Don R. Hansen

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COST MANAGEMENT

• Don R. Hansen
• Maryanne M. Mowen

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Chapter Twelve
Activity-Based Costing
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Learning Objectives

• Describe the limitations of functional-based cost
  systems.
• Provide a detailed description of activity-based
  product costing.

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Learning Objectives (continued)

• Describe how homogeneous cost pools can be used
  to reduce the number of activity rates.
• Describe an activity-based relational database.

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Functional-Based ProductCosting Model
Direct Materials
Direct Labor
Overhead
Direct Tracing Driver Tracing Allocation
Direct Tracing
Direct Tracing
Plant/Departmental Cost Pools
Unit-Based Drivers
PRODUCTS
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Goodmark Company

• Goodmark Company produces two products scented
  and regular birthday cards. The company has the
  following actual and budgeted data
• Budgeted overhead 720,000
• Expected activity (DLH) 180,000

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Goodmark Company (continued)

• Scented Regular Card Card Total
• Units produced per year 20,000 200,000 --
• Prime costs 160,000 1,500,000 1,660,000
• Direct labor hours 20,000 160,000 180,000

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Goodmark Company (continued)

• Predetermined Overhead Rate Budgeted
  overhead ? Expected activity
• 720,000 ? 180,000 DLH
• 4.00 per DLH

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Goodmark Company Unit Cost Computation
Plantwide Rate

• Scented Regular
• Prime costs 160,000 1,500,000
• Overhead costs
• 4.00 x 20,000 80,000 ---
• 4.00 x 160,000 --- 640,000
• Total mfg. costs 240,000 2,140,000
• Units of production ? 20,000 ? 200,000
• Unit cost 12.00 10.70

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Goodmark Company Departmental Data

• Direct labor hours Cutting Printing Total
• Scented cards 10,000 10,000 20,000
• Regular cards 150,000 10,000 160,000
• Total 160,000 20,000 180,000
• Machine hours
• Scented cards 2,000 8,000 10,000
• Regular cards 8,000 72,000 80,000
• Total 10,000 80,000 90,000

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Goodmark Company Departmental Rates

• Overhead Rates
• Cutting Rate Budgeted OH / Expected DLH
• 216,000/160,000
• 1.35 per DLH
• Printing Rate Budgeted OH / Expected MH
• 504,000/80,000
• 6.30 per MH

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Goodmark Company Unit Cost Computation
Departmental Rate

• Scented Regular
• Prime costs 160,000 1,500,000
• Overhead costs
• (1.35 x 10,000) (6.30 x 8,000) 63,900 ---
• (1.35 x 150,000) (6.30 x 72,000)
  --- 656,100
• Total mfg. costs 223,900 2,156,100
• Units of production ? 20,000 ? 200,000
• Unit cost 11.20 10.78

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The Inadequacy of Plantwide and Departmental Rates

• There are at least two major factors that can
  impair the ability of the unit-based plantwide
  and departmental rates to assign overhead costs
  accurately (1) the proportion of nonunit-related
  overhead costs to total overhead costs is large,
  and (2) the degree of product diversity is great.

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Goodmark Company Activity Usage

• Scented Regular Cards Cards Total
• Units produced per year 20,000 200,000 --
• Prime costs 160,000 1,500,000 1,660,000
• Direct labor hours 20,000 160,000 180,000
• Number of setups 60 40 100
• Machine hours 10,000 80,000 90,000
• Inspection hours 2,000 16,000 18,000
• Number of moves 180 120 300

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Goodmark Company Additional OH Cost Data

• Activity Activity Cost
• Setting up equipment 240,000
• Moving material 120,000
• Machining 200,000
• Inspecting products 160,000
• Total 720,000

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Product Diversity Consumption Ratios

• Scented
  Regular Overhead Activity Cards
  Cards Activity Driver
• Setupsa 0.60 0.40 Production runs
• Moving materialsb 0.60 0.40 Number of moves
• Machiningc 0.11 0.89 Machine hours
• Inspectiond 0.11 0.89 Inspection hours
• a60/100 (scented) and 40/100 (regular)
• b180/300 (scented) and 120/300 (regular)
• c10,000/90,000 (scented) and 80,000/90,000
  (regular)
• d2,000/18,000 (scented) and 16,000/18,000
  (regular)

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Goodmark Company Activity Rates

• Activity rates are computed below
• Setting up equipment 240,000/100 2,400 per
  setup
• Moving materials 120,000/300 400 per move
• Machining 200,000/9,000 2.22 per MH
• Inspecting 160,000/18,000 8.89 per
  inspection hour

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Goodmark Company Unit Cost Computation
Activity Rates

• Scented Regular
• Prime costs 160,000 1,500,000
• Overhead costs
• Setting up 144,000 96,000
• Machining 222,000 177,600
• Inspecting 17,780 142,240
• Moving materials 72,000 48,000
• Total mfg. costs 415,980 1,963,840
• Units of production ? 20,000 ? 200,000
• Unit cost 20.80 9.82

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Comparison of Unit Costs

• 
  Scented Regular
• 
  Cards Cards
• Activity-based cost 20.80 9.82
• Functional-based cost
• Plantwide rate 12.00 10.70
• Departmental rate 11.20 10.78

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Activity-Based Costing Model
COST OF RESOURCES
Cost assigned using driver tracing and direct
tracing
ACTIVITIES
Costs assigned using activity drivers
PRODUCTS
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Activity-Based Costing System

• In designing as ABC system, there are six
  essential steps
• 1. identify, define, and classify activities and
  key attributes
• 2. assign the cost of resources to activities
• 3. assign the cost of secondary activities to
  primary activities
• 4. identify cost objects and specify the amount
  of each activity consumed by specific cost
  objects
• 5. calculate primary activity rates
• 6. assign activity costs to cost objects

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Activity Classification

• A primary activity is an activity that is
  consumed by a final cost object such as a product
  or customer.
• A secondary activity is one that is consumed by
  intermediate cost objects such as primary
  activities, materials, or other secondary
  activities.

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Activity Dictionary Cardiology Ward
Activity Activity Activity Cost Activity Name Desc
ription Type Object(s) Driver Supervising Scheduli
ng, Secondary Activities Percentage nurse coordina
ting, within time nurses and performance depart
ment spend on evaluation each
activity Treating Administering Primary Patie
nt types Number of patients medicine
and treatments changing dressings Providing B
athing, Primary Patient types Labor
hours hygienic care changing bedding
and clothes, walking patients Responding
to Answering Primary Patient types Number
of patient calls counseling, requests requests p
roviding snacks, etc. Monitoring Monitoring Prim
ary Patient types Monitoring patients vital
signs hours and posting
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Percentage of Time on Each Activity

• Activity
  Supervisor Nurses
• Supervising nurses 100 0
• Treating patients 0 25
• Providing hygienic care 0 20
• Responding to requests 0 40
• Monitoring patients 0 15

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Unbundling of General Ledger Costs

• ABC View
• Supervising 52,280
• Treating patients 90,000
• Providing hygienic care 76,600
• Responding to requests 133,200
• Monitoring 127,920
• Total 480,000

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Assignment of Secondary Activity Costs to Primary
Activities

• Treating patients a 103,070
• Providing hygienic care b 87,056
• Responding to requests c 154,112
• Monitoring patients d 135,762
• 90,000 (0.25 x 52,280)
• 76,600 (0.20 x 52,280)
• 133,200 (0.40 x 52,280)
• 127,920 (0.15 x 52,280)

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Rate Calculations

• Treating patients 103,070/30,000
• 3.44 per treatment
• Providing hygienic care 87,056/16,000
• 5.44 per hour of care
• Responding to requests 154,112/80,000
• 1.93 per request
• Monitoring patients 135,762/200,000
• 0.68 per monitoring hour

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Bill of Activities Cardiology Ward

• Activity
  Intensive
• Activity Driver Normal
  Intermediate Care Total
• Production (output) Patient days 10,000 5,000 3,00
  0
• Treating patients Treatments 5,000 10,000 15,000 3
  0,000
• Providing hygienic care Hygienic
  hours 5,000 2,500 8,500 16,000
• Responding to requests Requests 30,000 40,000 10,0
  00 80,000
• Monitoring patients Monitoring hours 20,000 60,000
  120,000 200,000

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Assigning Costs Final Cost Objects

• 
  Patient Type
• 
  Normal Intermediate Intensive Care
• Treating patients 17,200 34,400 51,600
• Providing hygienic care 27,200 13,600 46,240
• Responding to requests 57,900 77,200 19,300
• Monitoring patients 13,600 40,800
  81,600
• Total costs 115,900 166,000 198,740
• Units ? 10,000 ? 5,000 ? 3,000
• Nursing cost per patient day 11.59
  33.20 66.25

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Activity Categories

• Unit-level Activities are those that are
  performed each time a unit is produced.
• Examples Power and machine hours are used each
  time a unit is produced. Direct materials and
  direct labor activities are also unit-level
  activities, even though they are not overhead
  costs.

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Activity Categories (continued)

• Batch-level Activities are those that are
  performed each time a batch of products is
  produced.
• Examples Setups, inspections, purchasing, and
  material handling.

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Activity Categories (continued)

• Product-level (Sustaining) Activities are those
  activities performed that enable the various
  products of a company to be produced. These
  activities and their costs tend to increase as
  the number of different products increases.
• Examples Engineering changes, developing
  product-testing procedures, introducing new
  products, and expediting goods.

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Activity Categories (continued)

• Facility-level Activities are those that sustain
  a factory's general manufacturing processes.
• Examples Plant management, landscaping,
  maintenance, security, property taxes, and plant
  depreciation.

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ABC Data Base

• An ABC database is the collected data sets that
  are organized and interrelated for use by an
  organizations activity-based costing information
  system.
• A data set is a grouping of logically related
  data.

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End of Chapter 12