6 CHAPTER Activity-Based Management and Cost Management Tools
ANSWERS TO REVIEW QUESTIONS
6-1 The two-dimensional activity-based costing model provides one way of picturing the relationship between ABC and ABM. The vertical dimension of the model depicts the cost assignment view of an ABC system. From the cost assignment viewpoint, the ABC system uses two-stage cost allocation to assign the costs of resources to the firm's cost objects. These cost objects could be products manufactured, services produced, or customers served. Depicted in the horizontal dimension of the model that follows is the process view of an ABC system. The emphasis now is on the activities themselves, the processes by which work is accomplished in the organization. The left-hand side of the model depicts activity analysis, which is the detailed identification and description of the activities conducted in the enterprise. Activity analysis entails the identification not only of the activities, but also of their root causes, the events that trigger activities, and the linkages among activities. The righthand side of the model depicts the evaluation of activities through performance measures. These processes of activity analysis and evaluation constitute activity-based management. The two-dimensional ABC model is depicted in the diagram on the next page. Activity analysis is the detailed identification and description of the activities conducted in an enterprise. Activity analysis entails the identification not only of activities, but also of their root causes, of the events that trigger them, and of the linkages among them. Three criteria for determining whether an activity adds value are as follows: (a) (b) Is the activity necessary? Is the activity efficiently performed?
2008 The McGraw-Hill Companies,
6-1
6-2
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
(c) Is the activity sometimes value-added and sometimes nonvalue-added?
McGraw-Hill/Irwin Inc. 6-2
2008 The McGraw-Hill Companies,
Solutions Manual
Diagram of two-dimensional ABC model (from review question 6-1 on preceding page): Cost Assignment View RESOURCE COSTS Assignment of resource costs to activity cost pools associated with significant activities Activity evaluation ACTIVITIES PERFORMANCE MEASURES
Process View Activity analysis ROOT CAUSES ACTIVITY TRIGGERS
Assignment of activity costs to cost objects using second-stage cost drivers COST OBJECTS (products or services produced; customers)
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-3
6-3
An activity's trigger is the preceding event that indicates that the activity should be performed. The activity's root cause is the event or activity that, if it had not occurred, would have prevented the activity in question from happening. For example, the event that triggers the activity of rework is the identification of a defective part during inspection. However, the inspection is not the root cause of the rework activity. The root cause of the defective part, and hence the need for rework, could lie in erroneous part specifications, in an unreliable vendor, or in faulty production. Four techniques for reducing or eliminating non-value-added costs that result from non-value-added activities are as follows: (a) (b) Activity reduction Activity elimination
6-4
(c) Activity selection (d) 6.5 Activity sharing
Examples of activity sharing include the use of common parts in several related products, and the use of a common service facility (e.g., a photocopying center) by several departments. Customer profitability analysis refers to using the concepts of activity-based costing to determine how serving particular customers causes activities to be performed and costs to be incurred. Examples of activities that can be differentially demanded by customers include order frequency, order size, special packaging or handling, customized parts or engineering, and special machine setups. Such activities can make some customers more profitable than others. Activity-based costing is used to analyze customer-related costs and determine the cost drivers for these costs. This ABC data then forms the basis for the customer profitability analysis by assigning the appropriate amount of customer-related costs to each customer.
2008 The McGraw-Hill Companies,
Solutions Manual
6.6
6-7
McGraw-Hill/Irwin Inc. 6-4
6-8
A customer profitability profile, usually expressed in graphical form, shows the companys cumulative operating income as a percentage of total operating income. The customers included in the profile generally are ranked either by operating income or by sales revenue. In some cases, companies do eliminate unprofitable customers. However, it is important for companies to not be too quick in doing so. Companies often develop customer relationships over long time horizons by offering low prices and a high level of service up front. As the relationship develops, however, the customer may not require the same level of service or might be willing to pay a premium for the service. Customer profitability analysis helps management see the overall financial picture for each customer, and how management can use this information to help establish a strategic plan for the coming months, quarters, or years. Management may decide that it is worth keeping an unprofitable customer now to maintain the potential for future profitability.
6-9
6-10 A trend analysis tracks customer-related costs over time to determine whether they are increasing, decreasing, remaining relatively stable or behaving in any particularly unusual manner. Trend analysis can help management decide which customerrelated costs need their attention most urgently, and which customers need the most attention. Perhaps even better than comparing the customer-related costs to the companys norms, would be to compare them to industry-wide norms, or the norms for the industrys best performers. Such information can sometimes be generated from benchmarking studies, which focus on the best practices of organizations both within the industry and beyond. 6-11 Continuous improvement may be defined as the constant effort to eliminate waste, reduce response time, simplify the design of both products and processes, and improve product quality and customer service. The price down/cost down concept is the tendency of prices to fall over the life cycle of a newly introduced product. Moreover, if prices are to fall over time, manufacturers must continually reduce costs.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-5
Target costing is the process of designing a product, and the processes used to produce it, in order to achieve a manufacturing cost that will enable the firm to make a profit when the product is sold at an estimated market-driven price. This estimated price is called the target price, the desired profit margin is called the target profit, and the cost at which the product must be manufactured is called the target cost. Value engineering (or value analysis) is a cost-reduction and process-improvement technique that utilizes information collected about a product's design and production processes and then examines attributes of the design and processes to identify candidates for improvement. The attributes examined include such characteristics as part diversity and process complexity. Kaizen costing is the process of cost reduction during the manufacturing phase of an existing product. The Japanese word kaizen refers to continual and gradual improvement through small betterment activities, rather than large or radical improvement made through innovation or large investments in technology. 6.12 Kaizen costing is most consistent with the old saying "slow and steady wins the race." Kaizen costing is the process of cost reduction during the manufacturing phase of an existing product. The Japanese word kaizen refers to continual and gradual improvement through small betterment activities, rather than large or radical improvement made through innovation or large investments in technology. 6.13 Employee empowerment is the concept that workers are encouraged to take their own initiative to improve operations, reduce costs, and improve product quality and customer service. Benchmarking is the continual search for the most effective method of accomplishing a task, by comparing existing methods and performance levels with those of other organizations, or with other subunits within the same organization. An example of benchmarking is an airline's determining how many of its competitors' flights are delayed and comparing the data with its own flight-delay record.
McGraw-Hill/Irwin Inc. 6-6
2008 The McGraw-Hill Companies,
Solutions Manual
The most effective methods of accomplishing various tasks in a particular industry, often discovered through benchmarking, are referred to as best practices. Reengineering is the complete redesign of a process, with an emphasis on finding creative new ways to accomplish an objective. Reengineering has sometimes been described as taking a blank piece of paper and starting from scratch to redesign a business process. Rather than searching continually for minute improvements, re-engineering involves a radical shift in thinking about how an objective should be met. 6-14 The theory of constraints (TOC) is a management approach that seeks to maximize long-term profit through proper management of organization bottlenecks or constrained resources. The key idea in TOC is to identify the constraints in a system that are preventing the organization from achieving a higher level of success. Then the goal is to relieve or relax those constraints. TOC recommends subordinating all other management goals to the objective of solving the constraint problem. For example, if limited capacity in a particular machining operation is increasing cycle time, reducing throughput, and reducing profits, then management would concentrate much of its efforts on expanding the capacity of that bottleneck operation. If efforts are continually made to relax constraints, continuous improvement in organizational performance is a likely result. 6-15 The elimination of production bottleneck activities is an example of the theory of constraints. (See the preceding answer.)
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-7
6-16 The philosophy of a just-in-time (JIT) inventory and production management system is that no materials are purchased and no products are manufactured until they are needed. The essence of the JIT philosophy is to reduce all inventories to their absolute minimum. 6-17 The key features of a just-in-time inventory and production management system are as follows: a smooth production rate; a pull method of coordinating steps in the production process; purchase of materials and manufacture of subassemblies and products in small lot sizes; quick and inexpensive setups of production machinery; high-quality levels of raw material and finished products; effective preventive maintenance of equipment; an atmosphere of teamwork to improve the production system; and multiskilled workers and flexible facilities. 6-18 "TQC" stands for total quality control. Since no parts are purchased or manufactured until they are needed for production in a JIT system, it is crucial that they be just right for their intended purpose. 6-19 In a just-in-time (JIT) production system, raw materials and parts are purchased or produced just in time to be used at each stage of the production process. This approach to inventory and production management brings considerable cost savings from reduced inventory levels. The key to the JIT system is the "pull" approach to controlling manufacturing. The diagram on the next page displays a simple multistage production process. The flow of manufacturing activity is depicted by the solid arrows running down the diagram from one stage of production to the next. However, the signal that triggers more production activity in each stage comes from the next stage of production. These signals, depicted by the dashed-line arrows, run up the diagram. We begin with sales at the bottom of the exhibit. When sales activity warrants more production of finished goods, the goods are "pulled" from production stage III by a signal that more goods are needed. Similarly, when production employees in stage III need more inputs, they send a signal back to stage II. This signal triggers production activity in stage II. Working our way back up to the beginning of the process, purchases of raw
McGraw-Hill/Irwin Inc. 6-8
2008 The McGraw-Hill Companies,
Solutions Manual
materials and parts are triggered by a signal that they are needed in stage I.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-9
The Pull Method in a JIT System
Purchasin g
Demand for raw materials and parts is signaled when there is a need in stage I for more inputs. Demand for production activity in stage I is signaled when there is a need in stage II for more inputs.
Producti on Stage I Producti on Stage II
Producti on Stage III
Demand for production activity in stage II is signaled when there is a need in stage III for more inputs. Demand for finished goods is signaled when sales activity warrants more finished units. This signal triggers manufacturing activity in the final stage of production (stage III).
Sales
Denotes flow of materials, parts, partially finished goods, and finished goods. Denotes a signal that more goods are needed at the next stage of production.
This pull system of production management, which characterizes the JIT approach, results in a smooth flow of production and significantly reduced inventory levels. 6-20 Five key features of JIT purchasing are as follows: only a few suppliers; long-term contracts with suppliers; materials and parts delivered in small lot sizes immediately before they are needed; only minimal inspection of delivered parts and materials; and grouped payments to each vendor.
McGraw-Hill/Irwin Inc. 6-10
2008 The McGraw-Hill Companies,
Solutions Manual
SOLUTIONS TO EXERCISES
EXERCISE 6-21 (25 MINUTES) 1. Airline: (a ) "Deadheading," the practice of flying a nonworking flightcrew member to another city to work on a flight departing from that location. The crew member sometimes displaces a paying customer. Preparing excess food for a flight, which is not consumed, because the flight occupancy was misforecast. Returning, repairing, or replacing lost or mishandled luggage.
(b ) (c )
(d Canceling a flight because of an aircraft maintenance problem ) that should have been prevented by routine maintenance. 2. Bank: (a ) (b ) Correcting customer account errors due to keypunch errors in the bank. Following up on checks or deposit slips lost by the bank.
(c) Performing banking procedures manually when the computer is down. (d ) (e ) 3. Defaulted loans made to risky borrowers as a result of inadequate credit checks. Losses due to employee embezzlement and petty theft.
Hotel: (a ) Breakage of dishes and glassware; loss of or damage to linens and towels.
2008 The McGraw-Hill Companies,
6-11
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
(b )
Loss of room keys.
(c) Overstaffing the front desk during nonpeak hours. (d ) Preparing excess food.
McGraw-Hill/Irwin Inc. 6-12
2008 The McGraw-Hill Companies,
Solutions Manual
EXERCISE 6-22 (40 MINUTES, PLUS TIME AT RESTAURANT) Several restaurant activities are listed in the following table, along with the required characteristics for each activity. Many other possibilities could be listed, depending on the level of detail. ValueAdded or NonValueAdded VA NVA
Activity Description Taking reservations Customers waiting for a table
Activity Trigger
Root Cause
Customer calls on phone Customer arrives, but no table is ready
Customer desires reservation An error was made in reservation; service is slow; customers are slow; customers arrive without reservations Customer's reservation (or turn in line) comes up; table becomes ready Kitchen staff needs to know what to prepare Meals are ready; customers are hungry An error was made in explaining the menu; there is an error in the printed menu description; meal was prepared wrong; customer is picky
Seating customers
VA
Table becomes available
Taking orders
VA
Customers indicate readiness to order Meals are ready
Serving meals to customers Returning meal to kitchen for revised preparation
VA
NVA
Customer complains about meal
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-13
McGraw-Hill/Irwin Inc. 6-14
2008 The McGraw-Hill Companies,
Solutions Manual
EXERCISE 6-22 (CONTINUED) Customers eating meal Clearing the table Delivering check to table Collecting payment VA Meals are served and are satisfactory Customers are finished Customers are hungry Customers have finished eating
VA VA
Customers are Customers need to finished ordering know amount of bill and eating Customers have Restaurant needs to produced cash or collect payment for credit card services rendered
VA
EXERCISE 6-23 (30 MINUTES) Answers will vary, depending on the registration process at a particular university.
EXERCISE 6-24 (15 MINUTES) Several activities performed (or at least supported) by an airline's ground employees, along with possible performance measures, are as follows: Activity Making reservations over the phone Performance Measure Reservations booked per hour Percentage of reservations with errors Number of customer complaints Tagging luggage Bags tagged per hour Percentage of bags incorrectly tagged
2008 The McGraw-Hill Companies,
6-15
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
Handling luggage
Bags handled per hour, per employee Number of bags damaged Percentage of bags sent to wrong destination
EXERCISE 6-24 (CONTINUED) Maintaining aircraft Maintenance procedures per shift, per employee (both routine and repair) Number of repair incidents per month Number of flight delays due to maintenance problems Number of passengers enplaned Number of customer complaints Average time required at gate to enplane passengers Number of aircraft departures per month Percentage of flights with delays Average delay per flight delayed
Enplaning passengers
Preparing aircraft for departure
EXERCISE 6-25 (30 MINUTES) Memorandum Date: To: From:
McGraw-Hill/Irwin Inc. 6-16
Today President, Big Apple Design Company I. M. Student, Controller, Big Apple Design Company
2008 The McGraw-Hill Companies,
Solutions Manual
Subject:
Customer-Profitability Analysis
The customer-profitability analysis ranks customers on the basis of operating income. As the graph shows, customers 5 and 6 are not profitable for Big Apple Design Company. There are several possible courses of action, including the following four: Drop customers 5 and 6. Raise the prices for customers 5 and 6. Cut the costs of serving customers 5 and 6 by cutting back on services. Try to increase higher-margin services to customers 5 and 6 in order to make these customer relationships profitable. EXERCISE 6-26 (25 MINUTES) 1. Customers ranked by sales revenue: (1) (2) (3) (4) (5) (6) (7) (8) (9) (10) 108 114 112 116 110 124 121 127 125 128 (11) (12) (13) (14) (15) (16) (17) (18) (19) (20) 113 135 133 106 111 107 134 119 136 137
Yes, the ranking by sales revenue is different from that based on operating income. 2. No, the companys least profitable customers are not the ones with the lowest sales revenue. The least profitable customers are numbers 119 and 134. Yes, the profile would be different, because the ordering of the customers along the horizontal axis would match the order in requirement (1) instead of the ordering in Exhibit 6-7.
2008 The McGraw-Hill Companies,
6-17
3.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
4.
A customer characterized by high sales revenue would not necessarily be the most profitable, because the customer may demand costly services such as special handling or packaging, frequent small shipments, or unique design features.
EXERCISE 6-27 (15 MINUTES) 1. Trend analysis (percentages rounded): Year 1 Year 2 Year 3 Year 4 Year 5
Customer-Related Cost Item
Cost of engineering 1.1% 1.9% 1.1% 1.1% 12.0 changes. % Special packaging. 11.0 % 11.5 % 13.0 % 12.0 % 12.0 %
McGraw-Hill/Irwin Inc. 6-18
2008 The McGraw-Hill Companies,
Solutions Manual
EXERCISE 6-27 (CONTINUED) 2. Conclusions: The cost of engineering changes for customer number 614, which remained consistently low for four years, spiked to a very high level in year 5. Something unusual must have occurred in year 5, and this should be investigated by management. Special packaging costs, although consistent across the five-year period, are quite high. This may be necessary, due to the special needs of customer number 614, but this consistently high cost should be investigated by management. There may be a way to cut this cost, possibly with the cooperation of the customer.
EXERCISE 6-28 (30 MINUTES) FedEx could use customer profitability analysis to analyze which customers (particularly commercial customers) are more expensive to serve and, thus, less profitable. See the discussion of FedExs use of customer profitability analysis in Chapter 6 of the text.
EXERCISE 6-29 (25 MINUTES) 1. Process time: steps 3, 5, 6, 7, 8, 10, 11 Inspection time: steps 1, 9 Move time: steps 2, 5, 6, 7, 10, 11 Waiting time: steps 4, 5, 7 Storage time: steps 1, 11
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-19
EXERCISE 6-29 (CONTINUED) 2. Candidates for non-value-added activities: (a ) (b ) Step 2: Step 4: Carrying ingredients on hand carts. Storing dough until bagel machine is free. (Could move toward a JIT system for dough mixing.) Keeping cut-out bagels until boiling vat is free. (Could move toward JIT system.) Carrying trays to vat room. Carrying bagels to oven room. Continual opening and closing of oven door. Consumption of misshapen bagels by the staff. (Could these faulty products be sold at a reduced price?) Carrying wire baskets to the packaging room. Driving forklift to freezer.
(c) Step 5: (d ) (e ) (e f (g ) (h ) (i) Step 6: Step 7: Step 7: Step 9:
Step 10: Step 11:
McGraw-Hill/Irwin Inc. 6-20
2008 The McGraw-Hill Companies,
Solutions Manual
EXERCISE 6-30 (40 MINUTES) (1 ) Redesigned bagel production process: (a ) Ingredients, such as flour and raisins, are received and inspected in the morning or afternoon they are to be used. Then they are placed on a conveyor belt that transports the ingredients to the mixing room next door. Dough is mixed in 40-pound batches in four heavy-duty mixers. The dough is placed on large boards, which are set on the conveyor. The conveyor transports the boards of dough into the bagel room next door.
(b )
(c) The board is tipped automatically and the dough slides into the hopper of a bagel machine. This machine pulls off a piece of dough, rolls it into a cylindrical shape, and then squeezes it into a doughnut shape. The bagel machines can be adjusted in a setup procedure to accommodate different sizes and styles of bagels. Workers remove the uncooked bagels and place them on a tray. The trays are set on the conveyor, which carries the uncooked bagels into an adjoining room. (d ) (e ) This room houses three 50-gallon vats of boiling water. The bagels are boiled for approximately one minute. Bagels are removed from the vats with a long-handled strainer and placed on a wooden board. The boards full of bagels are placed on the conveyor, which transports them to the oven room. The two ovens contain eight racks that rotate but remain upright, much like the seats on a Ferris wheel. A rack full of bagels is finished baking after one complete revolution in the oven. When a rack full of bagels is removed from the oven, a fresh rack replaces it. The oven door automatically opens and closes as each rack completes a revolution in the oven. After the bagels are removed from the oven, they are placed in baskets for cooling.
(f)
(g )
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-21
(h )
While the bagels are cooling, they are inspected. Misshapen bagels are removed and set aside for sale at a reduced price.
McGraw-Hill/Irwin Inc. 6-22
2008 The McGraw-Hill Companies,
Solutions Manual
EXERCISE 6-30 (CONTINUED) (i) (j) After the bagels are cool, the wire baskets are placed on the conveyor and transported to the packaging room next door. Here the bagels are dumped automatically into the hopper on a bagging machine. This machine packages a half dozen bagels in each bag and seals the bag with a twist tie. Then the packaged bagels are placed in cardboard boxes, each holding 24 bags. The boxes are placed in the freezer, where the bagels are frozen and stored for shipment. The freezer has a door in the packaging room, and another door in the shipping/receiving room.
(k ) (l)
(2 )
Key features of a JIT system: The new production process of Better Bagels, Inc. has a smooth, uniform production rate with each part of the process being initiated by the subsequent operation. Thus, the bagelry uses a pull method of coordinating production steps. The ingredients are purchased as needed in small lot sizes, delivered twice daily, and sent immediately to the mixing room. The bagel machine is designed for quick setups for different bagel sizes and consistency. Only high-quality ingredients are used in order to eliminate down time and to follow a total quality control philosophy. The machinery is carefully maintained. The bagelry's employees are encouraged to suggest improvements in the product or production process. Employees whose suggestions are adopted receive cash awards or peer recognition. All of the bagelry's employees are trained in each phase of the production process. Thus, Better Bagel's multiskilled work force enables the firm to operate with fewer employees.
(3 )
New equipment:
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-23
Better Bagels, Inc. would need to purchase a new conveyor system that would transport partially completed bagels between production steps. The conveyor would tip the bagels automatically into appropriate production machines at various points in the process. Also needed would be an efficient oven that would open and close automatically (and quickly) to minimize heat loss.
McGraw-Hill/Irwin Inc. 6-24
2008 The McGraw-Hill Companies,
Solutions Manual
EXERCISE 6-31 (25 MINUTES) 1. 2. 3. 4. Target cost = $125 $25 = $100 Target profit = $25 Target price = $125 Target costing involves designing a product, as well as the process used to manufacture it, so that ultimately the product can be manufactured at a cost that will enable the firm to make a profit when the product is sold at an estimated market-driven price. In the case of the photon gismo, the design engineering team needs to redesign the gismo and/or the production process so that the gismo can be manufactured for $100. Value engineering is a cost-reduction and process-improvement technique that utilizes information collected about a product's design and production process, and then examines this information to identify candidates for improvement. An example, in the context of the photon gismo, is using a machine to assemble several parts, instead of assembling them manually. The activity phase of a two-dimensional ABC system could help solve the problem with the photon gismo. This phase would identify activities in the gismo's production process, as well as the linkages, triggers, and root causes of those activities. For example, suppose that part of the photon gismo's cost includes the inspection of a particular component that is sometimes damaged in the assembly operation. Furthermore, suppose that the root cause of that damage is subsequently determined to be excessive tightening of a bolt on the mounting chassis for the photon gismo's parts. Eliminating the problem of excessive tightening would potentially also eliminate the need for inspecting the component.
5.
6.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-25
EXERCISE 6-32 (25 MINUTES) A wide range of answers is possible for this exercise. 1. All colleges and universities have admissions departments, course registration procedures, and teaching operations. All aspects of these operations could be benchmarked against similar institutions of higher education. For example, how does an undergraduate school of business administration with an enrollment of 1,000 students compare with five other similar business schools on the following dimensions: a. b. c. d. e. Average grade point average (GPA) of students admitted to the business school. Number of course offerings. Number of corporate recruiters visiting the campus. Average number of employment offers received per student. Percentage of graduates who try for professional certification and are successful in doing so. (For example, of the school's graduates who take the CPA or CMA examination, what is the percentage of students who pass the exam?)
2.
A college or university could also benefit from benchmarking "outside the box." All colleges and universities have grounds and maintenance departments, food service operations, and housing operations. So do hospitals and hotels. These types of college operations could be benchmarked against similar operations in hospitals or hotels. Colleges have course scheduling procedures. Scheduling is also an important activity in airlines, bus lines, railroads, hospitals, and landscaping firms, to name a few. Public service is an important component of the mission of many colleges and universities. Effectiveness in this area could be benchmarked against a service organization such as the American Red Cross.
McGraw-Hill/Irwin Inc. 6-26
2008 The McGraw-Hill Companies,
Solutions Manual
Academic advising and counseling for students in a college or university could be benchmarked against similar operations in employment search firms and human resources departments in for-profit businesses. In short, the sky's the limit on the kinds of organizations against which a college or university might effectively benchmark its operations.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-27
SOLUTIONS TO PROBLEMS
PROBLEM 6-33 (30 MINUTES) 1. If Kelifo Electric Vehicle Company (KEVCO) implements a "demand pull" production philosophy, both its planning and operating processes could experience the following effects. Planning
Production planning will change from a centralized batch
function process to a more decentralized activity. In some cases, production teams will be responsible for the entire production process of a product.
The method and timing of how the company prepares its
production schedule (including capacity requirements) will change to parallel the "demand pull" approach as opposed to the "production push" approach. quality, reliable, and flexible suppliers who can quickly deliver orders of varying sizes as needed.
The Purchasing Department will need to plan to have high-
Operations
Change-over time (set-up time) will reduce lead times
significantly.
A kanban-like system will have to be implemented. A
triggering device such as a kanban card is necessary so that the department or cell knows when to begin production. team arrangements.
Greater employee participation will result from cell production
McGraw-Hill/Irwin Inc. 6-28
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-33 (CONTINUED) 2. Five benefits to KEVCO in changing to a "demand pull" production operating philosophy are as follows:
Less rework and fewer defective units because of cell-level
accountability and control and product problem solving at the cell level. Handling, storage, insurance, breakage, and obsolescence all will be lower. times and higher quality.
A lower cash investment in inventory and plant space.
More satisfied customers should result because of shorter lead Improved labor productivity as a result of rearranging the
production process and the creation of manufacturing cell teams. relationships and communication.
A reduction of the number of suppliers, leading to improved
3. Some of the behavioral effects of the proposed change at KEVCO on team participation in planning and production include the following:
Higher team morale and motivation, since each cell team is
responsible for all cell production and will, therefore, have more control over their work and an increased sense of ownership. as management will encourage participation, training, and input on how to improve the product and production process. feel insecure or threatened by the change. goals and objectives of the organization.
Higher individual satisfaction, development, and motivation,
A possible resistance to change by those employees who may A sense of partnership with management in achieving the
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-29
McGraw-Hill/Irwin Inc. 6-30
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-34 (25 MINUTES) 1. Annual financial impact: Return on released funds [($3,600,000 - $600,000) x 12%] Savings in insurance and property taxes Lease revenue (30,000 square feet x 75% x $2). Depreciation on remodeled facilities ($600,000 10 years) .. Savings in warranty and repair costs... Salary savings*... Added stockout costs... Savings from JIT system...
$360,0 00 27,0 00 45,0 00 (60,0 00) 25,0 00 30,0 00 (70,0 00) $357,0 00
* Note: The cost of the two transferred employees is excluded because Alliance will continue to have these individuals on the payroll. 2. With a just-in-time purchasing system, companies avoid costly build-ups of raw-material inventories because materials and parts are ordered only when needed. The suppliers under such a system are highly reliable and deliver quality goods on time. Thus, despite the absence of inventories that firms can rely on if needed, the likelihood of excessive stockouts is fairly low. Long-term contracts under a JIT purchasing system set tight standards with respect to the quality of materials purchased. The quality is high, which reduces the need for incoming inspections. Under a traditional purchasing system, goods are purchased (frequently in large lots) and then placed in inventory until used. In contrast, with JIT, costly inventories are avoided by having the materials arrive just-in-time to be issued to production.
2008 The McGraw-Hill Companies,
6-31
3.
4.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
Materials are therefore purchased only when needed, which often translates into numerous small acquisitions throughout the period. PROBLEM 6-35 (30 MINUTES) 1. Activity-based management refers to the use of activity-based costing to improve operations and eliminate non-value-added costs. These costs arise from non-value-added activities operations that are either (a) unnecessary and dispensable or (b) necessary but inefficient and improvable. Put simply, such activities can be eliminated without harming overall quality, performance, or perceived value.
McGraw-Hill/Irwin Inc. 6-32
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-35 (CONTINUED) 2. Cost of non-value-added activities: Warehousing: 550 moves x $40a. Outgoing shipments: 250 shipments x $15b Total
a
$22,00 0 3,75 0 $25,75 0
Warehousing: $360,000 9,000 inventory moves = $40 per move b Outgoing shipments: $225,000 15,000 shipments = $15 per shipment 3. Extra inventory moves in the warehouse may be caused by books being shelved (i.e., stocked) incorrectly, poor planning for the arrival and subsequent placement/stocking of new titles, and other similar situations. Extra shipments would likely be the result of errors in order entry and order filling, goods lost in transit, or damaged merchandise being sent to customers. As the following figures show, the elimination of non-valueadded activities allows BookNet.Com to achieve the target-cost percentage for software only. CostDriver 2,000 Quantity 9,000 15,000 % Book s 70% 80% 25% % Softwar e 30% 20% 0* 75% 3,750 ** 11,000 CostDriver Quantity : Books 1,400 6,65 CostDriver Quantity: Software 600 1,800
4.
Activity Incoming receipts . Warehousin g. Outgoing shipment s
* (9,000 moves x 80%) 550
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-33
** (15,000 shipments x 75%) 250
McGraw-Hill/Irwin Inc. 6-34
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-35 (CONTINUED) Incoming receipts: 1,400 purchase orders x $150*...................................... 600 purchase orders x $150. Warehousing: 6,650 moves x $40... 1,800 moves x $40... Outgoing shipments: 3,750 shipments x $15 11,000 shipments x $15. Total cost. Cost as a percentage of sales: $532,250 $3,900,000 $327,000 $2,600,000 Books $210,000 $ 90,000 266,000 72,000 56,250 165,000 $532,250 $327,000 Software
13.65% 12.58%
Incoming receipts: $300,000 2,000 purchase orders = $150 per purchase order 5. Additional cost cutting of $25,250 is needed for books to achieve the 13% target of $507,000 ($3,900,000 x 13%). Tools that the company might use include customer-profitability analysis, target costing, value engineering, kaizen costing, benchmarking, and reengineering.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-35
PROBLEM 6-36 (50 MINUTES, PLUS TIME SPENT AT GROCERY STORE AND BANK) This is a chance to think carefully about how detailed and precise an activity analysis can be. It's also an opportunity to invoke your sense of humor and air your pet peeves about a couple of errands we all have to do routinely. There is clearly no single correct answer. Reasonable answers will vary widely. 1. Activity sequences and linkages: Grocery Store (1) Strategically choose time of day, keeping in mind (a) how urgent need is, (b) likely crowding, and (c) how well stocked the shelves will be (2) Drive or walk to store Bank (1) Strategically choose time of day and branch location
(2) Choose among inside teller window, drive-up lane, or ATM (3) Park car (4) Walk to front door (5) Prepare banking documents (6) Wait in line (7) Explain banking needs to teller (or operate ATM) (8) Wait while transaction is completed (9) Check teller's (or ATM's)
2008 The McGraw-Hill Companies,
Solutions Manual
(3) Park car (4) Walk to front door (5) Get cart; search parking lot if necessary (6) Walk aisles to find items (7) Read product labels (8) Compare prices (9) Select items
McGraw-Hill/Irwin Inc. 6-36
work (10 Strategically choose ) checkout line (Express line? Cash only? Which one is shortest? Which one is fastest? Which clerk is fastest? etc.) (1 Leave bank 0)
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-37
PROBLEM 6-36 (CONTINUED) (11 Wait in line; jockey for ) position if new checkout lane opens (12 Unpack cart ) (13 Items are checked out ) (14 Items are bagged (paper or ) plastic?) (15 Carry out bags (or have ) bags carried out) (16 Load car ) (17 Leave parking lot ) (1 Leave parking lot 1)
McGraw-Hill/Irwin Inc. 6-38
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-36 (CONTINUED) 2. Specifying whether an activity is value-added or non-value added often depends on how well the business is organized for the activity. For example, some grocery stores make it easier to park close to the entrance than do others. Thus, getting from your car to the front door could be value-added or non-value-added, depending on how convenient the store's parking lot is. The designations of VA or NVA will vary widely, depending on individual experiences. Grocery Activity (1) (2) (3)a (4)a (5)b (6)c (7)d (8)d (9) (10)e (11)e (12) (13) (14)f (15)g (16)g (17)h
a
Store VA or NVA VA VA VA, NVA VA, NVA VA, NVA VA, NVA VA, NVA VA, NVA VA NVA NVA VA VA NVA NVA NVA VA, NVA
Bank Activity (1) (2) (3)a (4)a (5)i (6)j (7)k (8)l (9)m (10) (11)h VA or NVA VA VA VA, NVA VA, NVA VA, NVA NVA VA, NVA NVA NVA VA VA, NVA
Depends on the configuration of the parking lot in relation to the design of the building and the location of the front door. b Getting a cart in the store or by the front door, VA; searching the parking lot, NVA. c Depends on the store layout. The author is inclined to say NVA, since it would be an improvement if grocery stores would adopt a standard layout (e.g., the soda always in aisle 4, or the dairy-case pizza always in aisle 6 on the end near the registers). d Depends on how convenient the store makes these tasks. Interestingly, this is one area where the law has helped the consumer. Stores now must display unit pricing information, and
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-39
food companies must include nutritional information on the labels of many items.
McGraw-Hill/Irwin Inc. 6-40
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-36 (CONTINUED) This part of grocery shopping drives the author up the wall. Why not have all non-express-lane customers wait in one line and then feed into the next available checkout lane? This configuration is typical of banks, but the author has seen it done in only one grocery store. f Bagging can be simultaneous with checking out, especially if bar code scanners are in use. g The store could adopt the technology of an automated materialhandling system (AMHS) here. Bags of groceries would be placed in bins with the customer's number indicated. Then the bins would be transported by conveyor to a location by the front door. When the customer drove up, a store employee would load the groceries into the car. The author has seen this system in operation, but rarely. h Depends on the configuration of the parking lot. i Depends on how user-friendly the documents are. j NVA, but a lot better than in a typical grocery store. See note (e) above. k Depends on the bank's operating procedures and level of teller training. l Electronic operating systems process transactions much faster than do manual systems. m NVA, because we wouldn't have to check if errors were extremely rare or nonexistent.
e
3.
Two striking examples of successful reengineering are the widespread introduction of bar code scanners by grocery stores (and other retailers) and ATMs (automatic teller machines) by banks. The introduction of electronic banking (from the home) is another emerging example of reengineering in the banking industry. Similarly, the introduction of shopping services and telephone ordering by grocery stores continues the reengineering process in this industry. Also, many retail companies are dramatically reengineering their sales and billing procedures due to the ever-increasing use of buying via the Internet.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-41
PROBLEM 6-37 (30 MINUTES) 1. Contribution margin of lost sales (20,000) units: Revenue..................................................... Variable costs: Costs of goods sold.............................. Selling and administrative................... Total variable costs.............................. Unit contribution margin............................ Volume of lost sales................................... Total contribution margin of lost sales. Overtime premiums.................................... Rental savings............................................ Rental income from owned warehouse (12,000 sq. ft. .75 $1.50)................. Elimination of insurance............................. Opportunity cost of funds released from inventory investment: Investment in inventory....................... Interest before taxes........................... Estimated before-tax dollar savings............ *Total amount on the income statement 900,000 units The cost of overtime premiums, $40,000, is less than the additional forgone contribution margin if the overtime is not used (15,000 units $6.50 = $97,500). Therefore, the overtime should be used.
$12.00* $4.50* 1.00* $5.50 $ 6.50 20,000 $(130,00 0) (40,000) 60,000 13,500 14,000
$600,00 0 .20
120,000 $ 37,500
McGraw-Hill/Irwin Inc. 6-42
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-37 (CONTINUED) 2. Conditions that should exist in order for a company to install justin-time inventory methods successfully include the following:
Top management must be committed and provide the
necessary leadership support companywide coordinated effort. in order to ensure a
A detailed system for integrating the sequential operations of
the manufacturing process needs to be developed and implemented. Raw materials must arrive when needed for each subassembly so that the production process functions smoothly. goods planning and production scheduling.
Accurate sales forecasts are needed for effective finished Products should be designed to use standardized parts to
reduce manufacturing time and decrease costs. with minimum lead time must be identified.
Reliable vendors who can deliver quality raw materials on time
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-43
PROBLEM 6-38 (45 MINUTES) 1. Two dimensional ABC: Cost Assignment View RESOURCE COSTS Assignment of resource costs to activity cost pools associated with significant activities Activity evaluation PERFORMANCE MEASURES
(see req. (4) for examples)
Process View Activity analysis
123 789 11 12 13 45 10 6 14 15 16
(see req. (3) for examples)
ROOT ACTIVITY CAUSES TRIGGERS
(see req. (2) for examples)
ACTIVITIES
Assignment of activity costs to cost objects using second-stage cost drivers COST OBJECTS (Product lines: cooking utensils, tableware, flatware)
McGraw-Hill/Irwin Inc. 6-44
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-38 (CONTINUED) 2. Triggers for selected activities: Activi ty Trigger Numb er (2) Realization by purchasing personnel that they do not fully understand the part specifications (9) (11) (12) (13) 3. Realization by purchasing personnel that the ordered part will be (or may be) late in arriving Receipt of order Discovery during inspection that parts do not meet specifications Discovery that parts do not satisfy intended purpose
Possible root causes: Activi ty Possible Root Causes* Numb er (2) Unclear specifications Incomplete specifications Clear, but apparently wrong, specifications Undertrained purchasing personnel (9) Vendor delay Delay in placing order Failure by purchasing personnel to make deadline clear Use of vendor that has not been fully certified as a reliable supplier Critical importance of parts Misspecification of parts Error by purchasing personnel in placing order Vendor error Inspector error Misspecification of parts
2008 The McGraw-Hill Companies,
6-45
(11)
(12)
(13)
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
Incomplete specifications Poor product design Error by purchasing personnel in placing order Vendor error *This list is not necessarily complete. Other root causes may exist.
McGraw-Hill/Irwin Inc. 6-46
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-38 (CONTINUED) 4. Suggested performance measures: Activi ty Numb er (5) (6) (10) (12) (16) Performance Measures Average price paid Number of vendors Number of vendors that are precertified as dependable Percentage of orders received on time Average delay for delinquent orders Number of orders returned Percentage of orders returned Average dollar value tied up in parts inventory
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-47
PROBLEM 6-39 (40 MINUTES) 1. The net cash savings realized by AgriCos Service Division as a result of the just-in-time inventory program is $43,000, computed as follows: Cash Savings (loss) Funds released from inventory investment Interest..................................................... Insurance savings ($80,000 .60).......... Warehouse rental revenue [(8,000 sq. ft. .75) $2.50 per sq. ft.]. Warehouse rental cost: no effect............... Transferred employees: no effect.............. Contribution of lost sales (3,800 units at $10.00)*.................................................... Overtime premium (7,500 units at $5.60). . Net cash savings....................................... *Calculation of unit contribution margin: Revenue ($6,160,000 280,000 units)....... Less variable costs: Cost of goods sold ($2,660,000 280,000 units) Selling and administrative expenses ($700,000 280,000 units) Contribution margin..........................................
$400,00 0 .15
$60,000 48,000 15,000 (38,000 ) (42,000 ) $43,000
$22.00 $9.5 0 2.50
12.00 $10.00
The incremental cost of $5.60 per unit for overtime is less than the additional $10.00 per unit contribution for the 7,500 units that would have been lost sales. Therefore, the overtime hours should be used.
McGraw-Hill/Irwin Inc. 6-48
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-39 CONTINUED) 2. Factors, other than financial, that should be considered before a company implements a JIT inventory program include:
Customer dissatisfaction: Stockouts of finished goods or spare
parts could result in customers' downtime, which may be costly. goods can impair the manufacturer's image with its distributors, who represent the direct contacts with the ultimate customers. frequent orders can result in higher material and delivery costs from suppliers. Additionally, with changes in their production and procurement processes, suppliers may choose to discontinue supplying to a just-in-time customer.
Distributor relations: Stockouts of spare parts or finished
Supplier dissatisfactions: Placement of smaller and more
Competition: The marketplace will determine the impact of
service degradation due to stockouts. Brand loyalty can deteriorate when service standards are lowered. Therefore, it is crucial that before adopting JIT, management think through all the implications. It is important to maintain the company's prior service standards and if possible to improve on them.
3. In the electronic version of the solutions manual, press the CTRL key and click on the following link: BUILD A SPREADSHEET
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-49
PROBLEM 6-40 (50 MINUTES) 1. Predetermined overhead rate manufacturoverhead ing = budgeted budgeted -labor direct hours = $1,496,000 20,000 hr = $74.80 per hr. 2. There is no single correct response to this requirement. One reasonable response is shown in the following table. Overhead costs are categorized into nine cost pools designated (a) through (i). Cost drivers are identified as follows: (a ) (b ) Production (in units) Raw-material cost
(c) Factory space (d ) (e ) (f) (g ) (h ) (i) 3. 4. Machine hours Production runs Shipments of finished goods Shipments of raw materials Number of different raw materials and parts used in a product Engineering specifications and change orders
See the following table. See the following table.
2008 The McGraw-Hill Companies,
Solutions Manual
McGraw-Hill/Irwin Inc. 6-50
PROBLEM 6-40 (CONTINUED) Req. (2) Cost Pool and Cost Driver h d d d c a e d c c d b b c a a b a c h i g g a a f Req. (3) Producti on Activity process process process process process process process process process process process move move process process process process process process process process inspectio n process inspectio n process move X Req. (4) Candidat e for Eliminati on
Overhead Item Supervision............................. Machine maintenancelabor.. . Machine maintenance materials................................ Electrical power...................... Natural gas (for heating)......... Factory supplies...................... Setup labor............................. Lubricants............................... Property taxes........................ Insurance................................ Depreciation on manufacturing equipment........................... Depreciation on trucks and forklifts.................................. Depreciation on material conveyors............................... Building depreciation.............. Grinding wheels...................... Drill bits.................................. Purchasing.............................. Waste collection...................... Custodial labor........................ Telephone service................... Engineering design................. Inspection of raw materials..... Receiving................................ Inspection of finished goods.... Packaging............................... Shipping................................. Wages of parts clerks (find
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
X
2008 The McGraw-Hill Companies,
6-51
parts for production departments)...... Wages of material handlers..... Fuel for trucks and forklifts..... Depreciation on raw-material warehouse........................... Depreciation on finishedgoods warehouse........................... PROBLEM 6-40 (CONTINUED) 5.
h b b b a
storage move move storage storage
X X X X X
Activity accounting identifies the costs and other performance measures that pertain to significant activities in the firm. Identification of activities and their costs helps management to identify and examine non-value-added costs. For example, management may be able to eliminate (or significantly reduce) the cost of fuel and depreciation for the trucks and forklifts and the wages of material handlers by installing an automated material-handling system. Similarly, adoption of a JIT approach to production could enable management to eliminate or reduce the wages of parts clerks and the depreciation on the two warehouses.
6.
Computation of pool rate: Receiving.................................................................. Inspection of raw material......................................... Total......................................................................... Pool rate = $40,000 budgeted cost = 400 budgeted ofcost river level d = $100 per shipment $20,000 20,000 $40,000
PROBLEM 6-41 (40 MINUTES) 1. Customer-profitability analysis: Trace Telecom Sales revenue...........................................
McGraw-Hill/Irwin Inc. 6-52
Caltex Computer $123,800
Solutions Manual
$190,000
2008 The McGraw-Hill Companies,
Cost of goods sold.................................... Gross margin............................................ Selling and administrative costs: General selling costs............................. General administrative costs................. Customer-related costs: Sales activity.................................... Order taking..................................... Special handling............................... Special shipping............................... Total selling and administrative costs....... Operating income..................................... PROBLEM 6-41 (CONTINUED) 2. Customer-profitability graph:
80,000 $110,000 $ 24,000 19,000 8,000 3,000 40,000 9,000 $103,000 $ 7,000
62,000 $ 61,800 $ 18,000 16,000 6,000 4,000 30,000 10,000 $ 84,000 $ (22,200)
25,000 Customer Operating Income (in dollars) 20,000 15,000 10,000 5,000 0 -5,000 -10,000 -15,000 -20,000
McGraw-Hill/Irwin I-25,000 nc. Managerial Accounting, 7/e
$7,000
Custom er
$ The McGraw-Hill Companies, 2008(22,200) Trace Telecom Caltex Com puter
6-53
PROBLEM 6-41 (CONTINUED) 3. In the electronic version of the solutions manual, press the CTRL key and click on the following link: Build a Spreadsheet
PROBLEM 6-42 (45 MINUTES) 1. Customer-profitability profile (supporting details in the table following the profile): Cumulative Operating Income as a Percentage of Total Operating Income
120% 110% 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% 1 2 3 4 5 6 7 8
Customers*
*Customers ranked by operating income.
McGraw-Hill/Irwin Inc. 6-54
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-42 (CONTINUED) Supporting details for customer-profitability profile: Cumulative Operating Profit as a Cumulati Percentage ve of Operatin Operating g Profit Income $ 93,000 164,000 224,000 266,000 273,000 279,000 261,000 238,800 39% 69% 94% 111% 114% 117% 109% 100%
Custom er Number
a
Customer Network-All, Inc.
Operati ng Profit $93,00 0 Service 71,000
(1) (2) (3) (4) (5) (6) (7) (8)
a
Golden Gate Associates Graydon Computer 60,000 Company Mid-State Computing 42,000 Company Trace Telecomb 7,000 The California Group 6,000 Tele-Install, Inc. (18,000 ) c Caltex Computer (22,200 )
b
Customer numbers are ranked by operating income. From solution to preceding problem. c From solution to preceding problem. 2. Date: To: From: Subject: Memorandum Today I. Sellit, Vice President for Marketing I. M. Student Customer-profitability profile
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-55
The attached customer-profitability profile shows that two of our customer relationships are unprofitable (Tele-Install, Inc. and Caltex Computer). As the profile shows, over half of our operating income is generated by our two most profitable customers, and 94 percent of our operating profit is generated by our three most profitable customers. Without our two unprofitable customers, our operating income would be 17% higher. An activity-based costing analysis of customer-related costs provided the data for the customer-profitability analysis portrayed in the profile.
McGraw-Hill/Irwin Inc. 6-56
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-43 (40 MINUTES) 1. Referring to the specific ethical standards for management accountants of competence, confidentiality, integrity, and credibility, Marie Waters violated the following standards of ethical conduct when she asked Andrew Fulton to suppress pertinent information. Competence.: Marie Waters, controller, has a responsibility to:
Provide decision support information and recommendations
that are accurate, clear, concise, and timely.
In this instance, Waters' request to Fulton, the assistant controller, to suppress information about the component failures is unethical. This action keeps both Waters and Fulton from performing their duties in accordance with technical standards and has a favorable impact on earnings as requested by Jack March, vice president of manufacturing. The reported financial information, with the omission, lacks relevance and reliability for decision making. Management does not have a clear solution to overcome the component failure problem. Confidentiality: Does not apply. Integrity: Waters has a responsibility to:
Refrain from engaging in any conduct that would prejudice
carrying out duties ethically. discredit the profession.
Abstain from engaging in or supporting any activity that might
Waters' request is unethical since she has responsibilities to report all information of use to decision makers in the company. She should protect the overall interests and goal attainment of Resolute Electronics Corporation by encouraging further study of the problem by her staff, informing her superiors of this matter, and working with others to find solutions.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-57
PROBLEM 6-43 (CONTINUED) Credibility: Waters has a responsibility to:
Disclose all relevant information that could reasonably be
expected to influence intended users' understanding of the reports, analyses, and recommendations.
Waters' request is unethical because it would suppress information that could influence an understanding of the results of operations. Waters is also not communicating information objectively by withholding information about the contingent liability. 2. The steps that Andrew Fulton, assistant controller, could follow to resolve this situation are as follows:
Follow the established policy on ethical conduct at REC, if a
policy exists.
Fulton has discussed the matter with Waters. If a satisfactory
solution is not found and losses continue to mount, Fulton should discuss it again with Waters and may write a report detailing the probable economic effects of the situation and mentioning Waters' request to suppress the component failures. further and discuss the issue with her superior. If the matter is not resolved satisfactorily, Fulton should continue up through higher levels in the organization (eventually to the board of directors) until the matter is resolved. and objective advisor to obtain an understanding of possible courses of action. conflict still exists, Fulton may have no recourse but to resign and write an informative memorandum to the appropriate organizational representative.
Fulton should advise Waters that he intends to take the matter
Fulton should clarify the relevant concepts with a confidential
If, after exhausting all internal review levels, the ethical
Except where legally prescribed, communication of such
McGraw-Hill/Irwin Inc. 6-58
2008 The McGraw-Hill Companies,
Solutions Manual
problems to authorities or individuals not employed or engaged by the organization is not considered appropriate.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-59
PROBLEM 6-44 (45 MINUTES) 1. 2. 3. 4. 5. 6. See the graph on the following page. See the graph on the following page. See the graph on the following page. See the graph on the following page. See the graph on the following page. Kaizen costing seeks to lower costs during the manufacturing phase through continuous improvement in the production process. Costs are lowered through constant small betterment activities, which every employee in the company is trying to achieve. By lowering its costs and improving quality through continuous improvement efforts, the company will be in a better position to compete in the global market on both price and quality.
McGraw-Hill/Irwin Inc. 6-60
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-44 (CONTINUED) Cost per TV set
Cost base for current year $500 Actual cost perform ance at end of last year
Kaizen goal: cost-reduction am ount
Actual cost reduction achieved
$400
Kaizen goal: cost-reduction rate
Actual cost perform ance of current year Cost base for next year
$300
$200
$100
J an Feb Mar Apr May J un J ul Aug Sept Oct Nov Dec 12/31/x0 12/31/x1
Tim e
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-61
PROBLEM 6-45 (60 MINUTES) 1. Pickwick Paper Company: Current production process. Harvested trees Rail Woodyard (logs stored) Flume Plant Building 1 Debarker Chipping machines Bins (chips Small trucks Plant Building 2 Digester Fibers stored Conveyor Depressurize d blow tank Pallets (separated fibers Forklifts Winding machines Calenders (polishing) Refining area (treatment of fibers)
Shipping Loading Dock Labeling Labeled Building Labeling rolls stored
Forklifts
Pallets (rolls stored)
Paper machines
McGraw-Hill/Irwin Inc. 6-62
2008 The McGraw-Hill Companies,
Solutions Manual
PROBLEM 6-45 (CONTINUED) 2. Candidates for non-value-added costs: (a) Storage time. Logs in the woodyard and finished rolls of paperboard in the labeling building are stored for a long time. (b) Move time: A lot of effort and employee time is devoted to moving work in process. Logs are unloaded from the railroad cars and subsequently reloaded into the flume. Small trucks are used to transport chips to the digester in plant building 2. Forklifts are used to transport separated fibers to the refining area. Finally, forklifts are used to transport rolls of paperboard to the labeling building. (c) Wait time: Work-in-process inventory waits at several points in the production process until the next operation is ready to receive it. First, logs are stored in the wood yard. Second, chips are stored in bins near the chipping machines. Third, fibers are stored near the digester. Fourth, separated fibers are stored on pallets near the depressurized blow tank. Fifth, unlabeled rolls of paperboard are stored on pallets near the winding machines. As the problem states, the partially processed product sometimes waits for two to three days between production operations.
(d) Labor force: The labor force is probably larger than necessary. Much of this excess labor is involved in materialhandling operations. 3. Plan for revised production process: The plan for a new production process involves the following key changes: (a) Direct transfer of harvested trees from railroad cars to the flume. (b) Installation of an automated material-handling system (AMHS) to move all work in process after it enters plant building 1.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-63
(c)
No storage of work in process between production stages. Implementation of a pull method for production scheduling.
(d) New construction to house the AMHS between buildings. (e) Movement of the labeling machines to the other end of the labeling building, closer to the winding machines. (f) Reduction of finished-goods inventory.
PROBLEM 6-45 (CONTINUED) A diagram of the new process is shown on the next page. The steps in the new process are as follows: (1) Harvested trees arrive as needed for production by rail in the woodyard and are transferred to the flume. (2) Logs are moved by a flume into the plant where they pass through a debarker and are cut up into chips. (3) The chips are transported by the AMHS to the digester. (4) The chips then are placed in a digester, a large pressure cooker where heat, steam, and chemicals convert the chips into moist fibers. (5) The fibers are loaded onto the AMHS, which carries the fibers to a depressurized blow tank. This operation separates the fibers. (6) The AMHS is used to carry the separated fibers to the refining area, where the fibers are washed, refined, and treated with chemicals and caustic substances until they become pulp. (7) The wood pulp then enters the paper machines through a headbox, which distributes pulp evenly across a porous belt of forming fabric. (8) Water is removed from the pulp by passing the pulp over a wire screen. (9) Additional water is removed from the pulp in a series of
McGraw-Hill/Irwin Inc. 6-64
2008 The McGraw-Hill Companies,
Solutions Manual
presses. (1 0) (1 1) (1 2) (1 3) (1 4) Driers then remove any remaining water from the pulp. The AMHS carries the sheets of pulp to the calenders. The thin, dry sheets of pulp are then smoothed and polished by the calendars. The paperboard is wound into large rolls and placed on the AMHS. The rolls are labeled and stored for shipment in the labeling building. Inventory is minimized. The rolls of paperboard are shipped to customers from the new loading dock in the labeling building.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-65
PROBLEM 6-45 (CONTINUED) Pickwick Paper Company: New production process. Harvested trees Rail Logs transferred from railroad car to Flume Plant Debarker Automated Building 1 Material Handling System Chipping(AMHS) machines
Shipping
New Loading Dock Loading Dock Labelin Small quantities g of Buildin Labeling labeled rolls machines (new location)
New construction to connect buildings Plant Building 2 Digester Winding machines Calenders (polishing) Refining area (treatment of fibers)
New construction to connect buildings
Depressurized blow tank
Paper machines
McGraw-Hill/Irwin Inc. 6-66
2008 The McGraw-Hill Companies,
Solutions Manual
SOLUTION TO CASE
CASE 6-46 (45 MINUTES) 1. A proliferation of part numbers means that the company may be ordering and stocking many more types of unique parts than it needs to. Overordering and overstocking entail more costs in purchasing, receiving, inspecting, storing, and material handling than might otherwise be necessary. Long production cycles may indicate that the production process is inefficient. Inefficiencies, in turn, imply non-value-added costs. An ABC system can be used to help reduce costs by focusing attention on the problem of part number proliferation. a. The division's strategy is to be a product differentiator. It used to be a price leader, but now it must meet the market price, since new competitors have entered the market. Prices are currently being set by the market. Management's primary need is cost reduction so that the division can meet the market-driven price. More accurate product costs, while always desirable, are not the primary need here. The division will not be able to use cost-based pricing anyway. Cost reduction is the current goal of management. Part number proliferation is (at least partially) to blame for high production costs. The design engineers, who strive for "engineering elegance" in their product designs are largely to blame for part number proliferation. By designing products "from scratch," engineers often specify new partsthat is, parts that the division does not already use in its other products. An ABC system can help solve the problem of part number proliferation by focusing attention on it. One method of directing attention to this problem is to choose a cost driver that makes the design engineers aware of the implicit costs
2008 The McGraw-Hill Companies,
6-67
2. 3.
b. c.
d. e. f.
g.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
from specifying new unique parts in a product design.
McGraw-Hill/Irwin Inc. 6-68
2008 The McGraw-Hill Companies,
Solutions Manual
CASE 6-46 (CONTINUED) 4. The objective is to find a cost driver that charges to a product the costs associated with purchasing, receiving, inspecting, storing, and handling the parts used in the product. Possible candidates for such a driver include (1) direct-material cost, (2) number of parts, and (3) number of part numbers. Driver number (3), the number of part numbers (i.e., the number of different parts in a product), would probably work the best. It focuses most directly on the problem at hand: part number proliferation. By charging a product for all the myriad support costs that go along with using many different types of parts, the design engineers will see more clearly the adverse cost effect of using new parts in a product design. They will be encouraged, when it is possible, to use parts that the division already stocks. The hope is that the design engineers will begin to make cost-effective trade-offs between engineering elegance and product cost. 5. The answer to this question is similar in spirit to the answer to requirement (4). The ABC system could use cycle time as a cost driver in assigning production-line costs to products. Thus, the longer a product's cycle time, the longer its assigned product cost. In this manner, the costing system focuses attention on a problem that management feels is unnecessarily inflating production costs. In the illustration used in Chapters 5 and 6, the fundamental role of the ABC system was to achieve more accurate product costs by eliminating (or minimizing) the problem of cost distortion that is so common in traditional, volume-based product-costing systems. The role of the ABC system here is fundamentally different. The objective of the ABC system is to modify behavior. By choosing cost drivers that focus attention on the implicit costs of part number proliferation and long production cycles, the system encourages employees to change the way they do their work. The design engineers, for example, are encouraged to use common parts in product designs whenever possible rather than always designing from scratch to achieve engineering elegance.
6.
McGraw-Hill/Irwin Inc. Managerial Accounting, 7/e
2008 The McGraw-Hill Companies,
6-69
FOCUS ON ETHICS (See page 239 in the text.)
These scenarios explore ethical issues surrounding customer profitability analysis, when it is used to support differential treatment for preferred and nonpreferred customers. Students usually differ in their opinion about whether there are any ethical issues involved. Ethics aside, however, many students question whether these scenarios describe sound business practices. Many students, for example, argue that a student may be an undesirable banking customer during his or her student days, but what about later on? Would a bank not be wise to avoid alienating its future preferred customers during their years as students?
McGraw-Hill/Irwin Inc. 6-70
2008 The McGraw-Hill Companies,
Solutions Manual