Analysis Of Costing System And Activity Based Costing

Deficiencies in the Traditional Approach

In the particular assignment the analyst has taken up the business organsiation of Sasij business firm which works out in the segment of manufacturing the small range of goods. At the earlier point of time only three products were used to manufacture by the company. The firm used the tradition approach of recognising the overheads among the existing range of products.

Over the evolution of time the company started manufacturing the wide range of products. Still recognising the traditional approach of single recovery rate using the machine hour approach is not a feasible idea. the company should work out with the Activity based costing approach such that the individual overhead use both unit and non unit based cost drivers to assign cost to the cost object by primarily allocating the cost to the various activities and then according to the nature of utilisation of those activities the cost to be allocated to the products manufactured by the business firm

Traditional approach of costing

In the current context business firm of Sasij organsiation is working with the traditional approach using the single machine hour based recovery rate. Total cost incurred by the organisation towards the indirect expenses is $8,196,400. This cost as in the present approach is divided by the total machine hours utilised by the various business activities totalled to 9000 hours. This provides us a unit cost of $819.64 as a single recovery rate for the all range of products.

The approach of using the traditional recovery rate in the case of multiple ranges of products is a wrong practise and the company cannot determine the actual cost of the individual range of products. This might further affect the profitability of the complete concern (Innes, et. al., 2000).

Activity based costing

Activity based costing approach is a system based planning model utilised in the case where the business concern is dealing in variety of products and services and common overheads are utilised (Kapi?, 2014). These overheads are primarily classified on the basis of total activities and then transferred to the individual product costing on the basis on level of activities utilised by them (Turney, 1991). There are mainly two phase’s works out in the process of activity based costing.

Statement of cost pool

Cost category	Cost	Basis	No. of activity	Cost per activity
Wages	$5,952,000	Number of employees	3 + 12 + 2 + 31 + 31 + 24 + 12 + 9	$48,000
Building costs	$620,000	Floor space	200 + 500 + 500 + 1000 + 1000 + 1000 + 500 + 300	$124
Depreciation	$1,240,000	Machine hours	0 + 0 + 0 + 4000 + 5000 + 1000 + 0 + 0	$124
Consumables	$62,000	Orders placed by centre	10 + 20 + 0 + 190 + 120 + 190 + 60 + 30	$100
Energy	$260,400	Kilowatt hours used	0 + 0 + 0 + 250000 + 370000 + 250000 + 0 + 0	$0.2993
Other	$62,000	Number of employees	3 + 12 + 2 + 31 + 31 + 24 + 12 + 9	$500
Total	$8,196,400	Traditional approach of Machine hours	0 + 0 + 0 + 4000 + 5000 + 1000 + 0 + 0	$819.64

Total cost of activities

Activities	Total Cost Of Activities
New Product Development	$171,300
Sales and dispatch	$646,000
Inspecting	$159,000
Mincing	$2,217,328
Mixing	$2,370,245
Smoking and Packing	$1,505,828
Administration	$650,000
Corporate management	$476,700

	Activities and resource drivers used – Inspecting	Wages cost		Building cost
Activity	Percentage of labour time		Percentage of floor space
Inspect meat	30%	$1,785,600	50%	$               310,000.00
Disposal of substandard meat	10%	$595,200	10%	$                 62,000.00
Move to mincing room	10%	$595,200	10%	$                 62,000.00
Inspect finished products	30%	$1,785,600	10%	$                 62,000.00
Disposal of substandard product	10%	$595,200	10%	$                 62,000.00
Reports to Health Dept	10%	$595,200	10%	$                 62,000.00
Total	100%	$5,952,000	100%	$               620,000.00

Activity	Activity cost	Activity driver	Annual quantity of activity driver	Allocated cost of activity	Annual quantity of activity driver	Allocated cost of activity
Corporate management	$476,700	Assigned directly to products	$95,628	$95,628	$11,533	$11,533
Process receivables	$260,000	No. of invoices	600	$25,161.29	200	$8,387.10
Process payables	$253,800	No. of purchase orders	200	$16,374.19	100	$8,187.10
Production planning	$136,200	No. of production schedules	100	$10,983.87	60	$6,590.32
Reports to Health Dept	$657,200	No. of production schedules	100	$53,000.00	60	$31,800.00
Process sales order	$400,000	No. of sales orders	620	$50,000.00	190	$15,322.58
Dispatch sales order	$246,000	No. of dispatches	500	$39,677.42	100	$7,935.48
New Product Development	$171,300	Assigned directly to new products lines	$0	$0.00	$56,529	$56,529.00
Inspect meat	$2,095,600	No. of batches	100	$169,000.00	60	$101,400.00
Disposal of substandard meat	$657,200	No. of batches	100	$53,000.00	60	$31,800.00
Move to mincing room	$657,200	No. of batches	100	$53,000.00	60	$31,800.00
Set up mincer	$156,550	No. of batches	100	$12,625.00	60	$7,575.00
Load mincer	$156,550	No. of batches	100	$12,625.00	60	$7,575.00
Operate mincer	$1,278,028	No. of kilograms	49,750	$256,378.60	12,000	$61,840.06
Unload mincer	$306,900	No. of batches	100	$24,750.00	60	$14,850.00
Clean mincer	$156,550	No. of batches	100	$12,625.00	60	$7,575.00
Move to mixing room	$162,750	No. of batches	100	$13,125.00	60	$7,875.00
Set up scales	$81,375	No. of batches	100	$6,562.50	60	$3,937.50
Weigh ingredients	$156,550	No. of batches	100	$12,625.00	60	$7,575.00
Load mixers	$313,100	No. of batches	100	$25,250.00	60	$15,150.00
Operate mixers	$1,568,895	No. of kilograms	49,750	$314,727.93	12,000	$75,914.27
Clean mixers	$162,750	No. of batches	100	$13,125.00	60	$7,875.00
Move mixture to smokehouse	$87,575	No. of kilograms	49,750	$17,567.97	12,000	$4,237.50
Pack into skins	$322,000	No. of products	198,400	$64,400.00	24,800	$8,050.00
Setup smokehouse	$122,600	No. of trays	1,990	$12,297.08	500	$3,089.72
Move to smokehouse	$64,400	No. of trays	1,990	$6,459.48	500	$1,622.98
Smoke products	$861,828	No. of trays	1,990	$86,443.43	500	$21,719.46
Unload smokehouse	$64,400	No. of trays	1,990	$6,459.48	500	$1,622.98
Inspect finished products	$1,847,600	No. of trays	–		500	$46,562.50
Disposal of substandard product	$657,200	No. of trays	–		500	$16,562.50
Move to truck	$70,600	No. of trays	1,990	$7,453.26	480	$1,797.77

In the current approach of activity based costing overhead cost is primarily assigned to the cost activity and then to the respective product to be manufactured. Various factors are determined in the particular case that comprehends the analyst to determine the cost of a business activity.

Certain activities cost is not available which is evaluated using the previous table. On the later part cost of each activity is collected, these are also referred as cost pools (Pohlen, & La Londe, 1994). The approach of traditional costing works out with the fact when the company is manufacturing the limited number of products but with the growth and development of business concern the company should gradually move over to the activity based costing systems (Shields, 1995).

Conclusion 

This assignment refers to the situation in which the business concern of Sasij which is dealing out in the wide range of product manufacturing process. Current approach of traditional overhead distribution is utilised by the business concern which placed a negative impact over the profitability of the concern. This is due to the fact of improper distribution of overhead cost. The analyst in the above assignment showcased the utilisation of activity based costing approach using the current financial data of the Sasij group taking the overheads of two products into account.

References

Innes, J., Mitchell, F., & Sinclair, D. (2000). Activity-based costing in the UK’s largest companies: a comparison of 1994 and 1999 survey results. Management accounting research, 11(3), 349-362.

Turney, P. B. (1991). Common cents: The ABC performance breakthrough: How to succeed with activity-based costing. Cost Technology.

Pohlen, T. L., & La Londe, B. J. (1994). Implementing activity-based costing (ABC) in logistics. Journal of Business Logistics, 15(2), 1.

Kapi?, J. (2014). ACTIVITY BASED COSTING-ABC. Business Consultant/Poslovni Konsultant, 6(32).

Shields, M. D. (1995). An empirical analysis of firms’ implementation experiences with activity-based costing. Journal of Management Accounting Research, 7, 148.