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CHAPTER 1 - The Changing Role of Managerial

Accounting in a Dynamic Business Environment


EXERCISE 1-28

PROBLEM 1-28 (30 MINUTES)

1. Line activities are primary to the purpose of the


organization. They are the activities that create and
distribute the goods and services of the organization. Line
reporting refers to the reporting relationship between
different hierarchical management levels in line activities
(e.g., the reporting relationship between the general
supervisor and the plant manager).

Staff activities are services provided by departments in


the organization in support of its line activities. The role of
the division controller in the division is an example of a
staff activity. The reporting relationship between the
division controller and the division manager is an example
of a staff reporting relationship.

2. a. The division controller is responsible to both the


corporate controller and the division manager. The
corporate controller assigns the division controller to the
division and has final responsibility for promotion and
salary. Thus, the division controller is an employee of the
controller's department and reports to the corporate
controller. At the same time, the division controller
serves as a staff resource to the division manager. The
division controller is required to file an independent
commentary on the division's financial results, which
could well differ from the division manager's
commentary.

The division manager evaluates the division


controller's performance and makes salary and promotion
recommendations to the corporate controller.

b. The motivation of the division controller would be


affected by this dual reporting relationship. The division
controller is being evaluated by two people whose
responsibilities are not always congruent. What may be
considered good performance by one person may be

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considered unsatisfactory by the other. Thus, the division
controller will have difficulty knowing what factors
influence his or her progress in the company. The
circumstances described in the problem do not provide
positive motivation for the division controller. Moreover,
the division controller is being asked to independently
report on the division’s performance, which may reflect
either favorably or unfavorably on the division manager.
Yet it is the division manager who makes salary and
promotion recommendations regarding the controller.

18-2
CHAPTER 2 - Basic Cost Management Concepts and
Accounting for Mass Customization Operations

PROBLEM 2-46 (25 MINUTES)


1. Fixed manufacturing overhead per unit: $1,200,000 ÷
24,000 units produced = $50

Direct material. $
40
Direct labor
74
Variable manufacturing
overhead 96
Fixed manufacturing
overhead 50
Average unit cost $2
60

Production 24,000
units
Sales 20,000
units
Ending finished-goods 4,000
inventory units

Cost of December 31 finished-goods inventory: 4,000 units


x $260 = $1,040,000
2.
Sales revenue (20,000 units x $7,400,
$370) 000
Cost of goods sold (20,000 5,200,0
units x $260) 00
Gross margin $2,200,
000
Selling and administrative 1,720
expenses ,000
Income before taxes $
480,00
0
Income tax expense 192
($480,000 x 40%) ,000
Net income $

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288,00
0

3. (a) No change. Direct labor is a variable cost, the cost per


unit will remain constant.
(b) No change. This is a fixed cost, which remains the
same in total.
(c) No change. Selling and administrative costs move
more closely with changes in sales than with units
produced. Additionally, this is a fixed cost.
(d) Increase. A reduced production volume will be divided
into the fixed dollar amount, which increases the cost
per unit.

18-4
PROBLEM 2-52
1. a, c, i, j, l 9. b, c, g, j, l

2. e 10. b, c, i, j, l

3. a, c, i, j, l 11. b, c, i, j, l

4. f 12. b, c, g, h, j, m

5. b, d, k, m 13. a, c, i, j, l

6. a, c, i, j, m 14. b, d, i, j, m

7. b, c, i, j, l 15. a, d, i, j, l

8. a, c, i, j, l

PROBLEM 2-56 (15 MINUTES)


1. A Opportunity cost 5. f Average cost

2. D Differential cost 6. e Marginal cost

3. B Out-of-pocket cost 7. c Sunk cost

4. E Marginal cost

CASE 2-60
1. MEMORANDUM
Subject: Costs related to Printer Case Department

The $30,100 building rental cost allocated to the Printer Case


Department is part of larger rental costs for the entire building.
Even if the Printer Case Department is closed down, Pensacola
Printer Company still will occupy the entire building. Therefore,
the entire rental cost, including the $30,100 portion allocated to
the Printer Case Department, will be incurred whether or not the
department closes.

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The real cost of the space occupied by the Printer Case
Department is the $41,000 the company is paying to rent
warehouse space. This cost would be avoided if the Printer Case
Department were closed, since the storage operation could be
moved into the company’s main building. The $41,000 rental cost
is the opportunity cost of using space in the main building for
the Printer Case Department.
The supervisor of the Printer Case Department will be
retained by the company regardless of the decision about the
Printer Case Department. However, if the Printer Case
Department is kept in operation, the company will have to hire a
new supervisor for the Assembly Department. The salary of that
new supervisor is a relevant cost of continuing to operate the
Printer Case Department.

Another way of looking at the situation is to realize that


with the Printer Case Department in operation, the company will
need two supervisors: the current Printer Case Department
supervisor and a new supervisor for the Assembly Department.
Alternatively, if the Printer Case Department is closed, only the
current Printer Case Department supervisor will be needed. He
or she will move to the Assembly Department. The difference,
then, between the two alternatives is the cost of compensation
for the new Assembly Department supervisor if the Printer Case
Department is not closed.

2. The controller has an ethical obligation to state accurately


the projected cost savings from closing the Printer Case
Department. The production manager and other decision makers
have a right to know the financial implications of closing the
department. Several of the ethical standards for management
accountants (listed in Chapter 1) apply, including the following:
• Competence: Prepare complete and clear reports and
recommendations after appropriate analyses of relevant and
reliable information.
• Objectivity:
o Communicate information fairly and objectively.
o Disclose fully all relevant information that could
reasonably be expected to influence an intended user's
understanding of the reports, comments, and
recommendations presented.

18-6
CHAPTER 3 - Product Costing and Cost Accumulation
in a Batch Production Environment

EXERCISE 3-33 (20 MINUTES)


budgeted
manufactur
ingoverhead
1. Predetermined =
overhead rate budgeted
level
ofcostdriver

$650,000
(a) = $32.50 per machine hour
20,000
machine
hours
$650,000
(b) = $26.00 per direct-labor hour
25,000
direct
-labor
hours
$650,000 $2.00 per direct-labor dollar or
(c) =
$325,000
* 200% of direct-labor cost

*Budgeted direct-labor cost = 25,000 × $13

2. Actual Applied Over-applied or under-


manufacturing – manufacturing = applied overhead
overhead overhead

(a) $690,000 – (22,000)($32.50) = $25,000 over-applied


overhead

(b) $690,000 – (26,000)($26.00) = $14,000 under-applied


overhead

(c) $690,000 – ($364,000†)(200%) = $38,000 over-applied


overhead

Actual direct-labor cost = 26,000 × $14

EXERCISE 3-34 (5 MINUTES)


1. Work-in-Process Inventory..................... 690,00
0
Manufacturing Overhead................. 690,00
0

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2. Work-in-Process Inventory..................... 715,00
0*
Manufacturing Overhead................. 715,00
0
*Applied manufacturing overhead = $715,000
= 22,000 hours x $32.50 per machine hour

PROBLEM 3-49 (45 MINUTES)


1. SCHEDULE OF COST OF GOODS MANUFACTURED
Direct material:
Raw material inventory, 12/31/x3 $ 
66,75
0
Add: Purchases of raw material. .  
548,2
50
Raw material available for use. . . $615,
000
Deduct: Raw-material inventory, 12/31/x4   
44,25
0
Raw material used..................... $570,75
0
Direct labor.................................... 355,500
Manufacturing overhead:
Indirect material........................ $ 
33,75
0
Indirect labor............................. 112,5
00
Depreciation on factory building. 93,75
0
Depreciation on factory equipment 45,00
0
Utilities..................................... 52,50
0
Property taxes........................... 67,50
0
Insurance..................................   
30,00
0
Total actual manufacturing overhead $435,
000

18-8
Deduct: Under-applied overhead*    
($435,000 - $433,125) 1,875
Overhead applied to work in process   
433,125
Total manufacturing costs.............. $1,359,3
75
Add: Work-in-process inventory, 12/31/x3        -0-
Subtotal......................................... $1,359,3
75
Deduct: Work-in-process inventory, 12/31/x4    
30,000
Cost of goods manufactured........... $1,329,3
75
*The Schedule of Cost of Goods Manufactured lists the
manufacturing costs applied to work in process. Therefore, the
under-applied overhead, $1,875, must be deducted from total
actual overhead to arrive at the amount of overhead applied to
work in process.

2. SCHEDULE OF COST OF GOODS SOLD


Finished-goods inventory, 12/31/x3................. $   26,250
Add: cost of goods manufactured....................  1,329,375
Cost of goods available for sale....................... $1,355,625
Deduct: Finished-goods inventory, 12/31/x4.....     30,000
Cost of goods sold.......................................... $1,325,625
Add: Under-applied overhead*........................      1,875
Cost of goods sold (adjusted for under-applied $1,327,500
overhead).......................................................
*The company closes under-applied or over-applied overhead
into cost of goods sold. Hence the $1,875 balance in under-
applied overhead is added to cost of goods sold for the month.

3. INCOME STATEMENT
Sales revenue................................................. $1,578,750
Less: Cost of goods sold.................................. 1,327,500
Gross margin.................................................. $ 251,250
Selling and administrative expenses................ 201,750
Income before taxes....................................... $  49,500
Income tax expense........................................    18,750
Net income..................................................... $  30,750

18-9
PROBLEM 3-50 (15 MINUTES)
1. $30,000. Since there was no work-in-process inventory at the
beginning of 20x4, all of the costs in the year-end work-in-
process inventory were incurred during 20x4.

2. The direct-material cost would have been larger, probably


by roughly 30 percent, because direct material is a variable
cost.

3. Depreciation is a fixed cost, so it would not have been any


larger if the firm's volume had increased.

4. Only the $22,500 of equipment depreciation would have


been included in manufacturing overhead on the Schedule
of Cost of Goods Manufactured. The $22,500 of depreciation
related to selling and administrative equipment would have
been treated as a period cost and expensed during 20x4.

PROBLEM 3-60 (50 MINUTES)


1. Schedule of budgeted overhead
costs:
Department Department
A B
Variable overhead
A  21,000 × $17.......................... $357,000
B  21,000 × $ 5........................... $105,000
Fixed overhead..............................  210,000  210,000
Total overhead............................... $567,000 $315,000
Grand total of budgeted overhead (A
$882,000
+ B):

total budgeted overhead rate $882,000


Predetermined overhead rate = = = $21 per hour
total budgeted direct - labor hours 42,000

2. Product prices: Basic Advanced


System System

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Total cost...................................... $1,190 $1,640
Markup, 10% of cost......................    119    164
Price............................................. $1,309 $1,804

3. Departmental overhead rates: Department Department


A B
Budgeted overhead (from $567,000 $315,000
requirement 1)..............................
Budgeted direct-labor hours..........   21,000   21,000
Predetermined overhead rates...... $567,000 $315,000
  21,000   21,000
$27 per $15 per
direct-labor direct-labor
hour hour

4. Revised product costs: Basic Advanced


System System
Direct material.............................. $ 450 $ 900
Direct labor...................................   320   320
Manufacturing overhead:
Department A: Basic system 5 ×  135
$27
Advanced system  405
15 × $27........................................
Department B: Basic system 15 × 225
$15
Advanced system 5  _ ____    75
× $15............................................
Total $1,130 $1,700

5. Revised product prices: Basic Advanced


System System
Total cost...................................... $1,130 $1,700
Markup, 10% of cost......................    113    170
Price............................................. $1,243 $1,870

6. Until now the company has used a single, plant-wide


overhead rate in computing product costs. This approach
resulted in a product cost of $1,190 for the basic system and a
cost of $1,640 for the advanced system. Under the company's
pricing policy of adding a 10% markup, this yielded prices of
$1,309 for the basic system and $1,804 for the advanced system.

18-11
It is apparent that the two production departments have very
different cost structures. A is a relatively expensive department
to operate, while B is less costly. The basic system spends most
of its time in B, the inexpensive department. The advanced
system spends most of its time in A, the more expensive
department. Thus, using departmental overhead rates shows
that the basic system costs less than we had previously realized;
the advanced system costs more. The revised product costs are
$1,130 and $1,700 for the basic and advanced systems,
respectively. With a 10% markup, these revised product costs
yield prices of $1,243 for the basic system and $1,870 for the
advanced system. I recommend that the company switches to a
product costing system that incorporates departmental overhead
rates.

PROBLEM 3-61 (30 MINUTES)

1. Cost rates per unit of each cost driver.


Activity Activity Quantity of Cost Rate per Unit
Cost Pool Cost Driver of Cost Driver
Machine setup $102,000 200 setups $510 per setup
   
Material 80,000    80,000 lbs. $1.00 per lb.
receiving
Inspection 80,000    1,600 inspections $50 per inspection
Machinery- 480,000   60,000 $8 per machine hr.
related   machine hrs.
Engineering   7,000 $20 per engineering
140,000   engineering hrs. hr

Total overhead $882,000
   

2. Overhead assigned to each


product line:
Activity Overhead assigned to Overhead Assigned to
Basic System Advanced System
Machine $ 22,950 (45 setups × $ 79,050 (155 setups ×
setup $510) $510)
Material   30,000 (30,000 lbs. × 50,000 (50,000 lbs. × $1.00)
receiving $1.00)
Inspection   34,500 (690 45,500 (910 inspections ×
inspections × $50) $50)

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Machinery-  160,000 (20,000 320,000 (40,000 machine
related machine hrs. × $8) hrs. × $8)
Engineering   56,000 (2,800 eng. hrs. 84,000 (4,200 eng hrs. × $20)
× $20)
Total $303,450 $578,550
overhead

3. Overhead assigned per unit of each type of printer:


Basic system.............................. $303.45 ($303,450 ÷ 1,000
units)
Advanced system........................ $578.55 ($578,550 ÷ 1,000
units)

4. Basic System Advanced System


Plant-wide overhead rate*.... $1,190.00 $1,640.00
Departmental overhead 1,130.00 1,700.00
rate**...................................
Activity-based costing†......... 1,073.45 1,798.55
* From the data given in the preceding problem.
** From the solution to the preceding problem.

The assigned overhead, plus the direct material and direct-labor
costs:
Basic system............................ $1,073.45 = $770.00 +
$303.45
Advanced system...................... $1,798.55 = $1,220.00 +
$578.55

18-13
Chapter 4 – Process costing and hybrid product-costing
systems

EXERCISE 4-24 (25 MINUTES)

RALEIGH TEXTILES COMPANY


Weighted-Average Method
Direct Conversio To
Material n tal
Work in process, November 1 $ 85,750 $ 16,900 $
102,65
0
Costs incurred during November 158,000 267,300 425,3
00
Total costs to account for.... $243,750 $284,200 $527,9
50
Equivalent units................. 62,500 49,000
Costs per equivalent unit.... $3.90 $5.80 $9.70

1. Cost of goods completed and transferred out during November:


( number of units transferred out ) × ( total cost per equivalent unit ) 47,000 × $455,9
$9.70 00

2 Cost remaining in November 30 work in


. process:
Direct material (15,500* × $60,450
$3.90)
Conversion (2,000* × $5.80) 11,600
Total..........................   
72,050
Total costs accounted for $527,9
50
*Equivalent units in November 30 work in Direct Convers
process: Material ion
Total equivalent units (weighted average) 62,500   49,000
Units completed and transferred out. . (47,000) (47,000
)   
Equivalent units in ending work in process  15,500      

2,000     

18-14
PROBLEM 4-28 (45 MINUTES)
1. Physical flow of units:
Physica
l
Units   
Work in process, April 1................................. 10,000 

Units started during April.............................. 100,00
0  
Total units to account for............................... 110,00
0  

Units completed and transferred out during 80,000 


April.................................................................... 
Work in process, April 30...............................  
30,000 

Total units accounted for............................... 110,00
0  
2. Equivalent units: Percentage of Equivalent Units
Physi Completion Direct Convers
cal with Respect to Materia ion
Units Conversion l
Work in process, 10,00 20%
April 1 0  
Units started during 100,0
April 00  
Total units to 110,0
account for 00  

Units completed and


transferred out 80,00 100% 80,000  80,000 
during April............. 0      
Work in process,   33 1/3%    30,000  10,000 
April 30 30,00    
0  
Total units 110,0 ______   _____  
accounted for 00  
Total equivalent 110,00 90,000 
units 0    

18-15
3. Cost per equivalent unit:
Direct Material Convers Total
ion
Work in process, April 1 $ 22,000    $   $ 
4,500 26,500 

Costs incurred during April  198,000       
158,400 356,400
  
Total costs to account for $220,000    $162,90 $382,90
0 0  
Equivalent units 110,000    90,000
Costs per equivalent unit $2.00*    $1.81† $3.81  

*$2.00 = $220,000 ÷ 110,000



$1.81 = $162,900 ÷ 90,000

4. Cost of goods completed and transferred out during


April:
( number of units transferred out ) × ( total cost per equivalent unit ) 80,000 × $304,80
$3.81 0

Cost remaining in April 30 work-in-process inventory:


Direct material:
 number of equivalent   cost per equivalent 
  ×   =
 units of direct material   unit of direct material  30,000 × $60,000
$2.00

Conversion:
 number of equivalent   cost per equivalent 
  ×   =
 units of conversion   unit of conversion  10,000 × 18,100
$1.81
Total cost of April 30 work-in-process $78,100

Check: Cost of goods completed and transferred out $304,80


0
Cost of April 30 work-in-process inventory   
78,100
Total costs accounted for $382,90
0

18-16
PROBLEM 4-37 (45 MINUTES)

1. PRODUCTION REPORT: MIXING DEPARTMENT November 20x5


Physical % of Equivalent
Units Completion Units
Work in process, 5,000    70%
November 1
Units started during 17,000
November
Total units to account 22,000
for
Units completed and
transferred
out during 16,000 100% 16,000 16,00
November 0
Work in process, 6,000 30% 6,000 1,800
November 30
Total units accounted 22,000 ____ _   _ ____
for
Total equivalent units 22,000 17,80
(EU) 0
Direct Convers Total
Material ion
Work in process, $ 31,600 $ $
November 1 55,220 86,82
0
Costs incurred during  85,000*    
November 210,000 295,0

00
Total costs to account $116,600 $265,22 $381,
for 0 820
Equivalent units 22,000 17,800
Costs per equivalent $5.30 $14.90 $20.2
unit 0
*$85,000 = $16,000 + $44,000 + (5,000 ÷ 12,000)($60,000)

$210,000 = $70,000 + (1.50)($70,000) + $35,000

Cost of goods completed and transferred out during November:


( number of units transferred out ) × ( total cost per E.U.) = 16,000 × $20.20 =
$323,200
Cost remaining in November 30 work-in-process inventory:
Direct material:

18-17
( number of E.U. of direct material) × ( cost per E.U. of direct material) = 6,000 × $5.30 =
$31,800
Conversion:
( number of E.U. of conversion ) × ( cost per E.U. of conversion ) = 1,800 × $14.90
...................................... = 26,820
Total cost of November 30 work in process
$58,620

2. a. Work-in-Process Inventory: Mixing 85,000


Department
Raw-Material Inventory 85,000

b. Work-in-Process Inventory: Mixing 70,000


Department
Wages Payable 70,000

c. Work-in-Process Inventory: Mixing 140,000


Department.......................................... (1.50)($70,000) +
$35,000
Manufacturing Overhead............. 140,000

d. Work-in-Process Inventory: Finishing 323,200


Department..........................................
Work-in-Process Inventory: 323,200
Mixing Department...............................

18-18
CHAPTER 5 – Cost management systems, Activity-
Based costing and Activity-Based Management

PROBLEM 5-41
Please turn to the excel file ‘Solution additional exercises in
excel’.

CASE 5-51 (20 MINUTES)


Regular Advanced Deluxe
Model Model Model
Traditional, volume-based
costing system:
reported product cost $210.00 $ 430.00 $464.00
Activity-based costing
system:
reported product cost 192.02 875.50 455.42
Amount of cost distortion $ 17.98 $(445.50) $ 8.58
per unit

Traditional Traditional Traditiona


System system l system
overcosts undercosts overcosts
Regular Advanced Deluxe
model by model by model by
$17.98 per $445.50 per $8.58 per
unit unit unit

Product volume ×  20,000 ×    1,000 × 10,000


Total amount of cost
distortion for entire
product line $359,600 $(445,500) $85,800

Sum of these three amounts is


$(100). It would be zero except for
the slight rounding errors in the
calculation of the new product
costs to the nearest cent.

18-19
CASE 5-52 (20 MINUTES)
1. The controller, Erin Jackson, has acted ethically up to this
point. She correctly pointed out to the president that the firm's
traditional, volume-based product-costing system was distorting
the reported product cost for the company's three products. She
designed an ABC-system to provide more accurate product-
costing data.

2. The production manager, Alan Tyler, is not acting ethically.


Although we can sympathize with his plight, we cannot condone
his pressuring the controller to suppress or alter the new
product-costing data she has compiled. What can Tyler do that is
ethical and has the potential for positive results? First, he could
take a hard look at the deluxe model's production process. Are
there non-value-added activities that could be reduced or
eliminated? Second, he could argue to the president that the
company should carry a full product line, if he has reason to
believe that is the firm's best strategy.

3. Jackson has an ethical obligation to the president, to the


company, to her profession, and to herself to report accurate
product-costing data to the president. There is nothing wrong
with her offer to her friend to go over her analysis again to verify
its accuracy. However, she must report what she finds with no
suppression or alteration of the data. Several of the ethical
standards for managerial accounting apply in this case (see also
Chapter 1):

Integrity:
• Communicate unfavorable as well as favorable information and
professional judgments or opinions.

Objectivity:
• Communicate information fairly and objectively.

18-20
• Disclose fully all relevant information that could reasonably be
expected to influence an intended user's understanding of the
reports, comments, and recommendations presented.

Jackson is in a tough spot. Her professional obligation to report


accurate product costs is clear. She cannot ethically avoid this
responsibility. Yet her friend Tyler is in a tenuous position. What
can Jackson ethically do for him? First, she can be compassionate
and understanding of his concern, yet remain firm in meeting her
professional obligations. Second, she can assist the production
manager in finding ways to manufacture the deluxe model pump
more efficiently and at a lower cost. For example, she can share
her ABC analysis with Tyler to help him identify non-value-added
activities and costs.

18-21
CHAPTER 6 - Activity-Based Management and Today’s
Advanced Manufacturing Environment
PROBLEM 6-47 (30 MINUTES)
1. ABM refers to the use of ABC to improve operations and
eliminate non-value-added costs. These costs arise from
non-value-added activities—operations that are (a)
unnecessary and dispensable or (b) necessary but
inefficient and improvable. Such activities can be eliminated
without harming quality, performance, or perceived value.
2. Cost of non-value-added activities:
Warehousing: 550 moves x $80 ($720,000 ÷ 9,000 $44,00
inventory moves) 0
Outgoing shipments: 250 shipments x $30 ($450,000 7,50
÷ 15,000 shipments) 0
Total $51,50
0
3. Extra inventory moves in the warehouse may be caused by
(e.g.) books being stocked incorrectly, poor planning for the
arrival and subsequent stocking of new titles. 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.
4. As the following figures show, the elimination of non-value-
added activities allows ReadersNet.Com to achieve the
target-cost percentage for software only.
Activity Cost- % % Cost- Cost-
Driver Book Softwa Driver Driver
Quantity s re Qty: Qty:
Books Software
Incoming 2,000 70% 30% 1,400 600
receipts
Warehousing 9,000 80% 20% 6,650* 1,800
Outgoing 15,000 25% 75% 3,750 11,00
shipments 0**
* (9,000 moves x 80%) – 550
** (15,000 shipments x 75%) – 250
Incoming receipts: Books Software
1,400 purchase orders x $300 $ 420,000
($600,000 ÷ 2,000)

18-22
600 purchase orders x $300 $180,00
0
Warehousing:
6,650 moves x $80 532,000
1,800 moves x $80 144,00
0
Outgoing shipments:
3,750 shipments x $30 112,50
0
11,000 shipments x $30 330,00
0
Total cost $1,064,50 $654,00
0 0
Cost as a percentage of sales:
$1,064,500 ÷ $7,800,000 13.65%
$654,000 ÷ $5,200,000 12.58%
5. Additional cost cutting of $50,500 is needed for books to
achieve the 13% target of $1,014,000. Tools that the
company might use include customer-profitability analysis,
target costing, value engineering, kaizen costing,
50,000benchmarking, and reengineering.
PROBLEM 6-52 (40 MINUTES)
1.
40,000Customer-profitability analysis:
Caltex Trace
Sales
30,000 revenue $380,000 $247,600
Cost of goods sold 160,000 124,000
Gross margin $220,000 $123,600
20,000
General selling$1costs $ 48,000 $ 36,000
4,000
General administrative costs 38,000 32,000
Customer-related
10,000 costs:
Sales activity 16,000 12,000
Order taking 6,000 8,000
0 Special handling 80,000 60,000
Customer
Special shipping 18,000 20,000
-10,000 selling and administrative
Total $206,000 $168,000
costs
Operating income $ 14,000 $ (44,400)
-20,000
2. Customer-profitability graph: Customer Operating Income
(in
-30,0dollars)
00

-40,000

$(44,400)
-50,000
18-23
Caltex Trace
Computer Telecom
PROBLEM 6-53 (45 MINUTES)
1. Cumulative Operating Income as a % 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.

Custo Operat Cumulat Cumulative


mer Customer ing ive Operating
Numbe Incom Operati Income as a %
(1) Network-All, Inc. $186,0 $186,00 39%
00 0
(2) Golden Gate Service 142,00 328,000 69%
Associates 0
(3) Graydon Computer 120,00 448,000 94%
Company 0
(4) Mid-State Computing 84,000 532,000 111%
Company
(5) Caltex Computerb 14,000 546,000 114%
(6) The California Group 12,000 558,000 117%
(7) Tele-Install, Inc. (36,00 522,000 109%
0)
(8) Trace Telecom c
(44,40 477,600 100%
0)
a
Customer numbers are ranked by operating income.
b
From solution to preceding problem.

18-24
c
From solution to preceding problem.

2. The attached customer-profitability profile shows that two


of our customer relationships are unprofitable (Tele-Install, Inc.
and Trace Telecom). As the profile shows, over half of our
operating income is generated by our two most profitable
customer relationships, and 94 percent of our operating profit is
generated by our three most profitable customers.
PROBLEM 6-54 (45 MINUTES)
Answers to questions 1, 2, 3, 4, 5: See the graph below.
6. Kaizen costing seeks to lower costs during the
manufacturing phase through continuous improvement in
production. Costs are lowered through constant small
improvements, which every employee in the company is trying to
achieve. By lowering its costs and improving quality, the
company will be in a better position to compete on both price
and quality.

Cost per TV set

18-25
Actual cost
Cost base reduction
for current year Kaizen goal: achieved
cost-reduction amount
$500

Actual cost
performance Kaizen goal:
at end of cost-reduction rate Actual cost
$400 last year performance
of current year

Cost base
for next year
$300

$200

$100

Time
J an Feb Mar Apr May J un J ul Aug Sept Oct Nov Dec
12/31/x4 12/31/x5

18-26
CHAPTER 7 - Activity Analysis, Cost Behavior, and Cost
Estimation

PROBLEM 7-35 (20 MINUTES)

1. h 5. a 9. d Note that j
was not used.

2. i 6. g 10. k

3. f 7. c 11. l

4. e 8. b

PROBLEM 7-38 (25 MINUTES)

1. Straight-line depreciation—committed fixed


Charitable contributions—discretionary fixed
Mining labor/fringe benefits—variable
Royalties—semi-variable
Trucking and hauling—step-fixed

The per-ton mining labor/fringe benefit cost is constant at


both volume levels presented, which is characteristic of a
variable cost.
$315,000 ÷ 1,400 tons = $225 per ton
$607,500 ÷ 2,700 tons = $225 per ton
Royalties have both a variable and a fixed component, making
it a semi-variable cost.

Variable royalty cost = difference in cost ÷ difference in tons


= ($224,500 – $140,000) ÷ (2,700 –
1,400)
= $84,500 ÷ 1,300 tons = $65 per ton
Fixed royalty cost:
June Decemb
(2,700 er

18-27
tons) (1,400
tons)
Total royalty cost $224,50 $140,00
0 0
Less: Variable cost at 175,50 91,00
$65 per ton 0 0
Fixed royalty cost $ $
49,000 49,000

2. Total cost for 1,700 tons:


Depreciation $
30,000
Charitable contribution. ----
Mining labor/fringe benefits at 382,5
$225 per ton 00
Royalties:
Variable at $65 per ton 110,5
00
Fixed 49,0
00
Trucking and hauling 280,0
00
Total $852,0
00

3. Hauling 1,400 tons is not particularly cost effective. Lone


Mountain Extraction will incur a cost of $280,000 if it needs
1,400 tons hauled or, for that matter, 1,899 tons. The company
would be better off if it had 1,399 tons hauled, saving outlays
of $40,000. In general, with this type of cost function,
effectiveness is maximized if a firm operates on the right-most
portion of a step, just prior to a jump in cost.

4. A committed fixed cost results from an entity’s ownership or


use of facilities and its basic organizational structure.
Examples of such costs include property taxes, depreciation,
rent, and management salaries. Discretionary fixed costs, on
the other hand, arise from a decision to spend a particular
amount of money for a specific purpose. Outlays for research
and development, advertising, and charitable contributions
fall in this category.
In times of severe economic difficulties, a company’s
management will often try to cut discretionary fixed costs.
Such costs are more easily altered in the short run and do not

18-28
have as significant long-term ramifications for a firm as do
more long-lasting actions. While it’s true that cutting
expenditures on advertising or R&D can often have adverse
long-term consequences, other cuts could have even more
significant negative consequences in the future. The decision
to close a manufacturing facility, for example, could reduce
property taxes, rent, and/or depreciation. However, that
decision may result in a significant long-run change in
operations that may be difficult to overturn when economic
conditions rebound.

5. Lone Mountain Extraction uses a calendar year for tax-


reporting purposes. At year-end, it may have ample funds
available and decide to make donations to charitable causes.
Such contributions are deductible in computing the company’s
tax obligation to the government. Tax deductions reduce
taxable income and, therefore, produce a tax savings for the
firm.

PROBLEM 7-46
Please turn to the excel file ‘Solution additional exercises in
excel’.

18-29
CHAPTER 8 - Cost-Volume-Profit Analysis

EXERCISE 8-28 (25 MINUTES)

1. (a) Traditional income statement:


Sales ...........................$1,000,000
Less: Cost of goods sold................. 750,000
Gross margin ...........................$ 250,000
Less: Operating expenses:
Selling expenses................... $75,000
Administrative expenses....... 75,000 150,000
Net income ...........................$ 100,000

(b) Contribution income statement:


Sales ...........................$1,000,000
Less: Variable expenses:
Variable manufacturing......... $500,000
Variable selling..................... 50,000
Variable administrative......... 15,000 565,000
Contribution margin...................... $ 435,000
Less: Fixed expenses:
Fixed manufacturing.............$ 250,000
Fixed selling.......................... 25,000
Fixed administrative.............. 60,000 335,000
Net income ...........................$ 100,000

contributi
onmargin
2. Operating
leverage
factor
(at$1,000,000
sales =
level)
net
income
$435,000
= = 4.35
$100,000

 percentage   operating
increase 
3. Percentage
increase = 
innetincome  ×  
 insales
revenue  leverage
factor

= 12% × 4.35 =
52.2%

18-30
4. Most operating managers prefer the contribution income
statement for answering this type of question. The
contribution format highlights the contribution margin and
separates fixed and variable expenses.

EXERCISE 8-30 (30 MINUTES)


1.
Sales Unit Unit
Bicycle Type Price Variable Cost Contribution
Margin
High-quality $1,00 $600 ($550 + $400
0 $50)
Medium- 600 300 ($270 + 300
quality $30)

2 Sales mix:
.
High-quality bicycles 30%
Medium-quality bicycles 70%

3 Weighted-
average unit = ($400 × 30%) + ($300 × 70%) =
. $330
contribution
margin

fixedexpenses
4 Break
-even
point =
(inunits)
weighted
-averageunit
contributi
onmargin
.
$148,500
= = 450bicycles
$330

Break- Sales
Bicycle Type Even Sales Price Revenu
Sales e
Volume
High-quality bicycles 135 (450 $1,000  
× .30) $135,00
0
Medium-quality bicycles 315 (450 600
× .70) 189,000
Total
$324,00
0

18-31
5. Target net income:
+ $99,000
$148,500
Sales
volume
required
toearn
target
netincome =
of$99,000
$330
= 750bicycles
The shop will need to sell the following volume of each type
to earn the target net income:
High-quality .............................225 (750 × .30)
Medium-quality .............................525 (750 × .70)

18-32
PROBLEM 8-40 (35 MINUTES)

1. Current income:
Sales revenue $4,032,
000
Less: Variable costs $1,008,
000
Fixed costs. 2,736, 3,744,
000 000
Net income $
288,00
0
CompTronics has a contribution margin of $72 [($4,032,000
- $1,008,000) ÷ 42,000 sets] and desires to increase income
to $576,000 ($288,000 x 2). In addition, the current selling
price is $96 ($4,032,000 ÷ 42,000 sets). Thus:
Required sales = (fixed costs + target net profit) ÷ unit
contribution margin
= ($2,736,000 + $576,000) ÷ $72
= 46,000 sets, or $4,416,000 (46,000 sets x
$96)

2. If operations are shifted to Mexico, the new unit


contribution margin will be $74.40 ($96.00 - $21.60). Thus:
Break-even point = fixed costs ÷ unit contribution
margin
= $2,380,800 ÷ $74.40 = 32,000 units

3. (a) CompTronics desires to have a 32,000-unit break-even


point with a $72 unit contribution margin. Fixed costs must
therefore drop by $432,000 ($2,736,000 - $2,304,000), as
follows:
Let X = fixed costs
X ÷ $72 = 32,000 units
X = $2,304,000
(b) As the following calculations show, CompTronics will
have to generate a contribution margin of $85.50 to
produce a 32,000-unit break-even point. Based on a
$96.00 selling price, this means that the company can
incur variable costs of only $10.50 per unit. Given the
current variable cost of $24.00 ($96.00 - $72.00), a

18-33
decrease of $13.50 per unit ($24.00 - $10.50) is
needed.
Let X = unit contribution margin
$2,736,000 ÷ X = 32,000 units
X = $85.50

4. (a) Increase
(b) No effect
(c) Increase
(d) No effect

18-34
PROBLEM 8-44 (45 MINUTES)
1. Break-even point in units:
fixed
costs
Break
-even =
point
unit
contributi
onmargin

Calculation of contribution margins:


Labor- Computer-
Intensive Assisted
Production Manufacturing
System System
Selling price.................. $45.0 $45.00
0
Variable costs:
Direct material........... $8.40
$7.5
0
Direct labor................ 10.80 9.00
Variable overhead...... 7.20 4.50
Variable selling cost. . . 3.00 29.4 24.00
0 3.00
Contribution margin per $15.6 $21.00
unit 0

(a Labor-intensive production system:


)
$1,980,000 + $750,000 $2,730,000
Break - even point in units = = = 175,000 units
$15.60 $15.60

(b Computer-assisted manufacturing system:


)
$3,660,000 + $750,000 $4,410,000
Break - even point in units = = = 210,000 units
$21 $21

2 Zodiac’s management would be indifferent between the


. two manufacturing methods at the volume (X) where
total costs are equal.
$29.40X +
$2,730,000 = $24X + $4,410,000
$1,680,000 X = 311,111
$5.40X = units (rounded)
3. Operating leverage is the extent to which a firm's operations
employ fixed operating costs. The greater the proportion of
fixed costs, the greater the degree of operating leverage. The

18-35
computer-assisted manufacturing method utilizes a greater
degree of operating leverage. The greater the operating
leverage, the greater the change in operating income (loss)
relative to a small fluctuation in sales volume.
4. Management should employ the computer-assisted
manufacturing method if annual sales are expected to exceed
311,111 units.
5. Zodiac’s management should consider many other business
factors, like:
• Variability or uncertainty with respect to demand quantity and
selling price.
• The ability to produce and market the new product quickly.
• The ability to discontinue production and marketing of the
new product while incurring the least amount of loss.

PROBLEM 8-50 (35 MINUTES)

− variable
sales costs
1 (a Unit
contributi =
onmargin
. ) units
sold
− $1,400,000
$2,000,000
= = $6perunit
100,000

fixed
costs
Break
-even
point =
(inunits)
unit
contributi
onmargin
$420,000
= = 70,000
units
$6

contribution margin $2,000,000 − $1,400,000


(b Contribution - margin ratio = = = .3
sales revenue $2,000,000
)
fixed costs $420,000
Break - even point (in sales dollars) = = = $1,400,000
contribution - margin ratio .3

18-36
target after - tax net income
fixed costs +
2 Number of units of (1 − t)
. sales required to earn =
unit contribution margin
target after-tax net
$180,000
income $420,000 +
(1 −.4) $720,000
= = =120,000 unit
$6 $6

3 If fixed costs increase


. by $63,000:
+ $63,000
$420,000
Break
-even
point =
(inunits) = 80,500
units
$6

18-37
PROFIT-VOLUME GRAPH:

Dollars per
year

$1,500,00
0

$1,000,00
0

$500,00 Profit
Break-even area
0 point:
70,000 units
Units
0 • sold per
Loss25,000 50,000 75,000 100,00 year
area 0

$(500,00
0)

$(1,000,0
00)

$(1,500,0
00)

target after - tax net income


fixed costs +
5. Number of units (1 − t)
=
of sales required unit contribution margin
to earn target
$180,000
after-tax net $420,000 +
income (1 − .5) $780,000
= = = 130,000 units
$6 $6

18-38
PROBLEM 8-51 (35 MINUTES)

− $79.20
$120.00
1. Contributi
onmargin =
ratio = .34
$120.00

target
after
- taxnetincome
fixed +
expenses
2. Number of units of (1− t)
sales required to earn =
unit
contributi
onmargin
target after-tax income
$33,120
+
$475,200
(1− .40) $530,400
X= =
− $79.20 $40.80
$120.00
X= 13,000
units
3. Break-even point (in $554,400
= = 10,500
units
units) for the touring − $79.20
$132.00
model
Let Y denote the variable cost of the mountaineering model
such that the break-even point for the mountaineering model
is 10,500 units.
Then we have:
$475,200
10,500 =
$120.00 − Y
(10,500) × ($120.00 − Y) = $475,200 $1,260,000 − 10,500Y = $475,200
10,500Y = $784,800 Y = $74.74 (rounded)
Thus, the variable cost per unit would have to decrease by
$4.46 ($79.20 – $74.74).

4. $475,200 × 110% $522,720


New break - even point = = = 10,729 units (rounded)
$120.00 − ($79.20)(90%) $48.72

18-39
5. Weighted- = (50% × $52.80) + (50% × $40.80) = $46.80
average unit
contribution fixed costs $514,800
margin = =
weighted - average unit contribution margin $46.80
= 11,000 units (or 5,500 of each type)

Break-even
point

18-40
CHAPTER 9 - Profit Planning, Activity-Based Budgeting,
and e-Budgeting

EXERCISE 9-30 (30 MINUTES)


1 Budgeted cash collections for December:
.
Month of Sale Collections in December
November................................. $400,000 × $152,000
38%
December................................. 440,000 ×  264,000
60%
Total cash collections................ $416,000

2 Budgeted income (loss) for December:


.
Sales revenue.................................... $440,000
Less: Cost of goods sold (75% of 330,000
sales)................................................
Gross margin (25% of sales)............... $110,000
Less:..................Operating expenses:

Bad debts expense (2% of sales). . $ 8,800


Depreciation ($432,000/12).......... 36,000
Other expenses............................ 45,200
Total operating expenses.............   90,000
Income before taxes........................... $ 20,000

3 Projected balance in accounts payable on December 31: The


. December 31 balance in accounts payable will be equal to
December's purchases of merchandise. Since the store's gross
margin is 25% of sales, its cost of goods sold must be 75% of
sales.
Cost of Amount Purchased in
Month Sales Goods Sold December
December....... $440, $330,000 $330,000 × $ 66,000
000 20%
January........... 400,0 300,000 300,000 × 240,000
00 80%
Total December $ 306,000
purchases
Therefore, the December 31 balance in accounts payable will be

18-41
$306,000.

EXERCISE 9-33 (25 MINUTES)


1. Direct professional labor budget for the month of June:
Professional services in June:
One-hour visits (20% × 48,000/12 × 1 800 hours
hr.)
Half-hour visits (80% × 48,000.12 × 1/2    1,600 hours
hr.)
Total direct professional labor.............. 2,400 hours
Hourly rate for dental associates......... ×    $ 90
Total direct professional labor cost....... $216,000

2. Cash collections during June: May June


Half-hour visits (4,000 × 80%).............. 3,200 3,200
Billing rate..........................................
× × $60
$60
Total billings for half-hour visits........... $192,000

$192,00
0
One-hour visits (4,000 × 20%).............. 800
800
Billing rate.......................................... × × $105
$105
Total billings for one-hour visits........... $84,000 $
84,000
Total billings during month.................. $
276,000
$276,00
0
Percentage of month's billings × ×
collected during June........................... 10% 90%
Collections during June........................ $27,600

$248,40
0

Total collections in June ($27,600 + $276,00


$248,400)............................................ 0
3. Overhead and administrative expense budget for June:

18-42
Patient registration and records (4,000 visits × $3.00 per
visit).......................................................... $12,000
Other overhead and administrative expenses (2,400 hours ×
$7.50 per hour).......................................... 18,000
Total overhead and administrative expenses
................................................... $30,000

EXERCISE 9-34 (15 MINUTES)

(2)(annual
requiremen
t)(cost
perorder)
EOQ=
annual
holding
costperunit

(2)(7,290)
($500)
CaseA: EOQ= = 810,000
= 900
$9

(2)(4,563)
($10)
B: EOQ=
Case = 6,084
= 78
$15

(2)(150)($
100)
C : EOQ=
Case = 2,500
= 50
$12

EXERCISE 9-35 (10 MINUTES)

1 The lead time is one month, so the safety stock is equal to the
. difference between average monthly usage and the maximum
usage in a month. Average monthly usage is 70 tons (840/12),
and the maximum usage is 85 tons. Therefore, the safety stock
is 15 tons (85 – 70).
2 Reorder point: 85 tons. This is the maximum amount of the
. bonding agent that would be used in a month, which is the
time required to receive an order after it is placed.
PROBLEM 9-43 (60 MINUTES)

1. Sales budget: Units Price Total


Light coils 60,000 $130 $
7,800,00
0

18-43
Heavy coils 40,000 $190 7,600,
000
Projected sales $15,400,
000

2. Production budget (in units): Light Heavy


Coils Coils
Projected sales 60,000 40,000
Add: Desired inventories, December 31, 20x3 25,000  9,000
Total requirements 85,000 49,000
Deduct: Expected inventories, January 1, 20x3 20,000  8,000
Production required (units) 65,000 41,000

3. Raw-material purchases (in Sheet Copper Platfor


quantities): Metal Wire ms
Light coils (65,000 units projected 260,000 130,000 __
to be produced)
Heavy coils (41,000 units projected 205,000 123,000 41,000
to be produced)
Production requirements 465,000 253,000 41,000
Add: Desired inventories, December  36,000  32,000  7,000
31, 20x3
Total requirements 501,000 285,000 48,000
Deduct: Expected inventories,  32,000  29,000  6,000
January 1, 20x3
Purchase requirements (units) 469,000 256,000 42,000

4. Raw-material Raw Material Purchase Total


purchases budget: Required Price
Sheet metal 469,000 $16 $
7,504,0
00
Copper wire 256,000 10 2,560,0
00
Platforms 42,000 6 ___252,
Total 000
$10,316
,000

5. Direct-labor Production Hrs per Total Rate Total


budget: (units) Unit Hrs Cost
Light coils 65,000 4 260,00 $15 $3,900,
0 000

18-44
Heavy coils 41,000 6 246,00 20 4,920,
0 000
Total $8,820,
000
6. Manufacturing Cost Driver Cost Driver
overhead budget: Quantity Rate Cost
Purchasing and material 725,000 lb.a $0.50 $362,50
handling 0
Depreciation, utilities, 106,000 coils b
$8.00 848,000
and inspection
Shipping 100,000c $2.00 200,000
General manufacturing 506,000 hr. d
$6.00 3,036,
overhead 000
Total manufacturing $4,446,
overhead 500
a
725,000 = 469,000 + 256,000 (from req. 3), b106,000 = 65,000 +
41,000 (from req. 2)
c
100,000 = 60,000 + 40,000 (total units sold, from problem),
d
506,000 = 260,000 + 246,000 (req. 5)

18-45
CHAPTER 10 - Standard Costing, Operational
Performance Measures, and the Balanced Scorecard

EXERCISE 10-39 (10 MINUTES)

processing time
1.
Manufacturing cycle efficiency = processing
time+ inspection
time
+ waiting
time+ movetime
=
4.25
hours
= 85%
4.25 + .25hour
hours + .25hour
+ .25hour

2. total
production
time
perbatch
Manufacturing cycle time =
units
per
batch
5hours
= = 0.25 hour (or
20units
perbatch
15 minutes) per unit

units
perbatch 20units
3. Velocity = = = 4units
perhour
total
production
time
perbatch 5hours

PROBLEM 10-49 (30 MINUTES)

1. No. The variances are favorable and small, with each being
less than 2% of budgeted cost amounts ($350,000).
However, by simply reporting total variances for material
and labor, one cannot get a totally clear picture of
performance. Price, quantity, rate, and efficiency variances
should be calculated for further insight.

2. Direct-material variances:
Price variance = (Standard price - Actual price) x Actual
quantity purchased
45,000 pounds x $8.80 396,000
45,000 pounds x $7.70 $346,500
Direct-material price variance $ 49,500
Favorable

18-46
Quantity variance = (Standard quantity allowed - Actual
quantity used) x Standard price
39,900 pounds (9,500 units x 4.2 pounds) 351,120
x $8.80
45,000 pounds x $8.80 $396,000
Direct-material quantity variance $ 44,880
Unfavorable

Total direct-material variance: $4,620F


Direct-labor variances:
Rate variance:
Actual hours used x actual rate
20,900 hours x $16.25 $339,625
Actual hours used x standard rate
20,900 hours x $14.00 292,600
Direct-labor rate variance $ 47,025
Unfavorable

Efficiency variance:
Actual hours used x standard rate
20,900 hours x $14.00 $292,600
Standard hours allowed x
standard rate
24,700 hours (9,500 units x 2.6 345,800
hours) x $14.00
Direct-labor efficiency variance $ 53,200
Favorable

Total direct-labor variance: $6,175F

3. Yes. Although the combined variances are small, a more


detailed analysis reveals the presence of sizable, offsetting
variances (all in excess of 12% of budgeted cost amounts).
A variance investigation should be undertaken if the likely
benefits of the investigation appear to exceed the costs.

4. No, things are not going as smoothly as the vice president


believes. With regard to the new supplier, SolarPrime is
paying less than expected for direct materials. However, the
quality may be poor, as indicated by the unfavorable
quantity variance and increased usage.
Turning to direct labor, the favorable efficiency
variance means that the company is producing units by

18-47
consuming fewer hours than expected. This may be the
result of the team-building/morale-boosting exercises, as a
contented, well-trained work force tends to be more
efficient. However, another plausible explanation could be
that Solar Prime is paying premium wages (as indicated by
the unfavorable rate variance) to hire laborers with above-
average skill levels.
As a side note, the favorable direct-labor efficiency
variance may partially explain the unfavorable material
quantity variance. That is, laborers may be rushing through
their jobs and using more material than the standards allow.

5. Yes. Hoctor is the production supervisor. The prices paid for


materials and the quality of material acquired are normally
the responsibility of the purchasing manager. The change to
the new supplier may introduce problems of dealing with
the unknown—the supplier’s reliability, ability to deliver
quality goods, etc. Finally, direct-labor wage rates are often
a function of market conditions, which would likely be
uncontrollable from Hoctor’s perspective.

18-48
PROBLEM 10.55 (45 MINUTES)

1. Categories of measures: Area of Manufacturing


Performance
Cycle time (days).......................... a
Number of defective finished b
products.......................................
Manufacturing-cycle efficiency...... a
Customer complaints.................... b, c
Unresolved complaints.................. c
Products returned........................ b, c
Warranty claims........................... b, c
In-process products rejected......... d
Aggregate productivity................. a, e
Number of units produced per day a, e
per employee...............................
Percentage of on-time deliveries... f
Percentage of orders filled............ f
Inventory value/sales revenue....... g, h
Machine downtime (minutes)........ i
Bottleneck machine downtime i
(minutes).....................................
Overtime (minutes) per employee. a, e
Average setup time (minutes)....... a

2. Memorandum
Date: Today
To: Management, Diagnostic Technology, Inc.
From: I. M. Student
Subject:
Performance of Albany plant during 1st quarter

The performance of the Albany plant is evaluated in nine key


areas:
a. Production processing:
Cycle time, manufacturing-cycle efficiency, and productivity
measures all point to consistency and high-level performance
throughout the measurement period. Both cycle time and
manufacturing-cycle efficiency exhibit slight, favorable trends.
b. Product quality:

18-49
The number of defective finished products, number of products
returned, and warranty claims all show improvement over the
period. All three measures suggest excellent performance in
quality control.
c. Customer acceptance:
Customer complaints are steady with an average of 5.5
complaints during a two-week period.
The number of unresolved complaints improved during the
period from 2 to 0. Performance in this area is very high, but
there is a little room for improvement.
d. In-process quality control:
The number of products rejected in process has increased. This
speaks well for the in-process inspection effort. The cause of
these defective in-process units should be investigated and
corrected.
e. Productivity:
Both the aggregate productivity measure and the number of
units produced per day per employee remained relatively steady
throughout the period. The latter of these two measures
exhibited a slight, favorable trend.
f. Delivery performance:
Both performance measures (percentages of on-time deliveries
and orders filled) were very high through the period, finishing at
100 % in period 6.
g. & h. Raw material and scrap; inventory:
Inventory value/sales revenue remained consistently low through
the period (average of 1.83%).
i. Machine maintenance:
Machine downtime was low through the period (average of 84
minutes each two-week period). Bottleneck machine downtime
was low except in period 5. The cause of that incident should be
investigated.
Overall evaluation:
The Albany plant has performed at a very high level of efficiency
in virtually every phase of its operations during the 1st quarter.

18-50
ISSUE 10-65
“WHEN HYBRID CARS COLLIDE,” THE WALL STREET JOURNAL,
FEBRUARY 6, 2003, P. B1, NORIHIKO SHIROUZU.
At this early stage in the product development cycle there is
little historical data on which to base cost estimates for the new
processes. Accordingly, many of the standard costs will be set
based on task analysis; managers will be applying their
significant prior knowledge of what each process should cost.
Some of the processes are likely identical to those for other car
models, and so costs for these processes could be estimated
using historical data.
The manufacturers in this cost-sensitive industry are still trying
to generate enough sales volumes to leverage economies of
scale for hybrid cars. Manufacturers stand to benefit from
significantly reduced costs by adopting one standard across the
industry, and each individual manufacturer stands to benefit the
most by having its standard adopted. These savings will result
largely from economies of scale for materials and components to
build the engines. In light of the business objective to be the
standard-setter, there is added pressure on each manufacturer
to demonstrate the lowest standard costs among the
competitors in order to become the de facto industry standard.

18-51
CHAPTER 11 - Flexible Budgeting and the Management
of Overhead and Support Activity Costs

EXERCISE 11-30 (10 MINUTES)

1 Flexible budgeted amounts, using activity-based flexible


. budget:
a. Indirect material: $33,000 ($18,000 + $3,000 + $3,000 +
b. Utilities: $6,000 ($4,500 + $1,500)
c. Inspection: $3,300
d. Test kitchen: $2,400
e. Material handling: $3,000
f. Total overhead cost: $64,800 ($45,000 + $7,800 + $2,400

2 Variance for setup cost:


.
a. Using the activity-based flexible budget: $1,000 F (actual
cost minus flexible budget = $3,500 – $4,500)
b. Using the conventional flexible budget: $500 U (actual
cost minus flexible budget = $3,500 – $3,000)

PROBLEM 11-44
Please turn to the excel file ‘Solution additional exercises in
excel’.

CASE 11-54 (50 MINUTES)


1 Planned production = 5,000 units.
.
The reasoning is as follows:
budgeted
fixedoverhead
(a) Fixed-overhead rate per =
planned
direct
-labor
hours
direct-labor hour
$60,000
$6 per hr. =
X
Therefore, planned direct-labor hours (X) equals 10,000
hours.
(b Planned direct- = planned production × standard

18-52
) labor hours hours per unit
10,000 hr. = X × 2 hr. per unit
Therefore, planned production (X) equals 5,000 units.

2 Actual = planned production – 500 units = 5,000 – 500


. production = 4,500 units

3 Actual fixed = $64,875.


. overhead
Fixed overhead budget = actual fixed overhead – budgeted
variance fixed overhead
$4,875 U = X – $60,000 Actual fixed overhead
(X) = $64,875.

4. Total standard allowed direct-labor hours = 4,500 units


produced × 2 hr. per unit = 9,000 hr

5. Actual direct- = $22.50 per hour.


labor rate
Direct-labor rate = AH (AR – SR)
variance
$13,200 U = 8,800(AR – $21) AR =
$22.50.

6. Standard variable- = $9 per direct-labor hour.


overhead rate
Variable-overhead = SVR(AH – SH)
efficiency $1,800
variance
F = SVR(8,800 – 9,000) SVR =
$9 per hr.

7. Actual variable- = $9.45 per direct-labor hour.


overhead rate
Variable-overhead = AH(AVR – SVR)
spending variance
$3,960 U = 8,800(AVR – $9) AVR =
$9.45 per hr.

Standard direct- total


standard
direct
-material
quatity
allowed
8. =
material quantity per actual
production
inunits
unit

18-53
13,500
kg.*
= = 3 kg.
4,500
units

*Direct-material = SP(AQ – SQ)


quantity variance
$9,000 U = $18(14,000 – SQ) SQ =
13,500 kg.
9. Direct-material price = PQ(AP – SP)
variance
= 14,000 ($20.25 – $18.00) =
$31,500 U
1 Applied fixed = standard fixed-overhead rate × standard
0. overhead = $6 per hr. × 9,000 hr. = $54,000

1 Fixed-overhead volume variance = budgeted fixed overhead


1. – applied fixed overhead
= $60,000 – $54,000 = $6,000
(Positive)*
*Consistent with the discussion in the text, we choose not to
interpret the volume variance as either favorable or
unfavorable. Some managerial accountants would classify this
as an unfavorable variance, because planned production
exceeded actual production.
CASE 11-55 (50 MINUTES)

1. The $22,000 unfavorable variance between the budgeted and


actual contribution margin for the chocolate nut supreme
cookie product line during February is explained by the
following variances:

a. Direct-material price variance:


Type of Material PQ*(SP − AP+) Variance
Cookie mix 2,325,000($0.02 - $ 0
$0.02)
Milk chocolate 1,330,000($0.15 - 66,500 U
$0.20)
Almonds 240,000($0.50 - 0
$0.50)
Total $66,500
U

18-54
*PQ = AQ, because all materials were used during the month of
purchase.
+
AP = actual total cost (given) ÷ actual quantity

b. Direct-material quantity variance:


Type of Material SP(SQ*- AQ) Variance
Cookie mix $0.02(2,250,000 - $ 1,500
2,325,000) U
Milk chocolate $0.15(1,125,000 - 30,750 U
1,330,000)
Almonds $0.50(225,000 - 7,500
240,000) U
Total $39,750
U
*SQ = standard ounces of input per pound of cookies × actual
pounds of cookies produced.

c. Direct-labor rate variance = AH(SR − AR) = 0.


Dividing the total actual labor cost by the actual labor time
used, for each type of labor, shows that the actual rate and
the standard rate are the same (i.e., AR = SR).

d. Direct-labor efficiency variance:


Type of Labor SR*( SH+− AH) Variance
Mixing $0.24(225,000 - $ 0
225,000)
Baking $0.30(450,000 - 15,000
400,000) F
Total $15,000
F

*Standard rate per minute = standard rate per hour ÷


60 minutes
+
Standard minutes per unit (pound) × actual units
(pounds) produced
e. Variable-overhead spending variance = (AH × SVR) - actual
variable overhead)
= [(625,000*/60) × $32.40] -
$375,000 = $37,500 U
*Total actual minutes of direct labor.

18-55
f. Variable-overhead efficiency variance = SVR (SH*- AH)
 3 × 225,000 625,000 
= $32.40  −  =
 60 60 
$27,000 F
*SH = (3 minutes per unit, or pound × 225,000 units, or
pounds) ÷ 60 minutes

g. Sales-price variance =  sales ×


actual − expected actual
price sales  sales
price volume
 
= ($7.90* − $8.00) × 225,000 = $22,500 U
*Actual sales price = $1,777,500 ÷ 225,000 units sold

h. Sales-volume variance =
 actual − budgeted × budgeted
unit
 sales
volume sales  contributi
volume onm arg
in
 
= (225,000 − 200,000) × $4.09* = $102,250
F
*Budgeted unit contribution margin = $818,000 ÷
200,000 units

Alternative approach: (actual sales volume – budgeted sales


volume) * Budgeted sales price

Summary of variances:
Direct-material price variance.................... $66,500 U
Direct-material quantity variance............... 39,750 U
Direct-labor rate variance.......................... 0
Direct-labor efficiency variance.................. 15,000 F
Variable-overhead spending variance......... 37,500 U
Variable-overhead efficiency variance......... 27,000 F
Sales-price variance................................... 22,500 U
Sales-volume variance............................... 102,250 F
Total.......................................................... $ 22,000 U

2a. One problem may be that direct labor is not an appropriate


cost driver for Colonial Cookies, Inc. because it may not be the
activity that drives variable overhead. A good indication of this
situation is shown in the variance analysis. The direct-labor
efficiency variance is favorable, while the variable-overhead
spending variable is unfavorable. Another problem is that baking

18-56
requires considerably more power than mixing does; this
difference could distort product costs.

2b. ABC may solve the problems described in requirement 2(a) and
therefore is an alternative that management should consider.
Since direct labor does not seem to have a direct cause-and-
effect relationship with variable overhead, the company should
try to identify the activity or activities that drive variable
overhead. If the same proportion of these activities is used in all
of Colonial’s products, then ABC may not be beneficial. However,
if the products require a different mix of these activities, then
ABC could be beneficial.

18-57
CHAPTER 12 - Responsibility Accounting, Quality
Control, and Environmental Cost Management

QUESTION 12-27
Private environmental costs are environmental costs borne by a
company or individual.
Social environmental costs are environmental costs borne by the
public at large.
Visible environmental costs are costs that are clearly identified
as environmental costs.
Hidden environmental costs are caused by environmental issues,
but are not identified as such.
Monitoring costs: costs of monitoring the production process to
determine if pollution is created.
Abatement costs are costs incurred to reduce or eliminate
pollution.
On-site remediation costs are costs of reducing or eliminating
the discharge into the environment of pollutants that have been
generated in the production process.
Off-site remediation costs are costs of reducing or eliminating
pollutants from the environment after they have been
discharged.

QUESTION 12-28
End-of-pipe strategies: Under this approach, a company
produces a pollutant and cleans it up before discharging it into
the environment.
Process improvement strategies: Under this approach,
companies modify products or production processes to produce
little or no pollution, or recycle wastes internally.
Prevention strategies: Companies do not generate any pollutants
in the first place.

EXERCISE 12-30 (10 MINUTES)


(1) Orange juice factory: Cost center or profit center.
(2) College of engineering at a university: Profit center.

18-58
(By designating the college of engineering as a profit center,
this subunit is encouraged to generate research grants and
to operate effectively. The term "profit center" is used in a
slightly different way here. No subunit in a university really
makes a profit. However, treating the college of engineering
like a profit center means that its management will have
considerable authority in managing the subunit's revenues
and expenses.)
(3) European division of a multinational manufacturing company:
Investment center.
(4) Outpatient clinic in a profit-oriented hospital: Profit center.
(5) Mayor's office of a city: Cost center. (8) Claims
department: Cost center.
(6) Movie theater: Cost center or profit center. (9) Ticket sales
division of an
airline: Revenue center.
(7) Radio station: Profit center. (10) Bottling plant:
Cost center.
PROBLEM 12-51 (40 MINUTES)

1. The factors that should be present for an organization's


quality program to be successful include the following:
• Evidence of top management support, including motivational
leadership and resource commitments.
• Training of those involved, including employees and suppliers.
• A cultural change leading to a corporate culture committed to
the customer and to continuous, dynamic improvement.

2. From an analysis of the cost-of-quality report, the program


appears to have been successful, because of the following:
• Total quality cost has declined from 23.4% to 13.1% of total
production costs.
• External failure costs, those costs signaling customer
dissatisfaction, have declined from 8% of total production cost
to 2.3%. These declines in warranty repairs and customer
returns should translate into increased sales in the future.
• Internal failure costs have been reduced from 4.6% to 2.3 % of
production costs, and the overall cost of scrap and rework has
gone down by 45.7% ($188,000 – $102,000) / $188,000.

18-59
• Appraisal costs have decreased by 43.4% [($205,000 –
$116,000) / $205,000]. Higher quality is reducing the demand
for final testing.
• Quality costs have shifted to the area of prevention, where
problems are solved before the customer becomes involved.
Maintenance, training, and design reviews have increased
from 5.8% of total production cost to 6% and from 24.9% of
total quality cost to 45.7%. The $30,000 increase is more than
offset by decreases in other quality costs.

3. Tony Reese's current reaction to the quality improvement


program is more favorable, because he is seeing the benefits
of having the quality problems investigated and solved before
they reach the production floor. Because of improved designs,
quality training and additional pre-production inspections,
scrap and rework costs have declined. Production personnel
do not have to spend a lot of time on customer service,
because they are now making the product right the first time.
Throughput has increased and throughput time has decreased.
Work is now moving much faster through the department.

4. To measure the opportunity cost of not implementing the


quality program, management could do the following:
• Assume that sales and market share will continue to decline
and then calculate the revenue and income lost.
• Assume that the company will have to compete on price rather
than on quality and calculate the impact of having to lower
product prices.

CASE 12-54 (45 MINUTES)

1. Segmented income Coastal New Haven Boston


statement: District Store Store

Sales............................... $1,200,000 $1,050,000


Less: Cost of goods sold $3,000,00 504,000 441,000
Gross margin 0 $ 696,000 $ 609,000
Operating expenses:
Variable selling 1,267,500 $72,000 $63,000
Variable 30,000 26,250
administrative $1,732,50
Other direct expenses:

18-60
Store maintenance 0 15,000 1,200
Advertising 100,000 10,000
Rent and other costs $180,000 120,000 90,000
District general 75,000
administrative 144,000 126,000
expenses (allocated) 25,200
Regional general and 150,000 110,000 110,000
administrative 300,000 $ 591,000 $ 426,450
expenses (allocated) $ 105,000 $ 182,550
Total expenses 360,000
Net Income
330,000

$1,420,20
0
$
312,300

Supporting Coastal District New Haven Boston Store


calculations: Store
Sales Given $3,000,000 $3,000,000 x
Cost of goods sold Given x .40 .35
Variable selling $3,000,000 x .06 $1,200,000 $1,050,000 x
Variable $3,000,000 x x .42 .42
administrative .025 $1,200,000 $1,050,000 x
Maintenance $15,000 + $1,200 x .06 .06
Advertising + $9,000 $1,200,000 $1,050,000 x
Rent Given x .025 .025
District expenses Given Given Given
Given ($150,000)( $100,000 at
2/3) NH x .10
$300,000 x $300,000 x
.40 .30
$360,000 x $360,000 x
.40 .35

2. The Portland store's net income for May is $24,750 ($312,300 -


$105,000 - $182,550).

3. The impact of the responsibility-accounting system and bonus


structure on the managers' behavior and the effect of this
behavior on the financial results for the two stores include:
a. New Haven Store:

18-61
• Because the bonus is based on sales over $1,140,000, the
manager has concentrated on maximizing sales and has paid
little attention to costs. The store's net income is less than 9%
of sales and only 34% of total net income, although sales were
40% of district sales.
• In an effort to maximize sales, the New Haven store spent 10
times as much as the Boston store on advertising but
generated only $150,000 more in sales.

b. Boston Store:
• Because the manager of the Boston store is motivated to
maximize net income, there appears to be a tendency to cut
back on discretionary expenses, such as store maintenance
and advertising. While management is seeking cost control,
the lack of spending on these discretionary items may have an
adverse long-term effect.
• The manager of the Boston store will be unhappy with the
inclusion of allocated district and regional expenses in the
calculation of net income. These expenses are not likely to be
controlled by the store manager and will reduce the bonus
received by the manager.

4. The assistant controller's actions violate several standards of


ethical conduct:

Competence:
• Prepare complete and clear reports and recommendations
after appropriate analysis of relevant and reliable information.

Integrity:
• Communicate unfavorable and favorable information and
professional judgments.
• Refrain from engaging in any activity that would discredit the
profession.
Objectivity:
• Communicate information fairly and objectively.
• Disclose fully all relevant information that could reasonably be
expected to influence an intended user's understanding of the
reports, comments, and recommendations presented.

18-62
CHAPTER 13 – Investment Centers and Transfer Pricing

PROBLEM 13-37 (45 MINUTES)


Division Division Division
I II III
Sales revenue............................ $40,000 $8,000, $3,200,
,000 000e 000l
Income...................................... $ $ $
8,000,0 1,600,0 800,000
00 00 k

Average investment................... $10,000 $8,000, $4,000,


,000 000f 000j
Sales margin.............................. 20%a 20% 25%
Capital turnover......................... 4b
1 .8i
ROI............................................ 80%c 20%g 20%
Residual income......................... $ $ $
7,200,0 960,000 480,000
00d h

Explanatory notes:
a income $8,000,000
Sales =
margin = = 20%
sales
revenue$40,000,00
0
b sales
revenue$40,000,00
0
Capital =
turnover = =4
invested
capital$10,000,00
0
c
ROI = sales margin × capital turnover = 20% × 4 = 80%
d
Residual income = income – (imputed interest
rate)(invested capital)
= $8,000,000 – (8%)($10,000,000) = $7,200,000

e
income
Sales =
sales
revenue
margin
$1,600,000 Therefore, sales revenue =
20% =
revenue $8,000,000
sales

f
sales
revenue
Capital =
invested
capital
turnover
$8,000,000
1 = Therefore, invested capital =
invested
capital
$8,000,000

18-63
g
= sales margin × capital turnover
ROI

ROI = 20% × 1 = 20%
h
Residual = income – (imputed interest rate)(invested
income capital)
= $1,600,000 – (8%)($8,000,000) = $960,000
i
ROI = sales margin × capital turnover
20 = 25% × capital turnover Therefore, capital
% turnover = .8

j
income
ROI = = 20%
invested
capital
Therefore, income = (20%)(invested capital)
Residual = income – (imputed interest rate)(invested
income capital) = $480,000
Substituting from above for income:
(20%)(invested capital) – (8%)(invested capital) = $480,000
Therefore, (12%)(invested capital) = $480,000 So,
invested capital = $4,000,000
income
k
=
invested
capital
ROI
income
20 = Therefore, income = $800,000
$4,000
,000
%

l
income
Sales =
sales
revenue
margin
$800
,000
25% = Therefore, sales revenue =
sales
revenue
$3,200,000

PROBLEM 13-38 (20 MINUTES)

18-64
1. Three ways to increase Division I's ROI:
(a Increase income, while keeping invested capital the same.
) Suppose income increases to $9,000,000. The new ROI is:
income $9,000,000
ROI= = = 90%
invested
capital$10,000,000

( Decrease invested capital, while keeping income the same.


b Suppose invested capital decreases to $9,600,000. The new
) ROI is:
income $8,000
,000
ROI= = = 83.3%(rounded
)
invested
capital$9,600
,000

(c Increase income and decrease invested capital. Suppose


) income increases to $8,400,000 and invested capital
decreases to $9,600,000. The new ROI is:
income $8,400
,000
ROI= = = 87.5%
invested
capital$9,600
,000

2. RO = sales margin × capital turnover


I
= 25% × 1 = 25%
PROBLEM 13-43 (30 MINUTES)

1. Sales margin: income divided by sales revenue.


Capital turnover: sales revenue divided by invested capital
ROI: income divided by invested capital (or sales margin x
capital turnover).
Sales margin: $540,000 ÷ $7,200,000 = 7.5%
Capital turnover: $7,200,000 ÷ $9,000,000 = 80%
Return on investment: $540,000 ÷ $9,000,000 = 6%, or 7.5% x
80% = 6%

2. Strategy (a): Income will be reduced to $450,000 because of


the loss, and invested capital will fall to $8,910,000 from the
disposal. ROI = $450,000 ÷ $8,910,000 or 5.05%. This strategy
should be rejected, since it further hurts Washburn’s
performance.
Strategy (b): In terms of ROI, this strategy neither hurts nor
helps. The acceleration of overdue receivables increases cash
and decreases accounts receivable, producing no effect on
invested capital. Of course, it is possible that the newly
acquired cash could be invested in something that would
provide a positive return for the firm.

18-65
3. Yes. A drastic cutback in advertising could lead to a loss of
customers and a reduced market share. This could translate
into reduced profits over the long term. With respect to
repairs and maintenance, reduced outlays could prove costly
by unintentional shortening of the useful lives of plant and
equipment. Such action would likely result in an accelerated
asset replacement program.

4. Anderson Manufacturing ROI: ($4,500,000 - $3,600,000) ÷


$7,500,000 = 12%
Palm Beach Enterprises ROI: ($6,750,000 - $6,180,000) ÷
$7,125,000 = 8%
From the preceding calculations, both investments appear
attractive given the current state of affairs (i.e., the Hardware
Division’s current ROI of 6%). However, if Washburn desires to
maximize ROI, he would be advised to acquire only Anderson
Manufacturing.

Current Current +
Current + Anderson +
Anderso Palm Beach
n
Income $ $ $ 2,010,000**
540,00 1,440,00
0 0*
Invested 9,000, 16,500, 23,625,000
capital 000 000
ROI 6% 8.73% 8.51%
* $540,000 + ($4,500,000 - $3,600,000)
** $540,000 + ($4,500,000 - $3,600,000) +
($6,750,000 - $6,180,000)

18-66
PROBLEM 13-44 (35 MINUTES)

1. The weighted-average cost of capital (WACC) is defined as


follows:
 After 
- tax
 costof  Market
  Costof Market
   


 debt  value + equity value
of
Weighted-  capital 
 ofdebt  
capital 
equity
average =       
costof Market Market
capital value + value
ofdebt ofequity

The following calculation shows that the company’s WACC is


9.72 percent.
Weighted- average (.063)($40 + (.12)($600
0,000,000) ,000,000)
= = .0972
costofcapital 00+ $600,000,0
$400,000,0 00

2. The three divisions’ economic-value-added measures are


calculated as follows:
Curren
After-Tax Total
t Economic
Operatin Asset
Liabilit Value
g s W
− − ies × = Added
Income (in ACC
(in (in
(in millio
Divisi million millions)
millions) ns)
on s)

Pacific. $14 × − [($ − $6) × .097 = $


(1−.30) 70 2] 3,579,20
0
Plains.. $45 × − [($30 − $5) × .097 = $
(1−.30) 0 2] 2,826,00
0
Atlant $48 × − [($48 − $9) × .097 = $(12,181,
ic........ (1−.30) 0 2] 200)

3. The EVA analysis reveals that the Atlantic Division is in


trouble. Its substantial negative EVA merits the immediate
attention of the management team.

18-67
PROBLEM 13-48 (40 MINUTES)

1. Among the reasons transfer prices based on total actual costs


are not appropriate as a divisional performance measure are
the following:
• They provide little incentive for the selling division to control
manufacturing costs, because all costs incurred will be passed
on to the buying division.
• They often lead to suboptimal decisions for the company as a
whole, because they can obscure cost behavior. Costs that are
fixed for the company as a whole can be made to appear
variable to the division buying the transferred goods.

2. Using the market price as the transfer price, the contribution


margin for both the Mining Division and the Metals Division is
calculated as follows:
Mining Metals
Division Division
Selling price...................................... $ $
Less: Variable costs: 270 450
Direct material...........................
Direct labor................................ 36 18
Manufacturing overhead............. 48 60
Transfer price............................. 72* 30†
Unit contribution margin.................... 27
Volume.............................................. $ 0
Total contribution margin................... 114 $
x 72
400,000 x
$45,600,0 400,000
00 $28,800,0
00
*Variable overhead = $96 x 75% = $72
†Variable overhead = $75 x 40% = $30
Note: the $15 variable selling cost that the Mining Division would
incur for sales on the open market should not be included,
because this is an internal transfer.

3. If RIRC instituted the use of a negotiated transfer price that


also permitted the divisions to buy and sell on the open
market, the price range for toldine that would be acceptable
to both divisions would be determined as follows.

18-68
The Mining Division would like to sell to the Metals Division for
the same price it can obtain on the outside market, $270 per
unit. However, Mining would be willing to sell the toldine for
$255 per unit, because the $15 variable selling cost would be
avoided.
The Metals Division would like to continue paying the bargain
price of $198 per unit. However, if Mining does not sell to
Metals, Metals would be forced to pay $270 on the open market.
Therefore, Metals would be satisfied to receive a price
concession from Mining equal to the costs that Mining would
avoid by selling internally. Hence a negotiated transfer price
between $255 and $270 would be acceptable to both divisions
and benefits the company as a whole.
4. General transfer-pricing rule: Transfer price = outlay cost +
opportunity cost
= ($36 + $48 + $72)* + ($114 - $15) **
= $156 + $99 = $255
*Outlay cost = direct material + direct labor + variable overhead
[see requirement (2)]
**Opportunity cost = forgone contribution margin from outside
sale on open market
= $114 contribution margin from internal sale calculated in
requirement (2), less the additional $15 variable selling cost
incurred for an external sale
Therefore, the general rule yields a minimum acceptable transfer
price to the Mining Division of $255, which is consistent with the
conclusion in requirement (3).

5. A negotiated transfer price is probably the most likely to elicit


desirable management behavior, because it will do the
following:
• Encourage the management of the Mining Division to be more
conscious of cost control.
• Benefit the Metals Division by providing toldine at a lower cost
than that of its competitors.
• Provide the basis for a more realistic measure of divisional
performance.

18-69
CHAPTER 14 - Decision Making: Relevant Costs and
Benefits

EXERCISE 14-31 (15 MINUTES)

The owner’s analysis incorrectly includes the following allocated


costs that will be incurred regardless of whether the ice cream
counter is operated:

Utilities .................................................................... $
4,350
Depreciation of building ........................................... 6,000
Deli manager’s salary ............................................... 4,50
0
Total ........................................................................ $14,85
0

It is possible that closing the ice cream counter might save


a portion of the utility cost, but this is not taken into account
below since the portion of savings cannot be determined based
on the data provided.

A better analysis follows:


Sales .......................................................... $67,5
00
Less: Cost of food ........................................ 30,0
00
Gross profit ................................................. 37,50
0
Less: Operating expenses
Wages of counter personnel ............... $18,
000
Paper products ................................... 6,00
0
Depreciation of counter equipment and 3,
furnishings* ................................................ 750
Total ................................................... 27,7
50
Profit on ice cream counter $
9,750

18-70
*Depreciation on the counter equipment and furnishings is
included because it is traceable to the ice cream operation and
is an expense in the determination of income. If a cash-flow
analysis is desired, this non-cash expense should be excluded.

EXERCISE 14-34 (15 MINUTES)

1. The owner’s reasoning probably reflects the following


calculation:
Savings in annual operating expenses if old pizza oven is
replaced $3,000
Write-off of old oven’s remaining book value ($10,500 ÷ 3)
(3,500)
“Loss” associated with replacement $ (500)
2. The owner’s analysis is flawed, because the book value of
the old oven is a sunk cost.
3. Correct analysis:
Savings in annual operating expenses if old pizza oven is
replaced $3,000
Acquisition cost of new oven, which will be operable for one
year (2,200)
Net benefit from replacing old pizza oven $ 800
PROBLEM 14-44 (25 MINUTES)
1. Contemporary Trends will be worse off by $6,400 if it
discontinues wallpaper sales.

Paint and Carpeting Wallpap


Supplies er
Sales $190,000 $230,000 $
70,000
Less: Variable 114,000 161,000 56,00
costs 0 If
Contribution $ 76,000 $ 69,000 $
margin 14,000
wallpaper is closed, then:
Loss of wallpaper CM $(14,00
0)
Remodeling (6,20
0)
Added profitability from carpet sales* 32,50
0
Fixed cost savings ($22,500 x 40%) 9,00

18-71
0
Decreased CM from paint and supplies (15,20
($76,000 x 20%) 0)
Increased advertising (12,50
0)
Income (loss) from closure $
(6,400)
* The current CM ratio for carpeting is 30% ($69,000 ÷
$230,000). This ratio will increase to 35%, producing a new
contribution for the line of $101,500 [($230,000 + $60,000) x
35%]. Carpeting’s CM will rise by $32,500 ($101,500 - $69,000),
boosting firm profitability by the same amount.
2. This cost should be ignored. The inventory cost is sunk (i.e., a
past cost that is not relevant to the decision). Regardless of
whether the department is closed, Contemporary Trends will
have a wallpaper inventory of $11,850.
3. The Internet- and magazine-based firms likely have several
advantages:
• These companies probably carry little or no inventory. When a
customer places an order, the firm simply calls its supplier and
acquires the goods. The result may be lower expenditures for
storage and warehousing.
• These firms do not need retail space for walk-in customers.
• Internet- and magazine-based firms can conduct business
globally. Contemporary Trends, on the other hand, is confined
to a single store in Baltimore.

PROBLEM 14-49 (25 MINUTES)

1. Per-unit contribution margins:


Standard Enhanced
Selling price $375 $495
.00 .00
Less Variable costs:
Direct material $42. $67.
00 50
Direct labor 22.5 30.0
0 0
Variable manufacturing 36.0 48.0
overhead 0 0
Sales commission: $375 x 37. 49.

18-72
10%; $495 x 10% 50 50
Total unit variable cost 138 195
.00 .00
Unit contribution margin $237 $300
.00 .00
2. The following costs are not relevant to the decision:
• Development costs—sunk
• Fixed manufacturing overhead—will be incurred regardless
of which product is selected
• Sales salaries—identical for both products
• Market study—sunk
3. Martinez, Inc. expects to sell 10,000 Standard units (40,000
units x 25%) or 8,000 Enhanced units (40,000 units x 20%). On
the basis of this sales forecast, the company would be advised
to select the Standard model.
Standar Enhanc
d ed
Total CM: 10,000 units x $237; 8,000 $2,370, $2,400,
units x $300 000 000
Less: Marketing and advertising 195, 300,
000 000
Income $2,175, $2,100,
000 000
4. The quantitative difference between the profitability of
Standard and Enhanced is relatively small, which may prompt
the firm to look at other factors before a final decision is
made. These factors include:
- Competitive products in the marketplace
- Data validity
- Growth potential of the Standard and Enhanced models
- Production feasibility
- Effects, if any, on existing product sales
- Break-even points

PROBLEM 14-50 (20 MINUTES)


1. When there is no limit on production capacity the Pro model
should be manufactured since it has the highest contribution
margin per unit.
Basic Delux Pro
e

18-73
Selling price $116 $130 $160
Direct material 32 40 38
Direct labor 20 30 40
Variable overhead 16 24 32
Total variable cost $ 68 $ 94 $110
Contribution margin $ 48 $ 36 $ 50

2. When labor is in short supply the Basic model should be


manufactured, since it has the highest contribution margin
per direct-labor hour.
Basic Delux Pro
e
Contribution margin per unit $48 $36 $50   
Direct-labor hours required   1 1.5   2   
Contribution margin per direct-labor $48 $25
hour $24
PROBLEM 14-60 (40 MINUTES)
1. In order to maximize contribution margin, the objective
function and constraint functions would be formulated as
follows:
Notation: E = number of batches of Eclipse candy
bars
N = number of batches of Nova candy bars
TCM = total contribution margin
The objective function is as follows:
Maximize TCM = 250N + 400E Subject to the following
constraints:
Mixing Department: 1.5E + 1.5N ≤ 525
Coating Department: 2.0E + 1.0N ≤ 500
Materials: N ≤ 300
Non-negativity: E ≥ 0 and N ≥ 0

18-74
Eclipse

500

400
Mixing department constraint Material constraint

Objective function
300
Optimal solution
(N=200, E =150)

200

Feasible Coating department constraint


100
region

Nova
100 200 300 400 500

2. The number of batches of each candy bar that should be


produced to maximize contribution can be determined by
graphing the linear program (see above). The optimal solution
is to produce 200 batches of Nova bars and 150 batches of
Eclipse bars.
3. The total contribution margin, then, is $110,000 [(200 × $250)
+ (150 × $400)].
CHAPTER 15 - Target Costing and Cost Analysis for
Pricing Decisions

PROBLEM 15-40 (25 MINUTES)

1. Direct-labor hours (DLH) required for job =


1,000,000
dosestobepackaged
= 500 DLH
2,000
doses/DLH
Traceable out-of-pocket costs:

18-75
 Direct labor ($16.00 × 500) $ 8,000
 Variable overhead ($12.00 × 500) 6,000
 Administrative cost   2,000
  Total traceable out-of-pocket costs $16,000

totaltraceabl
eout-of-pocket
costs $16,000
Minimum price per dose = = =
1,000,000
doses 1,000,000
$.016

2. As in requirement (1), 500 direct-labor hours are required for


the job.
Direct labor ($16.00 × 500) $ 8,000
Variable overhead ($12.00 × 500) 6,000
Fixed overhead ($20.00 × 500) 10,000
Administrative cost   2,000
 Total cost $26,000
Maximum allowable return (15%)   3,900
 Total bid price $29,900

total
bidprice $29,900
Bid price per dose =  =  = $0.0299 per
1,000,000
doses 1,000,000
dose

3. Under the supposition that the price computed by Manhattan


Pharmaceuticals, Inc. using Wyant’s criterion is greater than
$0.03, the factors that Manhattan’s management should
consider before deciding whether or not to submit a bid at the
maximum allowable price include whether Manhattan
Pharmaceuticals has excess capacity, whether there are
available jobs on which earnings might be greater, and
whether the maximum bid of $0.03 contributes toward
covering fixed costs.

18-76
PROBLEM 15-44 (25 MINUTES)

1. Target costing is more appropriate. MSC is limited in terms of


what price it can charge due to market conditions. A cost-plus-
markup approach will use the desired markup for the
company; however, the resulting price may too high and not
competitive. In such an environment it makes more sense to
use target costing, which begins with the price to be charged
and works backward to determine the allowable cost.

2. Target profit = asset investment x rate of return


= $27,000,000 x 12% = $3,240,000

3. Revenue = target profit + variable cost + fixed cost


= $3,240,000 + (25,000 hours x $33) + $2,850,000
= $6,915,000

Since total revenue must equal $6,915,000, the revenue per hour
must be $276.60 ($6,915,000 ÷ 25,000 hours).

4. Target profit = asset investment x rate of return


= $27,000,000 x 14% = $3,780,000
Revenue = target profit + variable cost + fixed cost
= $3,780,000 + (25,000 hours x $33) + $2,850,000
= $7,455,000

No. A 14% return requires that MSC generate revenue per


service hour of $298.20 ($7,455,000 ÷ 25,000 hours), which is
clearly in excess of the $265 market price.

5. To achieve a 14% return and a $265 revenue-per-hour figure,


the company must trim its costs. MSC could use value
engineering, a technique that utilizes information collected
about a service’s design and associated production process.
The goal is to examine the design and process and then
identify improvements that would produce cost savings.

18-77
CHAPTER 17 - Absorption, Variable, and Throughput
Costing

EXERCISE 17-13 (15 MINUTES)

1. a. Inventory decreases by 3,000 units, so income is greater


under variable costing.
b. Fixed overhead rate per unit = $11,000,000 / 22,000 =
$500
Difference in reported income = $500 x 3,000 =
$1,500,000

2. a. Inventory remains unchanged, so there is no difference in


reported income under the two methods of product
costing.
b. No difference.
3. a. Inventory increases by 1,200 units, so income is greater
under absorption costing
b. Fixed overhead rate per unit = $11,000,000 / 11,000 =
$1,000
Difference in reported income = $1,000 x 1,200 =
$1,200,000

18-78
PROBLEM 17-33 (40 MINUTES)
1. Standard throughput cost per unit:
Direct material cost per unit* $40
Total standard throughput cost per unit $40
*Direct material is the only throughput cost.

2. GREAT OUTDOZE, INC.


INCOME STATEMENT FOR 20X4 BASED ON THROUGHPUT COSTING
Sales revenue (22,000 units at $130 per unit) $2,860,00
0
Less:.......Cost of goods sold (at throughput
standard cost, the
standard direct-material cost, 22,000 880,00
x $40 per unit) 0
Gross margin $1,980,00
0
Less: Operating costs:
Direct labora 550,000
Variable overheadb 400,000
Variable selling and administrative costs
(at $2 per unit)c 44,000
Fixed manufacturing overhead 400,000
Fixed selling and administrative costs    60,000
Net income $ 
526,000
a
Since the company manufactured more units than planned, we
must assume that management has committed to direct labor
sufficient to produce the actual production volume of 25,000
units; direct labor is used at the rate of $22 per unit produced.
b
Since the company manufactured more units than planned, we
must assume that management has committed to support
resources sufficient to produce the actual production volume of
25,000 units; variable-overhead cost is used at the rate of $16
per unit produced.
c
Variable selling and administrative costs amount to $2 per unit
sold.

3. For throughput costing: Some managerial accountants believe


that absorption costing may provide an incentive for managers
to overproduce inventory so that the fixed manufacturing
overhead costs may be spread over a larger number of product

18-79
units, thereby lowering the reported product cost per unit.
Throughput costing avoids this potential problem by not
assigning fixed manufacturing overhead as a product cost.
Against throughput costing: Many managers prefer
absorption-costing data for cost-based pricing decisions. They
argue that fixed manufacturing overhead is a necessary cost
of production. To exclude this fixed cost from the inventoried
cost of a product, as is done under throughput (and variable)
costing, is to understate the cost of the product. This, in turn,
could lead to setting cost-based prices too low.

FOCUS ON ETHICS (See pages 734 and 735 in the text.)

It is often asserted that AC results in an incentive for managers


to overproduce inventory, even during a period of slack demand,
in order to boost profit.
The year 1 and year 2 income statements presented in the
text for Brandolino Company are prepared under AC. While sales
revenue, direct manufacturing costs, and selling and
administrative costs are the same both years, income is
dramatically higher in year 2. Why? The reason for the higher
year 2 income is that Brandolino’s new president increased
production from 10,000,000 units in year 1 to 30,000,000 units in
year 2. Under AC, 2/3 of the year 2 fixed manufacturing overhead
of $48,000,000 will remain in the year 2 ending inventory rather
than being expensed during year 2. In contrast, in year 1, the
entire amount was expensed (even under AC), because year 1
sales was equal to year 1 production. (We know that the entire
$48,000,000 of manufacturing overhead is fixed, because it
remained constant across the two years in spite of the
significant change in production volume.)
If the year 1 and year 2 income statements had been
prepared under VC the entire $48,000,000 of fixed
manufacturing overhead would have been expensed as a period
cost in both year 1 and year 2. Thus, under VC, the operating
loss for each year would have been $(18,000,000), calculated as
follows:
Sales (10,000,000 units at $6)………………………. $
60,000,000

18-80
Less: Cost of goods sold (10,000,000 at $2)…….
(20,000,000)
Margin…………………………………………………… $ 40,000,000
Less: Fixed manufacturing overhead……………..
(48,000,000)
Less: Selling and administrative costs……………
(10,000,000)
Operating loss…………………………………………. $(18,000,000)

What has happened in this company? Brandolino’s new


president, taking advantage of the company’s AC system,
increased production from 10,000,000 units to 30,000,000 units
for the sole purpose of showing a large operating income and
earning a large bonus in year 2. After year 2, the president left
the company. During some future period(s), the remaining
$32,000,000 (2/3 x $48,000,000) of year 2 fixed manufacturing
overhead will eventually be expensed, and Brandolino will very
likely once again be in a loss position.
Meanwhile, the president has moved on, because he “enjoys
challenges.”

18-81
CHAPTER 18 - Allocation of Support Activity Costs and
Joint Costs

EXERCISE 18-15 (15 MINUTES)


Direct Customer Service Departments
Using Services
Cost to Be Deposit Loan
Provider of Allocated Proporti Proportio
Service on Amount n Amount
Personnel $ (6/9) $306,00 (3/9) $153,000
459,000 0
Computing   (50/85)   (35/85)  283,500
688,500 405,000
Total $1,147,50 $711,00 $436,500
0 0

Grand total $1,147,500

EXERCISE 18-20 (10 MINUTES)


Quantity at
Joint Joint Split-Off Relative Allocation
Cost Products Point Proportion of Joint Cost
Yummies 12,000 .60 $54,000*
kilograms
$90,000
Crummies  8,000 .40  36,000†
kilograms
20,000
Total kilograms $90,000
*$54,000 = $90,000 × 0.60 †
$36,000 = $90,000 × 0.40

PROBLEM 18-25 (40 MINUTES)


1. Direct method:
Production Departments
Cost to Machining Finishing
Provider of Be Proportio Proporti
Service Allocated n Amount on Amount

18-82
 230,000  
107,33 122,66
Maintenance (35/75) 3* (40/75) 7
 350,000     
262,50 87,500
Design (45/60) 0 (15/60)  
$830,000 $480,9 $349,0
Total 44 56 

Grand total $830,000


2. Sequence for step-down method:
1st: HR (serves 2 other service departments)
2nd: Maintenance (serves 1 other service department)
3rd: Design (serves no other service departments)

18-83
PROBLEM 18-25 (CONTINUED)

1. Step-down method:
Service Departments Production Departments
HR Maintenance Design Machining Finishing
Costs prior to $250,00 $230,00 $350,0
 allocation 0 0 00
Allocation of
 HR
 Department $250,00 (5/10 (5/10 $100,0(40/1 $125,0(50/10
costs 0   12,5000) 12,5000) 0000) 000)
Allocation of
 Maintenance
 Department $242,50   *(5/8 106,09*(35/ 121,25(40/80
costs 0 15,1560) 480) 0)
Allocation of
Design  
 Department $377,6 283,24(45/6   (15/60
costs 56 20) 94,414)
Total cost
 allocated to
each $489,3 $340,6
 department 36 64

Total cost allocated to production departments   $830,000

*Rounded

18-84
CASE 18-36 (50 MINUTES)

1. Diagram of joint production process:

Resoline, Separable Resolite,


sales process sales value:
value: costing: $840,000
$600,000 $120,000 (8,000 x
10,000 Joint (8,000 x (8,000 x $15) $105)
gallons of production Split-off point
input process
costing costing Krypto, Separable Kryptite,
$180,000 $450,000 sales value: process sales value:
$300,000 costing: $570,000
(2,000 x $90,000 (2,000 x
Total joint cost: $150) $285)
(2,000 x $45)
$630,000 for
a 10,000 gallon
batch

18-85
2. Allocation of joint costs:

a. Physical-units method:
Joint Joint Quantity at Relative Allocatio
Cost Products Split-Off Proportion n of Joint
Point Cost
$630,0 Resoline  8,000 8/10 $504,000
00 pounds
Krypto  2,000 2/10  126,000
pounds
Total 10,000 $630,000
pounds

b. Relative-sales-value method:
Joint Joint Sales Value Relative Allocatio
Cost Products at Proportion n of Joint
Split-Off Cost
Point
$630,0 Resoline $600,000 2/3 $420,000
00
Krypto  300,000 1/3  210,000
Total $900,000 $630,000

c. Net-realizable-value method:

1-86
Sales Separable Net Allocatio
Joint Value of Cost of Realizabl Relative n
Joint Product Final Processin e Proporti of Joint
Cost s Product g Value on Cost
Resolite $840,000 $120,000 $ 0.60 $378,00
$630,0 Kryptite 720,000 0
00  570,000   90,000   0.40  
480,000 252,000
Total $1,200,0 $630,00
00 0
3. Decision analysis:
Incremental revenue per pound:
 Sales price of Omega ........................... $390
 Sales price of Kryptite .........................  285
 Incremental revenue ........................... $105
Incremental cost per pound:*
 Separable processing .......................... $120
 Packaging ...........................................  18
 Incremental cost .................................  138
Incremental loss per pound .................... $(33)
Conclusion: The Kryptite should not be processed further into
Omega.
*Notice that these are the separable costs incurred after Kryptite
has already been produced. The separable costs of processing
Krypto into Kryptite are properly excluded.
4. The joint cost allocation should not be used in the decision
analysis. The total joint cost will not be affected by the
decision.

1-87