# ACCTG 221 / ABC Costing

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3 EXAMPLE of ABC Costing 1. Identify and Define Activities and Activity Cost Pools At a publishing company, the ABC team, selected the following activity cost pools and activity measures: Activity Cost Pool Activity Measure customer orders - assigned all cost of resources that are consumed by taking and processing customer orders product designs - assigned all costs of resources consumed by designing products order size - assigned all costs of resources consumed as a consequence of the number of units produced customer relations - assigned all costs associated with maintaining relations with customers other - assigned all overhead costs that are not associated with the other cost pools customer orders -> number of customer orders product design -> number of product designs order size -> machine hours customer relations -> number of active customers other -> not applicable 2. Assign Costs to Activity Cost Pools assign the costs to the activity cost pools e.g. \$500,000 of indirect factory wages 25% of which is used in customer orders so, 25% of 500,000 = 125,000 and \$125,000 worth of indirect factory wages should be assigned to the customer orders activity pool ** note that there are no shipping costs as the cost is directly attributed to the customer

4 Finished product: 3. Calculate Activity Rates The ABC team determines that the company will have these total activities for each activity cost pool: - 1,000 customer orders new designs - 20,000 machine hours customer relations activities In order to calculate the activity rates, we divide the total cost for each activity by total activity levels: e.g. Customer Order Total: 315,000 Customer Orders: 1, ,000 1,000 Customer Order rate = \$315 per order 4. Assign Activity Costs to Products - first, identify all the activities related to a given product or service - second, determine how many units of each activity are used per unit of product - third, assign costs to products using the cost-driver rates for each activity Assume we want to calculate the costs of two jobs: Job 1 and Job 2 are received by one customer as follows: JOB units ordered with 2 separate orders - Each stanchion required 0.5 machine hours - Selling price is \$34 each - Direct materials total \$2,110 - Direct labor total \$1,850 - Shipping costs total \$180 JOB 2 - One order during the year - Each housing required 4 machine hours - Selling price is \$650 each - Direct materials total \$13 - Direct labor total \$50 - Shipping costs total \$25

5 What if we had done the previous example with a Traditional Costing System? Job 1 Job 2 Sales 13, Costs: Direct Materials (2,110) (13) Direct Labor (1,850) (50) Manufacturing Overhead (10,000) (200) How is the overhead calculated? - Manufacturing Overhead Rate? \$1,000,000 20,000 Machine Hours = \$50 per MH Job 1? 400 units x 0.5MH/unit x \$50 per MH = \$10,000 Job 2? 1 unit x 4MH/unit x \$50 per MH = \$200 Product Margin \$ (360) \$ 387 Customer Profitability Analysis: Margin for Job 1 -\$360 Margin for Job Total Margin 17 Less: Customer Relations 3,675 Customer Margin \$3,648

7 ACCTG 221 / Process Costing and Spoilage PROCESS COSTING (chapters 17 & 18) Process Costing Systems are for masses of identical/similar units of product or service (e.g. food) where the unit cost of a product or service is obtained by assigning total costs to many identical units each unit receives the same or similar amounts of direct materials costs, direct labor costs, and manufacturing overhead unit costs are computed by dividing total costs incurred by the number of units of output from the production process Job Costing Systems are for distinct, identifiable units of a product or service (e.g. house) There are 2 methods for PROCESS COSTING: - Weighted Average all units and costs are considered together to determine average cost per equivalent unit this is regardless of whether the costs were incurred last period or currently - FIFO costs are accounted for by layer cost per equivalent unit for this period is computed separately from the cost per equivalent unit for the last period How to calculate an equivalent unit? - the calculation differs depending on whether you are using WA or FIFO - the WA method calculates cost per EU of all work done to date (regardless of the period in which it was done) assigns this cost to EUs completed & transferred out of the process, and to incomplete units still inprocess WA costs is the total of all costs in the work-in-process account divided by the total equivalent units of work done to date the beginning balance of the work-in-process account (work done in a prior period) is blended in with current period costs (note, in a service business, you will have NO BWIP/EWIP account and so can only apply WA method) Steps for costing out production in process costings (same for both methods) 1. Summarise the flow of physical units of output 2. Compute output in terms of equivalent units 3. Summarise total costs to account for 4. Compute cost per equivalent unit 5. Assign total costs to units completed and to units in EWIP (ending work-in-process)

8 Example: Armando Company produces MP3 players and uses a WA process costing system for its manufacturing department. Armando has NO BWIP inventory. All direct materials are added at the beginning of the process and conversion costs are added gradually. Units started 24,000 Unit completed and transferred out 20,000 Units in process (material 100%, cc 25%) 4,000 Costs: Materials \$126,000 Conversion Costs 42,000 Total Costs \$168,000 Solution (using steps) 1) Units to account for MUST = units accounted for Units to account for: units in BWIP + units started (BWIP 0 + units started 24,000) Units accounted for: units completed + units in EWIP + spoilage (UC 20,000 + EWIP 4,000 + S 0) 2) Calculate equivalent units Materials Conversion Units completed 20,000 20,000 EWIP 4,000 1,000 Total Equivalent Units 24,000 21,000 < as 100% of material is present < as only 25% of CC complete, so only 25% of the total 4,000 3) Summarise the total costs to account for Cost of BWIP \$0 + costs added (materials \$126,000 & CC \$42,000) = Total Costs of \$168,000 4) Compute cost per equivalent unit Unit cost for material? \$126,000 24,000EU = \$5.25 Unit cost for CC? \$42,000 21,000EU = \$2.00 Total? \$ \$2.00 = \$7.25 5) Assign total costs to units completed and to units in EWIP Need to value inventories Goods transferred out? \$7.25 x 20,000 units = \$145,000 EWIP? (\$5.25 x 4,000) + (\$2.00 x 1,000) = \$23,000

9 EXAMPLE: Shiraz Company produces CD players and wants to use a weighted average process costing system. Here is the information for last month: - there was a BWIP of 1000 units, \$1000 cost (Materials 20% - \$400 and CC 60% - \$600) - there was NO damaged units Units started 10,500 Unit completed and transferred out 9,500 Units in process (material 25%, CC 37.5%)? Costs: Materials \$19,600 Conversion Costs 9,650 Total Costs \$30,250 remember! : units to account for = units accounted for BWIP - 1,000 Units completed - 9,500 Units started - 10,500 EWIP (plug) - 2,000 Solution (using steps) 1) Units to account for MUST = units accounted for Units to account for: units in BWIP + units started (BWIP 1,000 + units started 10,500) Units accounted for: units completed + units in EWIP + spoilage (UC 9,500 + EWIP 2,000 + S 0) 2) Calculate equivalent units (remem that in WA, the equiv units are not identified separately) Spoilage - 0 Materials Conversion BWIP <- IGNORE Units completed 9,500 9,500 Spoilages 0 0 < see above for % completion of BWIP < see above for % completion of units EWIP Total Equivalent Units 10,000 10,250 3) Summarise the total costs to account for BWIP (M\$400, CC\$600): \$1000 Completed Goods: \$? Costs added (M\$19,600, CC\$9,650): \$29,250 EWIP: \$? Total: \$30,250 Total: MUST BE \$30,250 4) Compute cost per equivalent unit Unit cost for material? (\$400 + \$19,600) 10,000EU = \$2 per EU Unit cost for Conversion Costs? (\$600 + \$9,650) 10,250EU = \$1 per EU Total? \$2 + \$1 = \$3 full cost per unit 5) Assign total costs to units completed and to units in EWIP Need to value inventories Goods transferred out? \$3 x 9,500 units = \$28,500 EWIP? (\$2 x 500) + (\$1 x 750) = \$1,750

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