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Ch 4 HomeworkCh 4 Homework

Due for class discussion

next Monday

11/1/04

4-25, 4-26, 4-30, 4-31, 4-33, 4-34, 4-36, 4-37, 4-38

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Ch 4 Activity-Based CostingCh 4 Activity-Based Costing

Manufacturing Costs: DM, DL, MOH

Difference between Traditional and ABC Costing:

how MOH determined

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Traditional MOHTraditional MOH

MOH allocated based on estimated rates and actual activity level.

MOH rate calculated based on estimated cost and estimated activity level

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Traditional (con’t) Traditional (con’t)

Calculate MOH rate

MOHr=est mfg cost/est activity level

rate based on volume meausures:

DLH, DL$, RM$, Mach Hrs

MOHa = MOHr * actual activity level

(MOHa = MOH applied)

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Traditional Costing (con’t)Traditional Costing (con’t)

Two-step allocation: costs allocated to service departments, then to production

depts., then to products Inventory valuation required by GAAP

External financial statementsFirms with simple product lines that do not

differ in volume of production

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Traditional Costing Creates Traditional Costing Creates Cost DistortionCost Distortion

Diverse products with diverse production volumes

Overallocates cost to high-volume product (underallocates to low-volume product)

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ABC to the RescueABC to the RescueActivity Based Costing (ABC)

Assigns MOH to activity centers based on cause and effect relationship

Assigns costs to products based on consumption of activities

Costs vary not only by volume, but by any identifiable resource consuming activity

(redefining variable costs)

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ABC Costing StepsABC Costing Steps

Estimate ACDR (Activity Cost-Driver Rate)

ACDR=est. activity cost/practical capacity

ACDQ=Activity Cost-Driver Quantity

MOHa= ACDR * actual ACDQ

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ABC CautionsABC Cautions

The more activity centers

the more accurate cost assignments

the more it cost to do ABC costing

the more information available to managers

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ABC CautionsABC Cautions

Must balance need for accuracy with

cost of maintaining system

and

usefulness of one more cost item

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ABC Driver TypesABC Driver Types

Transaction drivers

Duration drivers

Intensity drivers

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Capacity termsCapacity terms

Theoretical Capacity

Practical Capacity

Unused Capacity (Excess Capacity)

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ABC and Unused CapacityABC and Unused Capacity

Unused capacity costs charged to decision-making level

Primary cost reductions through ABC result in unused capacity

Success of ABC depends on management’s ability to manage unused capacity

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Customer Profitability AnalysisCustomer Profitability Analysis

Evaluate customer profitability based on customer’s consumption of marketing,

selling, and distribution costs

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Customer Profitability (con’t)Customer Profitability (con’t)

20 -80 rule: 20% of customers provide 80% of sales

Customer profitability rule: most profitable 20% of customers generate

150% - 300% of profits

70% middle customers break-even

least profitable 10% of customers lose 50% - 200% profits

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Customer Profitability (con’t)Customer Profitability (con’t)

LARGE customers

are typically

either

MOST profitable

or

LEAST profitable

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Customer Profitability (con’t)Customer Profitability (con’t)

Converting Unprofitable customers into Profitable customers

Process Improvements

Activity-Based Pricing

Managing Relationships

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Successful ABC ElementsSuccessful ABC Elements

Clear business purpose

Commitment of Top Management

Workable ABC model

Planning and Care in handling resistance to change