drivers measure the number of times an activity is performed • Duration drivers measure the demands in terms of the amount of time it takes to perform an activity LO-3 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use ACTIVITY-BASED COSTING SYSTEM • A bill of activities specifies the product, expected product quantity, activities, and amount of each activity expected to be consumed by each product LO-3 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use ACTIVITY-BASED COSTING SYSTEM Calculate primary activity rates • Primary activity rates are computed by dividing budgeted activity costs by practical activity capacity • Practical activity capacity is the activity output that can be produced when the activity is performed efficiently LO-3 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use ACTIVITY-BASED COSTING SYSTEM Assign activity costs to cost objects • Multiply the activity rate by the actual number of activity drivers consumed LO-3 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use ACTIVITY-BASED COSTING SYSTEM • Classifying activities into categories aids in product costing because the cost behavior differs by level • • • • Unit-level Batch-level Product-level Facility-level LO-3 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use EXHIBIT 4.8—ACTIVITY DICTIONARY: CARDIOLOGY UNIT LO-3 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use EXHIBIT 4.9—UNBUNDLING OF GENERAL LEDGER COSTS LO-3 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use EXHIBIT 4.10—BILL OF ACTIVITIES: CARDIOLOGY UNIT LO-3 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use EXHIBIT 4.11—ASSIGNING COSTS: FINAL COST OBJECTS LO-3 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use REDUCING THE SIZE AND COMPLEXITY OF AN ABC SYSTEM Before-the-Fact Before-the-Fact Simplification: Simplification: TDABC TDABC • A before-the-fact simplification method, eliminates the need to identify resource drivers, eliminating the need for much of the detailed implementation interviews LO-4 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use REDUCING THE SIZE AND COMPLEXITY OF AN ABC SYSTEM Before-the-Fact Before-the-Fact Simplification: Simplification: TDABC TDABC • First, it calculates total operating cost of a department or process • Second, it calculates a capacity cost rate by dividing the total resource cost by the practical capacity of resources supplied • Third, it estimates the time to perform one unit of activity Activity cost = Capacity cost rate × Time to perform one unit of activity × Total activity output = Activity rate ì Total activity output LO-4 â 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use REDUCING THE SIZE AND COMPLEXITY OF AN ABC SYSTEM After-the-Fact After-the-Fact Simplification: Simplification: TDABC TDABC • Approximately Relevant ABC Systems • Calculate the cost of your activities • Combine the less expensive activity costs into the more expensive activity costs making fewer categories • Equally Accurate Reduced ABC Systems • Use expected consumption ratios to reduce the number of drivers LO-4 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use EXHIBIT 4.12—DATA FOR PATTERSON COMPANY LO-4 © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use END OF CHAPTER © 2014 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use ... ACTIVITY-BASED COSTING SYSTEM Assign the cost of resources to activities • The cost of an activity is the resources consumed by that activity • If a resource is exclusive to an activity, assign 100% of the... LIMITATIONS OF PLANTWIDE AND DEPARTMENTAL RATES • The activity-based cost assignment follows a cause-and-effect pattern of overhead consumption and is therefore the most accurate of the three costs... service or otherwise on a password-protected website for classroom use EXHIBIT 4. 4—COMPARISON OF UNIT COSTS LO-2 © 20 14 Cengage Learning All Rights Reserved May not be copied, scanned, or duplicated,