chapter 17

Factory gets ___ goods in process

allocated - FOH costs cannot be directly traced to products - instead use predetermined OH rate to allocate the FO to GIPS

Overhead can be assigned to productions in three ways:

single plant-wide overhead departmental overhead rates activity-based costing

Plant Overhead rate

total budgeted overhead costs/total budgeted DLH

4 steps of ABC

1. identify activities and the costs they cause 2. trace overhead costs to cost pools 3. determine an activity rate for each activity cost pool 4. assign overhead costs to cost objects

Difference between ABC and departmental rates

ABC differs from using multiple departmental rates in how overhead cost pools are identified and in how overhead cost in each pool is allocated. ABC accumulates costing overhead costs into activity pools and then allocates those costs to products using activity rates. using 4 steps

Step 3 of ABC

Determine activity rates - compute the activity rates used to assign overhead costs to final cost objects such as products Proper determination of activity rates depends on: Proper identification of the factor that drives the cost in each activity cost pool. Proper measures of activities. A cost driver is that activity causing the costs in the pool to be incurred. An activity driver is a measure of activity level and is determined for use as the allocation base. Total cost in activity pool/measure of activity 2,000,000/200 batches

Does the method of overhead allocation really make a difference?

Overhead allocation to the standard go-karts is much less under ABC than under either of the volume-based costing methods. One reason for this difference is the large design modification costs that were spread over all go-karts under both the plantwide and departmental rate methods even though standard go-karts require no engineering modification.

Four types of activities that cause overhead costs

Unit level activities Batch level activities Product level activities Facility level activities

Two stages of ABC

The basic principle underlying activity-based costing is that activities, which are tasks, operations, or procedures, are what cause costs to be incurred. A cost pool is a collection of costs that are related to the same or similar activity. Pooling costs to determine a pool rate for all costs incurred by the same activity reduces the number of cost assignments required.

Departmental overhead rate method: second stage 2

The final part of the second stage is to apply overhead costs to each product based on departmental overhead rates.

KartCo. manufactures two models of go-karts, standard and custom. They use a plantwide rate and use direct labor hours as the allocation base

Total direct labor hours = number of product units x direct labor hours per unit per product

Step 2 of ABC

Trace overhead cost to cost pools assign activities and their overhead costs to cost pools. Overhead costs are commonly accumulated by each department in a traditional accounting system. Some of these overhead costs are traced directly to a specific activity cost pool.

Step 4 of ABC

assign overhead costs to cost objects - assign overhead costs to each activity cost pool to final costs objects using activity rates overhead costs in each activity cost pool are allocated to product lines based on the level of activity for each product line. After costs in all cost pools are allocated, the costs for each product line are totaled and then divided by the number of units of that product line to arrive at overhead cost per product unit. activities consumed x activity rate

Activity-based costing (ABC)

attempts to more accurately assign overhead costs to the proper users of overhead by focusing on activities.

product level

are performed on each product line and are not affected by either numbers of units or batches -product design is needed only for each product line. Product level costs do not vary with the number of units or batches produced.

batch level

are performed only on each batch or groups or units -machine setup is needed only for each batch regardless of the units in that batch, and customer order processing must be performed for each order regardless of the number of units ordered. Batch level costs do not vary with the number of units, but instead with the number of batches.

Facility level

are performed to sustain facility capacity as a whole and are not caused by any specific product - factory maintenance costs are incurred to keep the plant clean and safe no matter what is being produced, and so is paying rent on a factory building. Facility level costs do not vary with what is manufactured, how many batches are produced, or the output quantity.

unit level

are those tasks that must be performed on each unit of product. -unit may require that materials be cut

Plantwide OH rate method: goods and bad

goods: information is readily available, easy to implement, consistent with GAAp and used for external reporting needs bads: OH costs may not bear relationship with direct labor hours cannot use same proportion

Departmental overhead rate method: goods and bads

goods: more accurate overhead allocations, more refined than the plantwide overhead rate method bads: can distort product costs, assume that products are similar in volume/size(porportional)

Step 1 of ABC

identify activities and the costs they cause - machine setup -machine salaries -machine repair

Plantwide Overhead Rate method

indirect costs = overhead cost cost allocation base = single PWOR cost objects = product 1,2,3

departmental overhead rate method

overhead costs are first determined separately for each production department. Next, an overhead rate is computed for each production department to allocate the overhead costs of each product to products passing through that department. The departmental overhead rate method allows each department to have its own overhead rate and its own allocation base.

Departmental overhead rate method: second stage

total departmental overhead costs/ total unit number in departmental allocation base