Exercise – Activity-Based Costing (ABC)

Activity-Based Costing (ABC)

The slumping economy has prompted many businesses to go over their expenses with a fine tooth comb. As noted previously in the Marketing Teacher. Lassiter Boots was recently lauded for its efficiency. Although the award stressed process improvement initiatives, the company might also be congratulated for its implementation and use of activity based costing.

3. How might the possession of the most accurate production costs benefit a company?

  • A. Allow the sales team more certainty in marketing and promotion materials.
  • B. Encourage competitors to utilize prison labor.
  • C. Remove accounting method sanctions
  • D. Facilitate project bids based on more accurate cost estimates

4. Which of the following might be a negative outcome resulting from utilizing the Traditional costing model?

  • A. Negative Citing by the Basic Register of Illegal Activities
  • B. Increased production without corresponding increased profits
  • C. Increased incidence of basic occurrences
  • D. Revocation of membership to Activity Based Council

Anticipating the coming economic downturn, Lassiter began a study of its expenditures with an eye on saving money. During its first two years Lassiter had captured new markets as a result of its ability to adjust its machine set up to produce whatever a large contractor demanded on the spur of the moment.

At year end , Lassiter was surprised when its selling price did not cover all of the company’s production costs. Lassiter had employed a traditional accounting model which measured cost, based on machine hours. Lassiter values its privacy, but did provide an example based on a couple of procedural steps.

Because it had a ready inventory of materials needed for the spur of the moment opportunity, it was assumed profits would ensue. After and itemizing its current procedural steps, Lassiter delineated those costs employing activity-based costing. It was discovered that the previous model tended to mask the cost of altering its machine setup.

The Lassiter leadership team realized that the pre-preparation costs siphoned off potential profits. Below is a comparison of alternative accounting models assuming that Lassiter accepts an impromptu opportunity to manufacture a specialty boot.

Production Costs Calculation

By calculating production costs on a project by project (batch) basis, expenditures previously designated as overhead will now more accurately applied to each production purpose.

The cost per set up (assembly) is calculated by arriving at a total cost of machine hours operated and dividing that cost by the number of setups that occurred during the year.

With this overview in mind please answer the following questions:

1. A Traditional costing model might entail which of the following aspects?

  • A. An embroidered recognition of achievement affixed to a plaque
  • B. The accounting practice of basing costs on machine usage per hour
  • C. Conventional wisdom with regard to inventory depreciation methods
  • D. Wages established by regional standards for a five year period

2. A company which routinely adjusts factory procedures to pursue impromptu opportunities might benefit from which of the following accounting models?

  • A. Lone Wolf  Accounting Software
  • B. Senate sub-committee accounting principles
  • C. Labor Department pay rate guidelines
  • D. Activity-based accounting model