© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Financial & Managerial Accounting The Basis for Business Decisions FOURTEENTH EDITION Williams Haka Bettner Carcello

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin COSTING AND THE VALUE CHAIN Chapter 19

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Learning Objective LO1 To define the value chain and describe its basic components.

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin R & D and Design Suppliers and Production Distribution and Marketing Customer Service The value chain is the set of activities and resources necessary to create and deliver products and services valued by customers. The Value Chain

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Learning Objective LO2 To distinguish between non-value-added and value-added activities.

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Non-value-added activities add cost without additional desirability, and can be eliminated without reducing quality or performance. Value-added activities add to product’s or service’s desirability in customers’ eyes. IdentifyEliminate Non-value- added activities Value- and Non-Value-Added Activities

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Analysis and Classification Activities Value- and Non-value-Added Activities Non-value- Added Activities Reduce or Eliminate Value- Added Activities Continually Evaluate and Improve

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Value-added activities enhance the value of products and services in the eyes of the customer while meeting goals of the business. Designing to customer specification. Processing for just-in-time delivery to customers. Competent customer service. Value-added activities enhance the value of products and services in the eyes of the customer while meeting goals of the business. Designing to customer specification. Processing for just-in-time delivery to customers. Competent customer service. I love them! Value-Added Activities

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Non-value-added activities use resources without providing value to customers. Material and other inventory storage. Moving parts and materials in the factory. Waiting for work. Inspection. Creating scrap and rework. Product design without customer input. Non-value-added activities use resources without providing value to customers. Material and other inventory storage. Moving parts and materials in the factory. Waiting for work. Inspection. Creating scrap and rework. Product design without customer input. Get rid of them! Non-value-Added Activities

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Learning Objective LO3 To explain how activity-based management is related to activity-based costing (ABC).

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin What’s the difference between activity-based costing and activity-based management? Activity-Based Management

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Activity-based management focuses on managing the activities to reduce costs. We use Activity-based costing to: 1.Identify activities. 2.Create associated activity cost pools. 3.Identify an activity measure. 4.Create the cost per unit of activity. Activity-Based Management

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin  Chart activities needed to meet customer expectations.  Use ABC to determine cost of activities.  Classify all activities as value-added or non-value-added.  Improve value-added activities and eliminate non-value-added activities. Activity-Based Management across the Value Chain

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin A ABC: a Subset of Activity-Based Management Analyze activities for non-value added activities Collect external benchmark information Manage activities Determine cost per unit of activity Identify activity measures Create cost pools Identify activities ABC Activity-Based Management

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Learning Objective LO4 To describe the target costing process and list is components.

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Focused on design. Consideration given to the entire value chain. Focused simultaneously on profit and cost planning. Driven by the customer. Target costing is aimed at the earliest stages of new product and service development. The Target Costing Process

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Concept development Planning and market analysis Production design and value engineering Production and continuous improvement Target price Profit margin Target cost Establishing the Target Price Attaining the Target Cost Components of the Target Costing Process

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Price Components of the Target Costing Process

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin  Develop products that satisfy customer needs.  Set target price using competitors’ prices and customers’ perceived value for product.  Target price – Profit margin = Target cost  Use value engineering to find least costly combination of resources to meet customer needs. Developing target prices and target costs requires four steps: Components of the Target Costing Process

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Life- cycle costing  Research, design, and development  Production  Marketing  Product discontinued and customer support ends Life-Cycle Product Costing and Pricing

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Pricing must generate revenue to cover costs of all phases of product life cycle.  Research, design, and development  Production  Marketing  Product discontinued and customer support ends Life-Cycle Product Costing and Pricing

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Learning Objective LO5 To identify the relationship between target costing and the value chain.

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin  Involve entire value chain in reducing costs while satisfying customer needs.  An understanding of relationships between process components and costs is critical.  A product’s functional characteristics to the customer are emphasized.  A primary objective is reducing development time.  ABC is used to determine changes that will reduce costs. Characteristics of the Target Costing Process

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Learning Objective LO6 To explain the nature and goals of a just-in-time (JIT) manufacturing system.

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Complete products just in time to ship to customers Complete parts just in time for assembly into products Schedule production Receive customer orders Receive materials just in time for production Just-In-Time Inventory Procedures

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Less warehouse space needed Reduced inventory carrying costs Reduced risk of obsolete inventory With reduced inventories, quality must be emphasized to avoid production delays and late deliveries. Just-In-Time Inventory Procedures

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin More rapid response to customer orders Greater customer satisfaction Higher quality products Less warehouse space needed Reduced inventory carrying costs Reduced risk of obsolete inventory Just-In-Time Inventory Procedures

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin  A limited number of suppliers who will make on-time deliveries of quality materials.  Quality that is “designed-in” and “manufactured-in” rather than “inspected-out”.  A well-trained flexible work force.  An efficient plant layout. Successful implementation of a JIT system requires: JIT, Supplier Relationships, and Product Quality

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Cycle Time Process Time + Inspection Time + Storage and Waiting Time + Move Time ProductionS tarted Goods Shipped Only the process time is value-added time. Measures of Efficiency in a JIT System

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Manufacturing Efficiency Ratio Value-added time Cycle time = Measures of Efficiency in a JIT System Cycle Time Process Time + Inspection Time + Storage and Waiting Time + Move Time ProductionS tarted Goods Shipped

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin If cycle time goes up, costs may go up, and delivery time may go down. Measures of Efficiency in a JIT System

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Learning Objective LO7 To identify the components of the cost of quality.

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Greater customer satisfaction Quality products and services Increased business volume Total quality Management and the Value Chain

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin  Prevention costs  Inspection of materials upon delivery  Inspection of production process  Equipment inspection  Employee training  Appraisal costs  Finished goods inspection  Field testing of products  Prevention costs  Inspection of materials upon delivery  Inspection of production process  Equipment inspection  Employee training  Appraisal costs  Finished goods inspection  Field testing of products Components of the Cost of Quality

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin  Internal failure costs – defects discovered before delivery to customers  Scrap materials  Rework  Reinspection of rework  Lost sales resulting from late deliveries  Internal failure costs – defects discovered before delivery to customers  Scrap materials  Rework  Reinspection of rework  Lost sales resulting from late deliveries Cost Report Components of the Cost of Quality

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin  External failure costs – defects discovered after delivery to customers  Warranty repairs  Product liability  Marketing costs to improve product image  Lost sales due to poor product quality  External failure costs – defects discovered after delivery to customers  Warranty repairs  Product liability  Marketing costs to improve product image  Lost sales due to poor product quality Components of the Cost of Quality

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Cost of prevention and appraisal Internal and external failure costs Components of the Cost of Quality

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Cost of prevention and appraisal Internal and external failure costs Ultimate Objective: Zero defects while minimizing all four quality cost categories. Components of the Cost of Quality

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Prevention and Appraisal External and Internal Failure Total Cost of Quality Low QualityHigh Quality Cost of Quality Direction of recent trend in industry. Components of the Cost of Quality

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Learning Objective LO8 To describe the characteristics of quality measures.

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Traditional managerial accounting systems may emphasize production quotas and cost minimization. Managers often find that emphasis on quality also increases productivity. Productivity and Quality

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Ethics, Fraud, and Corporate Governance To increase the accuracy and reliability of financial statements, the Sarbanes-Oxley Act requires public companies, and separately their auditors, to issue a report on the effectiveness of their internal control structures. Because a company’s value chain typically engages in transactions recorded in accounting records, the internal control structure must take into account the reliability of the entire value chain.

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin End of Chapter 19