Such a large change in applied overhead is nonsensical, since there is not always a direct relationship between the volume of production resources and factory overhead. This is a particularly common issue in highly automated production environments, where factory overhead is quite large and direct labor is close to nonexistent.įor example, a traditional costing calculation might find that factory overhead should be charged to products at the rate of $500 per direct labor hour, so if there is a slight change in the production process that increases direct labor by one hour, the cost of the product has just increased by $500 of overhead. The trouble with traditional costing is that factory overhead may be much higher than the basis of allocation, so that a small change in the volume of resources consumed triggers a massive change in the amount of overhead applied. Under this method, overhead is usually applied based on either the amount of direct labor hours consumed or machine hours used. While this approach may result in some allocations being arbitrary, using ABC does provide a more accurate estimate of costs for use in making management decisions.Traditional costing is the allocation of factory overhead to products based on the volume of production resources consumed. Some companies limit the number of activities used in the costing system to keep the system manageable. Computer systems are needed for complex ABC systems. The more activities identified, the more complex the costing system becomes. The number of orders, setups, or tests the product actually uses does not impact the allocation of overhead costs when direct labor dollars are used to allocate overhead.ĪBC provides a way to allocate costs more accurately when overhead costs are not incurred at the same rate as direct labor dollars. The reason for the differences is the traditional method determines the cost allocation using direct labor dollars only, so a product with high direct labor dollars gets allocated more of the overhead costs than a product with low direct labor dollars. For the solid center ball, the overhead calculated is $0.44 per unit using the ABC method and $0.53 per unit using the traditional method. The $0.52 is a more accurate cost for making decisions about pricing and production. In this example, the overhead charged to the hollow ball using ABC is $0.52 and much higher than the $0.35 calculated under the traditional method. Allocate overhead to each type of product by multiplying the overhead cost per direct labor dollar by the per unit direct labor dollars for hollow center balls and for solid center balls.Ī comparison of the overhead per unit calculated using the ABC and traditional methods often shows very different results:.Calculate the predetermined overhead rate by dividing total overhead costs by total direct labor dollars.The per unit cost to produce balls is calculated in two steps: Estimated direct labor costs for the year are $1,512,000, of which $378,000 is for hollow center balls and $1,134,000 is for solid center balls. Under the traditional method of allocating overhead based on direct labor dollars, the total costs for all balls would be divided by total direct labor dollars for all balls to determine the per unit cost. In this case, the unit cost for a hollow center ball is $0.52 and the unit cost for a solid center ball is $0.44. To calculate the per unit overhead costs under ABC, the costs assigned to each product are divided by the number of units produced. The activity by product is shown in the following table. The overhead costs incurred have been allocated to activity pools as follows:īy analyzing the activity pools, the accountants and production managers have identified the cost drivers, estimated the total expected units for each product, and calculated the unit cost for each cost driver. During the year, Busy Ball expects to make 1,000,000 hollow center balls and 2,000,000 solid center balls. The hollow center balls are packaged with two balls per package, and the solid center balls are packaged one per package. Between batches, the equipment is cleaned, maintained, and set up in the proper configuration for the next batch. The same equipment is used to produce the balls in different runs. The Cost of Goods Manufactured ScheduleĪssume the Busy Ball Company makes two types of bouncing balls one has a hollow center and the other has a solid center.Managerial and Cost Accounting Concepts.Financial Statement Analysis Limitations.Preparing the Statement: Indirect Method.Balance Sheet: Classification, Valuation.
0 Comments
Leave a Reply. |
Details
AuthorWrite something about yourself. No need to be fancy, just an overview. ArchivesCategories |