4 - 1  2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Traditional Cost Management Systems Chapter 4

4 - 2  2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Introduction u Over a period of two decades Melissa Watengel has built Melissa’s Auto Service Company into a successful business. u The shop employs two highly skilled mechanics and three junior mechanics.

4 - 3  2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Introduction u The salary and benefits of each expert mechanic exceeds the average compensation of the other three mechanics by almost $25,000. u In the past three years, increased competition by quick service operations have caused her income to decline precipitously.

4 - 4  2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Learning Objectives 1 Understand job order costing systems. 2 Understand how using job bid sheets is effective for estimation product costs in a job order costing system. 3 Use cost driver rates to apply support activity costs to products.

4 - 5  2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Learning Objectives 4 Discuss why cost systems with multiple cost driver rates give different cost estimates than cost systems with a single rate. 5 Evaluate a cost system to understand whether it is likely to distort product costs and explain the importance of recording actual costs and comparing them with estimated costs.

4 - 6  2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Learning Objectives 6 Appreciate the importance of conversion costs and the measurement of costs in multistage continuous-processing industries. 7 Understand the significance of differences between job order costing and multistage- process costing systems. 8 Understand the two-stage allocation process and service department allocation methods.

4 - 7  2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Learning Objective 1 Understand job order costing systems.

4 - 8  2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Order Costing System u A job order costing system estimates the costs of manufacturing products for different jobs required for specific customer orders. u Each individual job is treated as a single unit of output. u What is an example? – custom frames

4 - 9  2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Process Costing System u A process costing system is applicable when all units produced during a specified time frame are treated as one unit of output. u Usually every unit made during the time period is identical. u What is an example? – fiberglass

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Traditional Job Order Costing u In a traditional job order costing system, detailed records are kept of the flow of costs for each job. Raw Materials Work In Process Finished Goods Labor & Support Resources

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Learning Objective 2 Understand how using job bid sheets is effective for estimation product costs in a job order costing system.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Bid Sheet u A job bid sheet is a format used for estimating job costs. u A bid sheet has five distinct panels.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Bid Sheet u Panel 1 identifies the customer. the product, and the number of units required. Bid Number: J4369Date: July 6, 2000 Customer: Michigan Motors Product: Automobile engine valves (Valve #L181) Engineering Design Number: JDR-103 Number of Units: 1,500

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Bid Sheet u Panel 2 lists all the materials required to complete the job. Materials Quantity Price Amount Bar steel stock 3”3,600 lbs$11.30$40,680 Subassembly1, ,500 Total direct materials$99,180

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Bid Sheet u Panel 3 lists the amount of direct labor required for the job. Labor Hours Rate Amount Lathe operators 480$26.00$12,480 Assembly workers ,200 Total direct labor1,380$26,680

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Bid Sheet u Panel 4 contains estimated for cost driver costs. Support CostsAmount 600 $40/hour$24,000 1,380 direct labor 49,680 Total support costs$73,680

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Bid Sheet u Panel 5 shows the total costs estimated for the job. Direct material$ 99,180 Direct labor 28,680 Support costs 73,680 Total costs$201,540

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Costs and Markup u Assuming that the markup rate is 25%, what is the bid price per unit? Total costs$201,540 Add 25% markup 50,385 Bid price$251,925 Unit cost$ Unit price$167.95

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Learning Objective 3 Use cost driver rates to apply support activity costs to products.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Determination of Cost Driver Rates u What is a cost driver rate? u It is the rate at which support activity costs are applied to individual jobs. Activity Cost Driver Rate = Normal Cost of Support Activity Normal Level of Cost Driver

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Determination of Cost Driver Rates u What are normal activity costs? u Normal activity costs are the costs of the resources committed to the particular activity. u What is the normal level of the cost driver? u The normal level of the cost driver is the long-term capacity made available by the amount of resources committed to the activity.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Determination of Cost Driver Rates u Determining realistic cost drivers rates have become increasingly important in recent years. u Why? u Because support costs now comprise a large portion of the total costs.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Determination of Cost Driver Rates u Support activity costs are caused by the level of capacity of each activity that is made available. u Activity cost driver rates should be calculated based on the normal cost per unit of the activity level committed.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Learning Objective 4 Discuss why cost systems with multiple cost driver rates give different cost estimates than cost systems with a single rate.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Number of Cost Pools u How many cost pools should there be? u A separate cost pool should be used if the cost or productivity of resources is different and if the pattern of demand varies across resources. u The optimal number of cost pools will change over time as an organization changes.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Number of Cost Pools u The increase in measurement costs required by a more detailed cost system must be traded off against the benefit of increased accuracy in estimating product costs. u If cost and productivity differences between resources are small, more cost pools will not make much of a difference in the accuracy of product cost estimated.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Learning Objective 5 Evaluate a cost system to understand whether it is likely to distort product costs and explain the importance of recording actual costs and comparing them with estimated costs.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Recording Actual Job Costs u In addition to preparing bids, job order cost accounting systems also record costs actually incurred on individual jobs. u This process allows comparison of actual costs with the estimated costs to determine whether unexpected variations occurred in the quantity of prices of the resources used.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Recording Actual Job Costs u When the company receives the customer’s order, it prepares the materials requisition. Materials Requisition Date: August 2, 2000 Note Number: M47624 From: Machining Department Approved by: Mike Machina (Machining Supervisor) Steve Stuart (Stores Supervisor) Job Number: J4369 Engineering Design: JDR-103

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Recording Actual Job Costs u A materials requisition note lists the materials required to begin production. Identification Description Quantity Rate Amount Number Bar steel 720 lbs $11.50 $8, stock 3”

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Recording Actual Job Costs u What is a time card? u A time card is a form used to record the hours spent by each worker, each day or week, on different jobs. u What is a job cost sheet? u It is a form for recording actual costs of a job.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Cost Sheet Job Number: J4369Date: August 12, 2000 Customer: Michigan Motors Product: Automobile engine valves Engineering Design Number: JDR-103 Number of units ordered: 1,500 u Panel 1

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Cost Sheet u Panel 2 Material Requisition Number Description Quantity Rate Amount Bar steel 720 lbs $11.50$ 8, stock 3” A35161 Subassemblies 290 units 38.00$11, Total direct materials cost$19,300.00

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Cost Sheet Dates Number Hours Rate Amount 8/2, 8/3, 8/4, 8/5 M16 24 $28.00$ /2, 8/3, 8/4, 8/5 M18, M19, M , /6, 8/7, 8/8, 8/9, 8/10 A25, A26, A , /6, 8/7, 8/8, 8/9, 8/10 A32, A34, A , Total direct labor cost 268$5, u Panel 3

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Cost Sheet u Panel 4 Support Costs Amount 117 Machine $40 per hour$ 4, Direct labor 36 per hour 9, Total overhead cost$

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Total cost$39, Number of units produced 290 Cost per unit$ Projected unit cost$ Job Cost Sheet u Panel 5

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Learning Objective 6 Appreciate the importance of conversion costs and the measurement of costs in multistage continuous- processing industries.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Multistage Process Costing Systems u What is continuous processing? u It is a process in which production of relatively homogenous products flows from one stage to the next. u At each successive process stage, there is further progress toward converting the raw materials into the finished product.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Multistage Process Costing Systems u What is multistage process costing? u It is a system for determining product costs in multistage processing industries. u What are some examples of multistage processing industries? – chemicals – basic metals – pharmaceuticals

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Multistage Process Costing Systems u In continuous processing, it is necessary first to determine costs for each stage of the process and then to assign their costs to individual products. u The costs of the material input required at various stages are identified.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Multistage Process Costing Systems u What are conversion costs? u They are the costs of production labor and support activities to convert the materials or product at each process stage. u Conversion costs are applied to products as they pass through successive process stages.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Learning Objective 7 Understand the significance of differences between job order costing and multistage- process costing systems.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Order and Multistage Process Costing u Multistage process costing systems have the same objectives as job order costing systems. u Both types of systems assign material, labor, and manufacturing support activity costs to products. u There are also important differences between job order and multistage process costing.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Order and Multistage Process Costing u What are the differences? u Differences can be grouped into four major points. 1 Production 2 Production requirements 3 Cost 4 Variances

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Order and Multistage Process Costing u In job order costing production is carried out in different jobs. u In multistage process costing, production is carried out continuously, semi- continuously, or in large batches.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Order and Multistage Process Costing u In job order costing, production requirements are different for the different jobs. u In multistage process costing, production requirements are homogeneous across products or jobs.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Order and Multistage Process Costing u In job order costing, costs are measured for individual jobs. u In multistage process costing, costs are measured for individual process stages.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Job Order and Multistage Process Costing u In job order costing, variances between actual and estimated direct material and direct labor costs are determined for each individual jobs. u In multistage process costing, variances between actual and estimated costs are determined for individual process stages.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Learning Objective 8 Understand the two-stage allocation process and service department allocation methods.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Two-Stage Cost Allocation u Traditional cost accounting systems assign operating expenses to products with a two- stage procedure. u What is this procedure? u In the first stage, expenses are assigned to production departments. u In the second stage, expenses are assigned to the products.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Two-Stage Cost Allocation u What are production departments? u They are departments that have direct responsibility for converting raw materials into finished products. u What are service departments? u They are departments performing activities that support production.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Two-Stage Cost Allocation Total Indirect Costs $1,550 $50$100 $200 $300$400$500 Service Departments Production Departments

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Two-Stage Cost Allocation Service department costs are allocated to production departments. Service Departments Production Departments $50$100 $200 $425$550$575

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Two-Stage Cost Allocation Production Departments Production department costs are allocated to jobs and products. Job 1 Job 2 Job 3 $425$550$575

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Conclusion u Melissa’s company’s job costing system was deficient in not distinguishing between the expert and regular types of labor. u It did not recognize that some of the support activity costs resulted from the availability of special tools and machines.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Conclusion u The costs of expert and regular labor and special tools and machines were all bundled together into a single cost driver rate of $61.20.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Conclusion u Instead of using a single cost driver rate, Melissa should use four different rates. 1 Expert labor and wage rates 2 Other labor wage rates 3 Depreciation and maintenance on physical plant 4 Depreciation and maintenance on special tools

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young End of Chapter 4

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Appendix

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Stage 1 Allocation u Direct allocation method: Allocates service department costs directly to production departments only. u Sequential method: Allocates service department costs to one service department at a time in sequential order. u Reciprocal method: Uses simultaneous equations.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Stage 1 Allocation u The following information pertains to “The Bicycle Shop”. u The shop has two production departments, Assembly and Machining, and two service departments, Scheduling and Administration.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Stage 1 Allocation u Total number of hours = 48,000 u Total number of employees = 24 u Scheduling is allocated using number of machine hours. u Administration is allocated using number of employees.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Stage 1 Allocation Scheduling Administration Department costs$60,000 $49,200 Hours 3,000 1,000 No. of employees 4 2

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Stage 1 Allocation Assembly Machining Department costs$260,000 $180,000 Hours 22,000 22,000 No. of employees 12 16

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Direct Method u How much is allocated to each production department? u The allocation of Scheduling to Assembly is: 22,000 ÷ 44,000 × $60,000 = $30,000 u The allocation of Scheduling to Machining is: 22,000 ÷ 44,000 × $60,000 = $30,000

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Direct Method u The allocation of Administration to Assembly is: 12 ÷ 18 × $49,200 = $32,800 u The allocation of Administration to Machining is: 6 ÷ 18 × $49,200 = $16,400

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Assembly Machining Department costs$260,000$180,000 Scheduling ($60,000) 30,000 30,000 Administration ($49,200) 32,800 16,400 Total$322,800$226,400 Direct Method

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Sequential Method u The allocation of Administration to Scheduling is 4 ÷ 22 or 18% × $49,200 = $8,856. u The allocation of Administration to Assembly is 12 ÷ 22 or 55% × $49,200 = $27,060. u The allocation of Administration to Machining is 6 ÷ 22 or 27% × $49,200 = $13,284.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Sequential Method Department Allocated costs costs Administration$49,200($49,200) Scheduling 60,000 8,856 Assembly260,000 27,060 Machining180,000 13,284 Scheduling costs to be allocated become $60,000 + $8,856 = $68,856

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Sequential Method u The allocation of Scheduling to Assembly is 22 ÷ 44 or 50% × $ 68,856 = $34,428. u The allocation of Scheduling to Machining is 22 ÷ 44 or 50% × $68,856 = $34,428.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Assembly Machining Department costs$260,000$180,000 Administration ($49,200) 27,060 13,284 Scheduling ($68,856) 34,428 34,428 Total$ $227,712 Sequential Method

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Reciprocal Method u S Ad A M Scheduling – 2% 49% 49% Administration 18% –55% 27% u Scheduling cost = $60, Ad u Administration cost = $49, S

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Reciprocal Method u Scheduling cost (S) = $60, ($49, S) u S = $60,000 + $8, S u.9964S = $68,856 u S = $69,105

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Reciprocal Method u Ad = $49, ($69,105) u Ad = $49,200 + $1,382 u Ad = $50,582

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Reciprocal Method S Ad A M Before allocation:$60,000$49,200$260,000$180,000 Allocation: (69,105) 1,382 33,86133,861 Allocation: 9,105(50,582) 27,820 13,657 Total$321,681$227,518

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Stage 2 Allocation u This stage require the identification of appropriate cost drivers for each production department. u It assigns production department costs to jobs and products while they are worked on in the departments.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Stage 2 Allocation u Dividing the costs accumulated in each production department by the total number of units of the corresponding cost driver gives the cost driver rates for each department.

 2001 Prentice Hall Business Publishing Management Accounting, 3rd ed., Atkinson, Banker, Kaplan, and Young Appendix End