Solution manual cost management measuring monitoring and motivating performance 1st by wolcott

Eldenburg & Wolcott, Cost Management 1e Integrating Across the Curriculum Problems Chapter 1 Integrating Across the Curriculum: Auditing Quality of information, relevant information to auditors Aden, Inc is a manufacturer of television sets The company recently revised its production processes and invested in new equipment to reduce labor costs REQUIRED: A Following are possible measures that Aden could use to monitor product defects Discuss the quality of information provided by each measure (Hint: See Exhibit 1.9) Ratio of defective televisions returned to the number of televisions sold (data from customer service department records and sales department records) Monthly defective unit warranty costs incurred (data from the general ledger) Monthly number of defects discovered during routine tests of televisions at the end of the manufacturing process (data from production records) Customer survey responses to the question, “How satisfied are you with the quality of your television set?” on a scale from (very satisfied) to (very unsatisfied) Surveys are mailed to percent of randomly selected repeat customers from sales records B List ideas about what Aden’s managers might want to learn from monitoring product defects (Hint: Use Exhibit 1.6 to help you generate ideas.) C The measures used by managers to monitor operations are often used by auditors when auditing financial statements Explain why information about product defects might be relevant to Aden’s auditors when they audit the following: Warranty liabilities Lower of cost or market adjustment for inventory Allowance for doubtful accounts receivable Integrating Across the Curriculum: Technology and Information Systems Internal and external information, internal reports Managers continuously seek ways to improve productivity and reduce costs Many manufacturers and retailers incur large costs to track inventory During 2003, managers began to consider the use of radio frequency identification (RFID) tags to replace bar codes that are currently used to track inventory receipt, movement, and sale When embedded in individual products, RFID tags allow companies to use radio signals to track every product item The 2003 cost of RFID tags, at $0.50 to $1.50 per chip, was considered too high for many low margin products However, the cost was expected to drop to acceptable levels for widespread use over the next few years Wal-Mart, known as a leader in the use of technology, notified its top 100 suppliers that they would be required to attach RFID tags to their products by 2005 Technology experts estimated the new systems and software would cost Wal-Mart’s suppliers approximately $10 million each For Wal-Mart, the new technology was expected to not only reduce the cost of tracking inventory, but to also reduce losses from theft To further investigate the use of RFID, Wal-Mart and Procter & Gamble secretly launched a research project in a suburban Tulsa, Oklahoma, Wal-Mart store Researchers monitored the movement of a particular lipstick product using RFID tags in the lipstick packaging, electronic readers concealed in the store shelves, and Webcams A sign on the lipstick display informed customers about the use of closedcircuit television and electronic security at the store When news of the testing became publicly known, consumer advocacy groups raised alarms about the potential loss of privacy from RFID tags They claimed that proliferation of RFID technology could eventually allow retailers to track their products after customers buy them and leave the store These concerns prompted a California state senate subcommittee to hold public hearings on RFID Similar actions were likely to be taken in other states SOURCES: “Chipping Away at Your Privacy,” Chicago Sun-Times, November 9, 2003; H Wolinsky, “P&G, Wal-Mart Store Did Secret Test of RFID,” Chicago Sun-Times, November 9, 2003; E Shein, “Radio Flier: Wal-Mart presents its vendors with an offer they can’t refuse,” CFO Magazine, November 5, 2003; and J Black, “Playing Tag with Shoppers’ Anonymity,” BusinessWeek Online, July 21, 2003 REQUIRED: A Would the information from RFID tags be considered internally or externally generated information? (See Exhibit 1.7.) Explain B Information gathered by Wal-Mart from its in-store research on the RFID technology was most likely summarized in one or more internal reports Were these internal reports most likely used to (1) support organizational strategies, (2) support operating plans, or (3) monitor and motivate? Explain C Provide arguments for and against Wal-Mart’s decision to conduct research on its customers without explicitly informing them Eldenburg & Wolcott, Cost Management 1e Integrating Across the Curriculum Solutions Chapter 1.29 Integrating Across the Curriculum: Auditing Note to Instructor: This problem will be very difficult for most students It requires them to think complexly about the quality of evidence A Note: According to Exhibit 1.9, higher quality evidence is more certain, complete, relevant, timely, and valuable The ratio of defective televisions returned to the number of televisions sold is relevant for measuring the proportion of defective products sold to customers This measure can be calculated fairly accurately, assuming that sales and service department records are accurate However, it might under-report total product defects because customers might not return all defective televisions, and some televisions may fail after the warranty period It could also overreport total product defects if a single television is returned more than one time This measure is not very timely; defect problems will not be detected until some time after production problems have occurred Ideally, the company would like to avoid selling defective products to customers The monthly defective unit warranty costs recorded in the general ledger are relevant in monitoring product defects, and they should be measured accurately (assuming they are accurately recorded in the general ledger), but this measure does not provide timely information about production problems The number of defects discovered during routine tests at the end of manufacturing is relevant in measuring defects that are discovered by testing procedures The accuracy of this measure depends on the accuracy of the production records and on the accuracy of the tests This measure is likely to under-report defect problems because it is difficult to design tests that will identify all possible defects However, this measure is timely; it identifies defects at the end of production rather than after products are sold to customers Customer survey responses are relevant in measuring customer perceptions about product quality However, this survey is sent only to repeat customers, who are more likely than average customers to favor the company’s products Thus, the survey results are probably biased In addition, managers may have difficulty interpreting the results unless findings are analyzed across time or compared to competitors This measure is not as timely as measures that are captured during production B Aden’s managers might want to learn many things from monitoring product defects Below are several possibilities: • • • • Determine whether targeted defect rates or reductions in defect rates are achieved Determine whether targeted warranty costs or reductions in warranty costs are achieved Evaluate production employee performance Calculate bonuses or other awards that are tied to defect rate or warranty cost goals C Aden’s auditor must assess the reasonableness of the recorded warranty liability The liability is estimated based on historical experience, updated for anticipated changes Information about product defects would be relevant in assessing whether future warranty liabilities are likely to be higher or lower than in the past Aden’s auditor must consider whether inventory should be written down Product defects are relevant in making this assessment because they can cause the net realizable value of inventory to drop below cost Aden’s auditor must consider whether the allowance for doubtful accounts receivable is reasonable Product defects may be relevant to this assessment is major quality problems occur after products are sold and then customers refuse to pay 1.30 Integrating Across the Curriculum: Technology and Information Systems A Information from RFID tags is internally generated The information is about inventory levels and sales, and tracks loss of product through shop-lifting and employee theft B Wal-Mart’s in-store research on the RFID technology was most likely used to support organizational strategies The company was probably testing the technology to evaluate its feasibility and usefulness The company had not yet implemented the technology as part of its operating plans, which also means that the tests occurred before usual monitoring and motivating activities would be established C Wal-Mart was probably testing the RFID technology to learn how well it would track inventory receipts and sales and reduce shop-lifting Given this purpose, it was better for customers to be uninformed that a test was taking place The test would provide more useful results if customers behaved in a normal manner On the other hand, Wal-Mart received significant negative publicity when it was learned that a test had taken place Consumer advocate groups were concerned that Wal-Mart could use the technology to track where products go after they leave the store, invading customer privacy The lack of disclosure was viewed as evidence of impropriety by Wal-Mart Eldenburg & Wolcott, Cost Management 1e Integrating Across the Curriculum Problems Chapter Integrating Across the Curriculum: Statistics Cost function using multiple regression, cost inflation, lagged cost driver Red’s Furniture Manufacturing produces a line of tables and chairs from specialty hardwoods It makes three different styles of chairs, and each chair takes about the same amount of direct labor time to manufacture Shawn Hargrove was the company’s new cost accountant and was preparing a direct labor cost budget for 20X5 The previous cost accountant had always estimated direct labor costs based on a regression of the cost against the number of chairs produced using monthly data from the prior four years This approach seemed to be economically plausible, so Shawn began his cost estimate by following the method used in prior years However, Shawn was not pleased with his regression results Shawn thought about ways to improve the cost function estimate He realized that the past cost information did not take into account pay raises Every January, the company gives its employees a cost of living pay increase Each of the past four years, the employees had received a 2% raise He learned from management that a 2% raise is planned for 20X5, too Shawn thought that prior years’ labor costs should be increased to 20X5 pay levels to provide a more accurate prediction of 20X5 costs He planned to adjust prior year pay using the following formula: Labor cost at 20X5 level _ Labor cost at prior pay level _ (1.02)t where t _ for 20X4 t _ for 20X3 t _ for 20X2 t _ for 20X1 Shawn also considered the degree to which direct labor costs vary with production The company’s policy is to increase the number of workers when production volumes increase, and to decrease the number of workers when production volumes decrease However, it often takes time for the company to hire qualified new workers, and the managers often delay laying employees off when volumes decline Thus, at least some lag is evident between the time that production volumes change and labor costs change Shawn thought that an additional cost driver for direct labor costs might be the prior month’s volume of chairs produced The data provide monthly direct labor costs and number of chairs produced for the past four years These data are available at the Web site www.wiley.com/college/eldenburg REQUIRED: A Estimate the cost function using the same method as in prior years Explain why Shawn was displeased with the results B Explain why the annual pay increases cause a problem with the cost function estimated in part (A) In what way is the cost function mismeasured? C Use the formula developed by Shawn to adjust the labor cost data for pay increases Reestimate the cost function Explain whether you consider it to be a reasonable cost function for estimating 20X5 direct labor costs D To the analysis you performed in part (C), add a second independent variable for the number of chairs produced in the preceding month Re-estimate the cost function Do the statistics suggest that it is a reasonable cost function? E Explain what the two slope coefficients from part (D) mean in terms of the cost function F Do you agree that both independent variables should be used to estimate 20X5 direct labor costs? Why or why not? Eldenburg & Wolcott, Cost Management 1e Integrating Across the Curriculum Solutions Chapter 2.41 Integrating Across the Curriculum: Statistics [Note about problem complexity: This homework problem was written with adequate instructions so that students should be able to perform the various regression analyses that are called for However, students are likely to struggle interpreting and choosing a method (Parts E and F).] A In prior years, the cost function was estimated by regressing actual labor costs on number of chairs produced, using monthly data for the prior years Here are the simple regression results: Regression Statistics Multiple R 0.7748991 R Square 0.6004687 Adjusted R Square 0.5917832 Standard Error 6216.7995 Observations 48 Intercept X Variable Coefficients 133194.04 13.957296 Standard Error 6710.609693 1.678620854 t Stat 19.848277 8.3147402 P-value 3.437E-24 1.02E-10 Based on the regression results, the fixed cost and the variable cost per unit are each positive and statistically different from zero The cost function is estimated as: Labor cost = $133,194 + $13.96 x number of chairs produced However, the regression explains only about 59% of the variation in labor costs Considerable variation in labor costs is not explained by changes in the volume of production B Because of the annual pay increases, the prior labor costs are biased downward— future labor costs are expected to be higher than past labor costs Also, the degree of downward bias is higher for older data than for more recent data C Here are a couple of months’ data so that you can double-check your calculation of adjusted labor costs: Month Original Labor Cost Jan 20X1 $203,533 Dec 20X4 196,347 Calculation Adjusted Labor Cost $203,533 x (1.02)4 $220,311 $196,347 x 1.02 200,274 Using the adjusted labor cost data, here are the regression results: Regression Statistics Multiple R 0.864722 R Square 0.747745 Adjusted R Square 0.742261 Standard Error 5148.905 Observations 48 Intercept X Variable Coefficients 133736 16.23439 Standard Error 5557.891 1.390275 t Stat 24.06236 11.67711 P-value 1.05E-27 2.35E-15 Based on the regression results, the fixed cost and the variable cost per unit are each positive and statistically different from zero The cost function is estimated as: Labor cost = $133,736 + $16.23 x number of chairs produced This regression provides a more reasonable cost function than the previous version because it explains a higher proportion of the variation in labor costs (adjusted R-square of 0.74) Also, this cost function would result in a higher estimate for future costs The fixed cost is nearly the same, but the variable cost increased from $13.96 to $16.23 per chair, which is reasonable given the increase in wage rates over time Nevertheless, approximately 26% of the variation in labor costs is still unexplained D Here are the multiple regression results: Regression Statistics Multiple R 0.932541 R Square 0.869633 Adjusted R Square 0.863839 Standard Error 3742.411 Observations 48 Intercept X Variable X Variable Coefficients 107748.8 16.26499 6.54295 Standard Error 5689.492 1.010513 1.00872 t Stat 18.93821 16.09577 6.486389 P-value 4.57E-23 2.73E-20 5.91E-08 Based on the regression results, the fixed cost and the variable cost per unit for each cost driver are all positive and statistically different from zero The cost function is estimated as: D Because the revenue and cost functions both depend on the selling price (P), it is necessary to calculate price before a graph can be created We can use the demand function to solve for P: Q = 1,000 – 2*P P = (1,000 – Q) / We can now create a data table for units, price, revenues, and costs We then use the data table to create a CVP graph for Q between zero and 1,000 units Units 125 250 375 500 625 750 875 1,000 Price $500 $438 $375 $313 $250 $188 $125 $63 $0 Revenues $0 $54,688 $93,750 $117,188 $125,000 $117,188 $93,750 $54,688 $0 Costs $30,000 $42,500 $55,000 $67,500 $80,000 $92,500 $105,000 $117,500 $130,000 Total Revenue CVP Graph 3.43(D) Total Cost $140,000 $120,000 Dollars $100,000 $80,000 $60,000 $40,000 Breakeven Point $20,000 $0 125 250 375 500 625 750 875 1,000 Number of Units Break even occurs at the following two points: Q1 = 1,000 – 2*P1 = 1,000 – 2*458.12 = 83.76 units Q2 = 1,000 – 2*P2 = 1,000 – 2*141.89 = 716.22 units E Profit is maximized at the selling price where marginal revenue equals marginal cost We need to first calculate margin revenue and marginal cost by differentiating each function with respect to price: Marginal revenue: TR = 1,000*P – 2*P2 First derivative of TR = 1,000 – 4*P Marginal cost: TC = 130,000 - 200*P First derivative of TC = -200 Set marginal revenue equal to marginal cost and solve for P: 1,000 – 4*P = -200 4*P = 1,200 P = $300 per unit Based on a selling price of $300 per regulator, the company should sell all of the regulators that are demanded at that price: 1,000 – 2*P = 1,000 – 2*300 = 1,000 – 600 = 400 regulators F In this situation, total revenue is a nonlinear function; the selling price does not remain constant at different levels of activity The total revenue function is consistent with microeconomic theory, which assumes that quantities sold (i.e., the quantity demanded) will decline as the price increases G If the company’s sales have varied between 375 and 425 regulators per year at a price of $300, we can assume that this is a relevant range of operations In turn, this means that it is reasonable to assume that the selling price will remain constant in the future within this range of operations (assuming there are no other factors that might influence the price)—i.e., the total revenue function is approximately linear within the range of 375 to 425 regulators per year Given this assumption, it would be appropriate to use CVP analysis to estimate profits within the relevant range of 375 to 425 regulators per year CAP – Cost-Volume-Profit Analysis and Decision-Making Cost-volume-profit (CVP) analysis is an excellent tool for analyzing the effect of changes in the variables that determine net income—price, variable costs, fixed costs, and quantity In order to recover from the recent operating losses that the B.Widget has experienced, management has made some tentative new decisions and believes that the use of CVP analysis will be useful when evaluating these decisions Current selling price for widgets is $200 per unit Based on the fixed and variable cost analysis made in CAP 1, you found that costs can be estimated as: TC = 104 Q + 1,300,000 A Based on this data, determine each to the following Unit contribution margin $200 per unit – 104 per unit = $96 per unit Contribution margin ratio 96 / 200 = 48% Breakeven point $1,300,000 / $96/unit = 13,542 units (always round up because you cannot sell part of a unit) B What quantity of product must be produced and sold in order to achieve an income equal to $200,000 ($200,000 + $1,300,000) / $96/unit = 15,625 units 10% of total assets? Total assets = $6,786,651 ($678,665 + $1,300,000) / $96/unit = 20, units (always round up because you cannot sell part of a unit) C Complete the following table: Sales Quantity 5,000 units 10,000 units 15,000 units 20,000 units 30,000 units Revenue 1,000,000 2,000,000 3,000,000 4,000,000 6,000,000 Variable Cost Fixed Costs Total Costs 520,000 1,040,000 1,560,000 2,080,000 3,120,000 1,300,000 1,300,000 1,300,000 1,300,000 1,300,000 1,820,000 2,340,000 2,860,000 3,380,000 4,420,000 D List the major assumptions of CVP analysis Selling price is constant Costs are linear In multi-product companies, the sales mix is constant In manufacturing companies, inventories not change (units produced = units sold) Net Income (820,000) (340,000) 140,000 620,000 1,580,000 E Prepare a contribution margin income statement based on March actual sales quantity Sales (8,734 x $200) Variable cost (8,734 x $104) Contribution Margin Fixed cost Net Income 1,746,800 908,336 838,464 1,300,000 (461,536) F Why is net income here different from net income reported on the March Income Statement? Reconcile (i.e., explain the difference between) the two income statements Now that I look at this more closely, you not have enough information about Finished Product inventory to answer this question The answer would be the difference between fixed costs contained in Finished Product Ending Inventory and fixed costs contained in Finished Product Beginning Inventory For several months, Gadget Company has incurred net operating losses Realizing that the company cannot continue to sustain losses, management has proposed changes for certain decisions and is considering whether to implement one or more of these changes in April Proposal A: Increase selling price from $200 per unit to $220 per unit Proposal B: Decrease the number of sales people from 135 to 90 while increasing their base salary from $3,000 per month to $3,500 per month, thereby decreasing total Sales People's Salaries from $405,000 to $315,000 Proposal C: Increase advertising by $50,000 per month Proposal D: Certify a substitute for Material X called Material X2 which can be purchased for $3.50 per unit instead of $6.90, the current cost of Material X plus related freight NOTE: The company's product requires four units of Material X (and X2) Proposal E: Increase the rate for Sales People's Commissions from 12% to 16% Recall that estimates of fixed and variable costs (excluding income taxes) based on the analysis of March data are: Fixed Costs: Unit Variable Costs: Sales People's Salaries $ 405,000 Sales People's Commissions $ 24.00 Advertising 297,200 Material X 27.60 Other Fixed 598,800 Other Variable 52.40 Total Fixed Costs $1,300,000 Total Unit Variable Costs $104.00 Required: Answer each of the following questions For each question, carefully document the calculations that support your answer Consider each question independently of the others That is, use your calculations in Question E above as the base case and change only the parameter(s) requested in each of the following questions A If selling price is increased, by how many units can sales quantity decrease and the net operating loss still be the same as in the base case? Units Units For For Base Higher Case Price -461,536 + 1,300,000 = 7,229 units 220 - 104 8,734 – 7,229 = 1,525 units B If total Sales People's Salaries are decreased as proposed and the net operating loss remains the same as in the base case, then sales units may decrease by how many units and dollars? , Sales People's Salaries decrease from $405,000 to $315,000, total fixed costs will decrease $90,000 to $1,210,000 -461,536 + 1,210,000 = 7,797 units 200 - 104 8,734 – 7,797 = 937 units C If advertising is increased, then sales must increase by how many units and dollars in order for the net operating loss to be unchanged? -461,536 + 1,350,000 = 9,254 units 200 - 104 9,254 – 8,734 = 520 units D If Material X2 can be purchased at a price of $3.50 (including freight) and the same number of units are sold, then the net income/loss would be $ _ This is tricky One unit of finished product requires units of Material Ex-11 In March when we produced 14,960 units, we used 59,840 units of Material Ex-11 Total cost of Material Ex-11 used plus Freight was $367,296 + 45,600 = $412,896 which comes out to $27.60 of Material Ex-11 cost per unit of finished product If we can now buy Material Ex-11 for $3.50 per unit including freight, the total cost of Material Ex-11 would be $14.00 per unit of finished product ($3.50 x 4) Therefore, the unit variable cost for finished product would decrease by $13.60 per unit from $104.00 to $90.40 Sales (8,734 x $200.00) Variable cost (8,734 x $ 90.40) Contribution Margin Fixed cost Net Income 1,746,800 789,554 957,246 1,300,000 (342,754) E If the commission rate is increased, then sales must increase by what quantity in order for the net loss to be the same? If the commission rate increases from 12% to 16%, commissions will increase from $24 per unit to $32 per unit, an increase of $8 per unit, which will increase total variable costs from $104 per unit to $112 per unit 9,528 – 8,734 = 194 units -461,536 + 1,300,000 = 9,528 units 200 - 112 Draw the line representing net income before any changes on a graph with the horizontal axis calibrated in increments of 2,000 units of finished product and the vertical axis calibrated in increments of $100,000 This is the base case net income line Base Case 2,000,000 1,500,000 Profit 1,000,000 500,000 (500,000) 5000 10000 15000 20000 25000 30000 (1,000,000) (1,500,000) Quantity Draw the net income line for each case (A-E) on similar graphs A Selling price increases to $220 (profits increase more quickly, breakeven point decreases) 3,000,000 Profit 2,000,000 1,000,000 (1,000,000) 5000 10000 15000 20000 25000 30000 (2,000,000) Quantity B Fixed costs decrease by $90,000 (profits increase at same rate, breakeven point decreases) 2,000,000 1,500,000 Profit 1,000,000 500,000 (500,000) 5000 10000 15000 20000 25000 30000 (1,000,000) (1,500,000) Quantity C Fixed costs increase by $50,000 (profits increase at same rate, breakeven point increases) 2,000,000 1,500,000 Profit 1,000,000 500,000 (500,000) 5000 10000 15000 20000 25000 30000 (1,000,000) (1,500,000) Quantity Profit D Unit variable cost is $13.60/unit lower (profits increase more quickly, breakeven point decreases) 2,500,000 2,000,000 1,500,000 1,000,000 500,000 (500,000) (1,000,000) (1,500,000) 5000 10000 15000 20000 25000 30000 Quantity E Unit variable cost is $8/unit higher (profits increase less quickly, breakeven point increases) 2,000,000 1,500,000 Profit 1,000,000 500,000 (500,000) 5000 10000 15000 20000 25000 30000 (1,000,000) (1,500,000) Quantity Explain how net income will change as a result of changes in A Selling price Increase - (profits increase more quickly, breakeven point decreases) Decrease - (profits increase less quickly, breakeven point increases) B Variable cost per unit Unit variable cost is lower (profits increase more quickly, breakeven point decreases) Unit variable cost is higher (profits increase less quickly, breakeven point increases) C Fixed costs Fixed costs decrease (profits increase at same rate, breakeven point decreases) Fixed costs increase (profits increase at same rate, breakeven point increases) Assume that ALL the proposed decisions are implemented and that management wants to attain a pre-tax income of $200,000 A What is the new profit function? Profit = 220 Q – 98.40 Q - $1,260,000 B What is the dollar amount of the contribution margin per unit? 220.00 – 98.40 = $121.60 C What is the breakeven point? $1,260,000 / $121.60/unit = 10,379 units D What is the quantity of finished product that must be produced and sold to attain the target profit? $200,000 ($200,000 + $1,260,000) / $121.60/unit = 12,007 units 10% of total assets ($678,665 + $1,260,000) / $121.60/unit = 15,943 units E What is the total contribution margin at that target income point in D above? $200,000 $121.60/unit x 12,007 units = $1,460,051 10% of total assets $121.60/unit x 15,943 units = $1,938,669 JOB-ORDER COSTING ASSIGNMENT Bandol Company uses a job order system and has two production departments General information from the 2002 annual budget follows: Assembly Finishing Department Department 2002 Annual budgeted information for Bandol Company: Direct labor $200,000 $300,000 Factory overhead $800,000 $400,000 Direct labor hours 8,000 hrs 25,000 hrs Machine hours 40,000 hrs 10,000 hrs Bondol Company applies overhead to the Assembly Department based on machine hours and to the Finishing Department based on direct labor hours Requirement #1 Determine the direct labor rate and the overhead application rate for each production department Direct labor Assembly Finishing Department Department 2002 Annual budgeted information for Bandol Company: Direct labor $200,000 $300,000 Divided by Direct labor hours 8,000 hrs 25,000 hrs EQUALS $25 per hr /\/\/\/\/\/\/\/\ $12 per hr /\/\/\/\/\/\/\/\ OVERHEAD Assembly Finishing Department Department 2002 Annual budgeted information for Bandol Company: Factory overhead $800,000 $400,000 Divided by Machine hours 40,000 hrs Divided by Direct labor hours 25,000 hrs EQUALS $20 per MH $16 per DLH /\/\/\/\/\/\/\/\ /\/\/\/\/\/\/\/\/\ Requirement #2 Determine the total manufacturing costs associated with each of the four jobs Employees are paid at the budgeted direct labor rate in each department Assembly Finishing Total Department Department Job Cost Actual information for Job P-741: Direct materials Direct labor hours Machine hours Job P-741 Cost Determination Materials Labor 40 hrs x $25/hr Ovhd 150 MH x $20/MH Actual information for Job P-742: Direct materials Direct labor hours Machine hours Job P-742 Cost Determination Materials Labor 4,000 hrs x $25/hr Ovhd 15,000 MH x $20/MH Actual information for Job P-743: Direct materials Direct labor hours Machine hours Job P-743 Cost Determination Materials Labor 3,600 hrs x $25/hr Ovhd 22,000 MH x $20/MH Actual information for Job P-744: Direct materials Direct labor hours Machine hours Job P-744 Cost Determination Materials Labor 670 hrs x $25/hr Ovhd 1,600 MH x $20/MH $16,000 40 hrs 150 hrs $16,000 1,000 3,000 $20,000 $9,000 30 hrs 20 hrs 30 hrs x $12/hr 30 DLH x $16/DLH $1,600,000 4,000 hrs 15,000 hrs $9,000 360 480 $9,840 $900,000 3,000 hrs 2,000 hrs $1,600,000 $900,000 100,000 3,000 hrs x $12/hr 36,000 300,000 3,000 DLH x $16/DLH 48,000 $2,000,000 $984,000 $2,600,000 3,600 hrs 22,000 hrs 2,500,000 136,000 348,000 $2,984,000 $3,900,000 18,000 hrs 6,000 hrs $2,600,000 $3,900,000 90,000 18,000 hrs x $12/hr 216,000 440,000 18,000 DLH x $16/DLH 288,000 $3,130,000 $4,404,000 $48,000 670 hrs 1,600 hrs $ 25,000 1,360 3,480 29,840 $6,500,000 306,000 728,000 $7,534,000 $27,000 3,700 hrs 2,800 hrs $48,000 $27,000 $ 16,750 3,700 hrs x $12/hr 44,400 32,000 3,700 DLH x $16/DLH 59,200 $96,750 $116,200 $ 75,000 61,150 91,200 227,350 At the end of the year 2002, Job P-744 is only partially complete; the customer has agreed to pay $400,000 for the product when the job is completed in January 2003 (NOTE: Because Job P-744 is only partially complete, it is still considered to be “in process” and so the cost of that job will be the value of Work In Process Inventory The sale of that product will not be recorded on the income statement until it is sold in 2003.) During 2002, Job P-742 sold for $6,500,000 and the customer for Job P-743 paid $9,900,000 (NOTE: Because these jobs have been sold, their revenues will be recognized on the 2002 income statement and their job costs will be added together to determine the total Cost of Goods Sold on that income statement The customer for Job P-741 was supposed to pay $100,000 but has not yet made arrangements to pick up the finished product from the Bondol finished product warehouse (NOTE: Because this job is finished but not yet sold, its cost will be classified as Finished Product Inventory The product has not been delivered, so the sale will not be recognized as revenue in 2002.) Requirement #3 Determine the amount of unapplied overhead Information concerning other costs (ALL company costs except direct labor) for year 2002 follows: _ Cost Items Amount Classification Raw Material Purchases $9,500,000 Raw Mat’l Purchase (there was no beginning inventory) Administrative Salaries 800,000 Period expense Manufacturing Salaries & Wages (excluding direct labor) 600,000 Mfg overhead Advertising 400,000 Period expense Factory Supplies 200,000 Mfg overhead Other Manufacturing (including Utilities and Leases) 300,000 Mfg overhead Non-manufacturing Travel 100,000 Period expense Other Corporate Costs 500,000 Period expense Total ACTUAL Manufacturing Overhead: Manufacturing Salaries & Wages (excluding direct labor) 600,000 Factory Supplies 200,000 Other Manufacturing (including Utilities and Leases) 300,000 Total ACTUAL Manufacturing Overhead: $1,100,000 Total APPLIED Manufacturing Overhead: Job P-741 Ovhd 150 MH x $20/MH Job P-742 Ovhd 15,000 MH x $20/MH Job P-743 Ovhd 22,000 MH x $20/MH Job P-744 Ovhd 1,600 MH x $20/MH Total APPLIED Manufacturing Overhead: Mfg overhead Mfg overhead Mfg overhead Assembly Finishing Department Department 3,000 30 DLH x $16/DLH 480 300,000 3,000 DLH x $16/DLH 48,000 440,000 18,000 DLH x $16/DLH 288,000 32,000 3,700 DLH x $16/DLH 59,200 775,000 395,680 Total 3,480 348,000 728,000 91,200 $1,170,680 Total APPLIED minus Total ACTUAL equals UNAPPLIED Overhead $1,170,680 – 1,100,000 = $70,680 Overapplied because Applied is greater than (over) Actual (NOTE: When too much overhead has been applied, reported job/product costs are higher than actual So an adjustment is needed to DECREASE costs reported on the income statement (and to DECREASE inventory values when that adjustment is prorated) Before going any further, I’d like to draw a picture… a picture of the flow of costs through inventory Raw Material Inventory Work In Process Inventory Finished Product Inventory Income Statement Beg Inv -0- Beg Inv -0- Beg Inv Purch $9,500,000 9,500,000 Goods Manuf $10,547,840 CGS Avail Current Mfg Costs Mat’l $9,100,000 Labor 504,510 Ovhd 1,170,680 Total $10,775,190 Avail 10,547,840 Sold 10,518,000 Gross Margin Used (1) 9,100,000 End Inv.$ 400,000 Payroll Reports Direct Labor Other Mfg Salaries/Wages Non-Mfg Salaries/Wages Total = $1,904,510 Avail -0- End Inv $ Sales $16,400,000 10,518,000* (70,680) 5,952,680 Selling, General, Admin Expenses (2)1,800,000 29,840 10,775,190 Goods Manuf 10,547,840 Net Income $ 4,011,320 End Inv $ 227,350 * NOTE: Adjusted CGS = 10,447,320 Mfg Overhead Actual Applied 1,100,000 1,170,680 Overapplied 79,680 Job P-741 Mat’l $ Labor Ovhd Total $ 25,000 1,360 3,480 29,840 Status: Finished (1) Raw Materials Used: Job P-741 Materials Job P-742 Materials Job P-743 Materials Job P-744 Materials Total Raw Materials Used: Job P-742 Job P-743 Job P-744 Mat’l $2,500,000 Labor 136.000 Ovhd 348.000 Total $2,984.000 Mat’l $6,500,000 Labor 306.000 Ovhd 728.000 Total $7,534.000 Mat’l $ 75,000 Labor 61,150 Ovhd 91,200 Total $ 227,350 Status: Sold Status: Sold Status: In Process Assembly Department $ 16,000 1,600,000 2,600,000 48,000 $4,264,000 Finishing Department $ 9,000 900,000 3,900,000 27,000 $4,836,000 (2) Selling, General, and Admin Expense: Administrative Salaries 800,000 Advertising 400,000 Non-manufacturing Travel 100,000 Other Corporate Costs 500,000 Total ACTUAL Selling, General, and Admin Expense: $1,800,000 Total $9,100,000 Period expense Period expense Period expense Period expense Following is a summary of all the UNADJUSTED Inventory-related account balances: $ Raw Materials 400,000 Work-in-Process 227,350 Finished Product 29,840 Cost of Goods Sold 10,518,000 For the exam, this is what you will Proration of Overapplied Overhead Amount of Overapplied Overhead (from above): $70,680 As discussed in the text, there are three methods to handle unapplied overhead: All to CGS (easiest method)  Unadjusted CGS minus Overapplied Overhead = Adjusted CGS  $10,518,000 - $70,680 = $10,447,320 Using these results, the adjusted balance sheet and income statement would be: Balance Sheet Income Statement Bondol Company 12/31/2002 Bondol Company For year ending 12/31/2002 Cash $ 50,000 Inventory: Raw Materials $400,000 Work-in-Process $227,350 Finished Product $ 29,840 Total Inventory 657,190 Property Plant, and Equip 750,000 Total Assets $1,457,190 Total Liabilities & Equity $1,457,190_ Sales $16,400,000 CGS 10,447,320 Gross Profit 5,952,680 Period Costs 1,800,000 Net Income 4,152,680 Prorate by Total Value of CGS, FP Inventory, and WIP Inventory (more accurate method AND this is the method required by the instructions for this problem)  Step 1: Determine total basis for prorating amount of unapplied overhead For the exam, CGS $10,518,000 You FP Inv 29,840 Will Not WIP Inv 227,350 Need Total Basis $10,775,190 = 100.00% To Know  Step 2: Determine proration percentages (calculated by dividing individual How To Do amounts by the total amount) Any of These CGS $10,518,000 97.613% FP Inv 29,840 0.277% You *WILL* WIP Inv 227,350 2.110% need to know Total Basis $10,775,190 = 100.000% That  Step 3: Determine amount of adjustment (round to nearest whole dollar These Are amount) Two CGS 97.613% x $70,680 = $68,993 rounded Alternate FP Inv 0.277% x $70,680 = $ 196 to nearest Methods Of WIP Inv 2.110% x $70,680 = $ 1,491 whole dollar Correcting  Step 4: Adjust account balances: For CGS $10,518,000 — $68,993 = 10,449,007 Unabsorbed FP Inv 29,840 — 196 = 29,644 Overhead WIP Inv 227,350 — 1,036 = 225,859 Prorate by Amount of Overhead in CGS, and FP & WIP Inventory (most accurate)  Steps 1, 2, 3: Determine total basis for prorating amount of unapplied overhead, determine proration percentages, determine amount of adjustment Overhead Proportion (Ovhd in Jobs P742,3) CGS $1,076,000 91.91% 64,964 (Ovhd in Job P741) FP Inv 3,480 0.30% 210 (Ovhd in Job P744) WIP Inv 91,200 7.79% 5,506 Total Basis $1,170,680 = 100.00% 70,680  Step 4: Adjust account balances: CGS $10,518,000 — $64,964 = 10,453,036 FP Inv 29,840 — 210 = 29,630 WIP Inv 227,350 — 5,506 = 221,844 Using the results of this last method, the adjusted balance sheet and income statement would be: Balance Sheet Income Statement Bondol Company 12/31/2002 Bondol Company For year ending 12/31/2002 Cash $ 50,000 Inventory: Raw Materials $400,000 Work-in-Process $221,844 Finished Product $ 29,630 Total Inventory 651,474 Property Plant, and Equip 750,000 Total Assets $1,451,474 Total Liabilities & Equity $1,451,474_ Sales $16,400,000 CGS 10,453,036 Gross Profit 5,946,964 Period Costs 1,800,000 Net Income 4,146,964 Notice that net income AND total inventory are $5,716 lower than the previous example, because Cost of Goods Sold is $5,716 higher than before because some of the unapplied overhead was used to adjust WIP/FP inventories You should consider that, as you increase accuracy of the adjustment methods, record-keeping costs tend to increase As we need finer, more detailed information to make the more accurate proration, we must gather more information–more details about the jobs This additional information typically costs more to acquire Some companies not use the more accurate methods because the additional accuracy gained by proration sometimes is not worth the additional cost of gathering the additional information necessary to the proration REVIEW NOTES: In Chapter 2, we were introduced to the general assumptions accountants use to flow costs through inventory: • Non-manufacturing costs are period costs which DO NOT flow through inventory; it is assumed that these costs not become attached to products or services and thus are taken directly to the income statement; non-manufacturing costs include (1) selling, general, and administrative salaries and wages that are generated by the payroll system and (2) other selling, general, and administrative costs that occur when “the bills are paid” • Manufacturing costs are attached to the products (during the production process) and flow through inventories; these costs include materials, direct labor, and overhead which includes indirect salaries and wages and other manufacturing costs that occur when “the bills are paid” In Chapter 2, we learned that • Actual overhead costs are NOT charged to products, jobs, or processes during the year; instead, the amount of overhead associated with a particular product, job, or process is ESTIMATED or applied to work-in-process based on an assumed relationship with machine hours, direct labor hours, direct labor cost, direct material cost, or some other basis used for applying overhead • Manufacturing costs are NOT charged TO a single work-in-process account; instead, separate WIP accounts are used for each job (in a job order system like a sign company) or for each process • Overhead costs are NOT usually charged FROM a single overhead cost pool; instead, multiple cost pools are used and costs from each cost pool are applied to products, jobs, or processes based on different cost drivers; each cost pool represents different departments or activities that cause a significant amount of the overhead costs ... & Wolcott, Cost Management 1e Integrating Across the Curriculum Problems Chapter Integrating Across the Curriculum: Statistics Cost function using multiple regression, cost inflation, lagged cost. .. company’s new cost accountant and was preparing a direct labor cost budget for 20X5 The previous cost accountant had always estimated direct labor costs based on a regression of the cost against... change and labor costs change Shawn thought that an additional cost driver for direct labor costs might be the prior month’s volume of chairs produced The data provide monthly direct labor costs and