Cost Accumulation Systems Paper 3

Answer (B) is correct. Design of an ABC system starts with process value analysis, a comprehensive understanding of how an organization generates its output. It involves a determination of which activities that use resources are value-adding or nonvalue-adding and how the latter may be reduced or eliminated. This linkage of product costing and continuous improvement of processes is activity-based management (ABM). It encompasses driver analysis, activity analysis, and performance measurement.

Answer (D) is correct. Analysis by activity provides for better cost control because of identification of nonvalue-adding activities. A value-added activity contributes to customer satisfaction or meets a need of the entity. A nonvalue-adding activity does not make such a contribution. It can be eliminated, reduced, or redesigned without impairing the quantity, quality, or responsiveness of the product or service desired by customers or the entity. For example, raw materials storage may be greatly reduced or eliminated in a just-in-time (JIT) production system without affecting customer value.

Answer (A) is correct. Value-chain analysis for assessing competitive advantage is an integral part of the strategic planning process. Value-chain analysis is a continuous process of gathering, evaluating, and communicating information for business decision making. A value chain depicts how customer value accumulates along a chain of activities that lead to an end product or service. A value chain consists of the activities required to research and develop, design, produce, market, deliver, and support its product. Extended value-chain analysis expands the view of the parties involved to include those upstream (e.g., suppliers) and downstream (e.g., customers).

Answer (A) is correct. ABC differs from traditional product costing because it uses multiple allocation bases and therefore allocates overhead more accurately. The result is that ABC often charges low-volume products with more overhead than a traditional system. For example, the cost of machine setup may be the same for production runs of widely varying sizes. This relationship is reflected in an ABC system that allocates setup costs on the basis of the number of setups. However, a traditional system using an allocation base such as machine hours may underallocate setup costs to low-volume products. Many companies adopting ABC have found that they have been losing money on low-volume products because costs were actually higher than originally thought.

Answer (D) is correct. ABC assigns overhead costs on the basis of multiple cost drivers instead of only one driver. Using the three cost drivers in the question produces the following calculation: Number of types of materials (12 × $12) $ 144 Number of units (17,500 × $.14) 2,450 Number of orders (30 × $77) 2,310 Total $4,904 Under the old method of allocation based on direct labor, the allocated amount would have been 4,500 ($30,000 × 15%), or $404 lower than under ABC.

Answer (B) is correct. ABC determines the activities that will serve as cost objects and then accumulates a cost pool for each activity using the appropriate activity base (cost driver). It is a system that may be employed with job order or process costing methods. Thus, when there is only one product, the allocation of costs to the product is trivial. All of the cost is assigned to the one product; the particular method used to allocate the costs does not matter.

Answer (C) is correct. With the automation of factories and the corresponding emphasis on activity-based costing (ABC), companies are finding new ways of allocating indirect factory overhead. One change is that plant-wide application rates are being used less often because a closer matching of costs with cost drivers provides better information to management. ABC results in a more accurate application of indirect costs because it provides more refined data. Instead of a single cost goal for a process, a department, or even an entire plant, an indirect cost pool is established for each identified activity. The related cost driver, the factor that changes the cost of the activity, also is identified.

Answer (B) is correct. Multiple rates are appropriate when a process differs substantially among departments or when products do not go through all departments or all processes. The trend in cost accounting is toward activity-based costing, which divides production into numerous activities and identifies the cost driver(s) most relevant to each. The result is a more accurate tracing of costs.

Answer (B) is correct. ABC is one means of improving a cost system to avoid what has been called peanut-butter costing. Inaccurately averaging or spreading costs like peanut butter over products or service units that use different amounts of resources results in product-cost cross-subsidization. This term describes the condition in which the miscosting of one product causes the miscosting of other products. In a traditional system, direct labor and direct materials are traced to products or service units, a single pool of costs (overhead) is accumulated for a given organizational unit, and these costs are then assigned using an allocative rather than a tracing procedure. The effect is an averaging of costs that may result in significant inaccuracy when products or service units do not use similar amounts of resources. The total change order cost is $6,000 [(8 + 2) × $600], the cost per machine hour is $1.20 {$6,000 ÷ [(2 × 1,000) + (3 × 1,000)] hours}, and the unit costs assigned on a machine-hour basis to X and Z are $2.40 ($1.20 × 2 hours) and $3.60 ($1.20 × 3 hours), respectively. However, if the change order costs are traced directly to X and Z, the unit costs assigned will be $4.80 [(8 orders × $600) ÷ 1,000 units] and $1.20 [(2 orders × $600) ÷ 1,000 units], respectively. Hence, the unit amount by which machine-hour-based assignment overcosts Z and undercosts X (the cross-subsidy) is $2.40 ($3.60 – $1.20 or $4.80 – $2.40).

Answer (A) is correct. This service organization produces three “products” (the three occupant categories), and the “units produced” equal occupant days. According to the ABC analysis, production involves two activities: (1) provision of residential space and meals and (2) OOA. The drivers of these activities are occupant days and nursing hours, respectively. Thus, the cost pool rate for the first activity (residential space and meals) is $120 per occupant day ($7,200,000 ÷ 60,000 days), and the cost pool rate for the second activity (OOA) is $25 ($7,500,000 ÷ 300,000 hours). The total cost for providing services to occupants in the low-usage category is $6,570,000 [($120 × 36,000 days) + ($25 × 90,000 hours)]. The daily cost rate for these occupants is therefore $182.50 ($6,570,000 ÷ 36,000 occupant days).