Glaser Health Products Essay
Glaser Health Products of Ranier Falls, Georgia needs assistance in evaluating and classifying costs in order to implement an activity-based costing system.
The three main divisions of Glaser Health Products are Operations, Sales, and Administrative. Under each division are costs categories that have been divided up to help management determine where they belong. (Appendix A identifies each of the costs with the appropriate division). Next, management must identify the big overhead cost in order to determine whether or not they want to allocate some or a bunch of overhead using the activity-based costing system. I suggest that Glaser creates an activity-based costing system that allocates, with a minimal amount of effort, a large portion of their overhead. For instance, management is correct in identifying each of the costs using four different activities. These include unit-level activities, batch-level activities, product-level activities, and facility-level activities. This is a great system because the fewer activities Glaser can use to do this, the easier the accounting will be for management.
These four activities will allow Glaser to fairly and accurately allocate overhead to product lines. (Appendix B illustrates each of the costs under one of the four activities and also classifies the four activities under one of the three divisions). After Glaser management has identified the handful of the activities that connect overhead expenses to products, they must use the appropriate measure (the cost driver) to tie the overhead expenses to the product lines or service lines. To achieve this management must specify an appropriate cost driver for tracing costs associated with the various levels of activities to the next cost objective or products. The cost drivers can include a number of things such as direct labor hours, number of batches, or number of employees. (Appendix C shows the appropriate cost driver with the various levels of activities).Glaser Health Products Essay
Under the Activity-based costing system, Glaser will use preliminary stage cost drivers to link costs of resources consumed in one activity center to other activity centers. Some costs, such as batch-level activity center costs are initially assigned to a primary stage activity center and only need a single assignment process, and are traceable to specific products but often use a cost driver. Product-level activity center costs may be related to a specific product or grouped by activities before being assigned to products at the primary stage. Facility-level activity center costs may go through multiple preliminary stages before being assigned to products (Schneider, 2012). It is necessary to use a preliminary stage cost driver because this system assigns costs from activities to other activities.
On the other hand, primary stage cost drivers is used to assign costs from activities to the cost objectives. This process eliminates distortions in cost allocations to products that result from production complexity (Schneider, 2012). Actually sitting down and laying out an activity-based costing system for a real company is much more difficult than a typical textbook ABC problem. Determining what causes a cost to occur is much more difficult than it originally might seem (Krupnicki & Tyson, 1997). Overall, I think that management’s decision to implement an activity-based costing system is going to work in their favor. The decision to implement ABC is often driven by the need to improve customer profitability analysis, to gain more accurate cost information for pricing or to prepare relevant budgets (Cohen, Venieris, & Kaimenaki, 2005).Glaser Health Products Essay
In this case, Glaser wants to identify costs used for planning and control decisions rather than for inventory valuation. Glaser is likely to see many benefits from implementing an activity-based costing system such as better profitability measures, better decision-making, process improvement, cost estimation, and cost of unused capacity. The activity-based costing system will provide better allocation of Glaser’s overhead costs rather than a system to look at the cost drivers or the activities that their overhead costs comprise
Operations costs are primary recurring costs associated with central operations other than cost of goods sold that are incurred in order to generate sales. They include depreciation on factory equipment, depreciation on factory building, cost of repairing parts improperly manufactured in the machining department, supplies for the machining department, electricity for the assembly department, lost materials (scrap) in a machining department, direct labor in the assembly department, supplies for production scheduling, cost of repairing parts improperly manufactured in the machining department, heat, light, and power for the factory.Glaser Health Products Essay
Sales costs are incurred directly in the selling of the health products. They are also referred as charges to customers for the goods or services provided to them during the period. The sales costs for Glaser Health Products include: advertising manager’s salary, salespersons’ salaries, salespersons’ travel expenses, advertising supplies used, and supplies for the sales office, sales commissions and packing supplies.
Administrative costs are also known as general expenses and are incurred in the administration or general operations of the company. The administrative costs for Glaser Health Products include: depreciation on office equipment, cost of hiring new employees, payroll fringe benefits for workers in the shipping department and leasing of computer equipment for the accounting department.
Costs with the Appropriate Activity Levels
Unit-level activities are performed each time a unit is produced and are generally considered variable cost. Crosson & Needles (2010) says that unit-level costs include the direct material cost and direct labor costs. When costing is concentrated at the unit level, it makes sense that the number of units produced should be correlated with the amount of overhead costs allocated to each unit. Glaser Health Products unit level costs include: supplies for the machining department, depreciation on factory equipment, heat, light, and power for the factory, cost of repairing parts improperly manufactured in the machining department, supplies for production scheduling and depreciation on factory building.Glaser Health Products Essay
Product-level activities are performed to support a particular product line. They are incurred only when a new product is introduced (Jackson, Sawyers & Jenkins, 2008). In the case Glaser Health products, product level costs include assembly foreman’s salary, cost of hiring new employees and paint for the assembly department.
Batch-level activities are performed each time a batch or production run of goods is produced. For Glaser Health Products batch-level costs include advertising manager’s salary, salespersons’ salaries, salespersons’ travel expenses, sales commissions, payroll fringe benefits for workers in the shipping department and packing supplies.
Facility-level activities are performed to sustain the overall manufacturing processes. These types of costs do not vary with the number or type of products produced and they are generally fixed costs (Crosson & Needles, 2010). The costs include depreciation on factory building, assembly foreman’s salary and electricity for the assembly department.Glaser Health Products Essay
Cost Driver for Tracing Costs Associated with the Various Levels of Activities
Cost drivers should cause or drive the incurrence of costs. Unit, batch and product level activities are assigned to products by using cost drivers that capture the underlying behavior of the costs that are being assigned. Allocation of facility-level costs depends on the use of arbitrary cost drivers such as square footage, number of employees, labor hours and machine hours (Jackson, Sawyers & Jenkins, 2008). Jawahar (2009) says that cost drivers in unit level activities include direct labor hours, machine hours and power used each time a unit is produced.
The cost drivers at batch level activities include number machine setups, number of inspections and number of schedules. At product level activities the cost drivers entail number of change orders, number of tests, number of products and the number of new or revised products (Jawahar, 2009). At facility level activities the cost drivers include the number of employees managed within the factory and square footage. The Table1 below shows the various cost drivers associated with different activity levels for Glaser Health Products.Glaser Health Products Essay
Activity based costing will be used to allocate overhead costs. Plant wide allocation uses one pool for the whole plant and department allocation uses one cost pool for each department (Heisinger, 2009). Activities related to sales and administrative costs are required by the controller to produce products. Heisinger (2009) noted that the cost of activities should be allocated to products based on the products use of the activities. Individual items of costs will be traced to activity groupings through the following three steps.
The first step is to identify costly activities required to complete products. The goal is to understand all the activities required to make the company’s products from sales and administrative costs perspective. The need to narrow down the activities to those that have the greatest impact on overhead costs cannot be ignored (Heisinger, 2009). Glaser Health Products should identify the following unit level activities as having the greatest impact on sales costs; advertising manager’s salary, salespersons’ salaries, salespersons’ travel expenses, advertising supplies used, and supplies for the sales office, sales commissions and packing supplies. Cost repairing parts improperly manufactured in the machining department should be considered as product level activity related to sales costs.Glaser Health Products Essay
On the other hand administrative costs would include cost of hiring new employees, payroll fringe benefits for workers in the shipping department and leasing of computer equipment for the accounting department. Cost of hiring new employees, payroll fringe benefits for workers in the shipping department should be considered as batch level activities related administrative costs (Heisinger, 2009).
The second step is to assign sales and administrative costs to the activities identified in the first step. A portion of total administrative and sales costs must be assigned to each activity identified in step one. Heisinger (2009) argues that a cost pool will be established for each activity. At this step the most important and costly activities required to make products have been identified and the sales and administrative costs assigned to each of the activities (Heisinger, 2009). The nest step is to find an allocation base that drives the cost of each activity. The mapping from the previous two steps is indicated in the table below.Glaser Health Products Essay
The third step involves identifying the cost driver for each activity. Heisinger (2009) says that the goal of this step is to identify the best cost driver for each activity identified in step one. After a care scrutiny of the process required for each activity, Glaser established the following cost drivers. In the context of activity based costing, resources used are linked to activities by resource drivers and activities are linked to costs by cost drivers (Heisinger, 2009).
How the Costs should be Related to Products
Primary stage cost drivers sees the production process as a set of activities that are required to make a product. All costs associated with a particular activity are grouped together and are allocated to all products that use the particular activity during the production process (Drury, 2004). While using primary stage cost drivers when a particular product uses an activity more than other products, that product is allocated a larger share of the costs for that activity. This implies that costs will be more fairly divided between the various products.Glaser Health Products Essay
The cost drivers are measurable in a way that enables it to be identified with individual products. This implies that if the set-up hours are selected as a cost driver, for Glaser there must be a mechanism for measuring the set-up hours consumed by each product. Drury (2004) noted that if the number of set-ups is selected as the cost driver measurements by products are not required since all products that require a set-up are charged with a constant set-up cost.
Firstly, the use preliminary stage and primary stage cost drivers give more accurate information which in turn leads to better decisions. This allows management to better decisions in areas such as product pricing, product line changes that is adding products or eliminating products and product mix decisions (Heisinger, 2009).
Secondly, the preliminary and primary stage cost drivers leads to increased knowledge of production activities, process improvements and reduced costs. Heisinger (2009) says that primary stage cost drivers provides management with a better view of the detailed activities involved such as purchasing materials, machine setups and the cost of each activity. Heisinger (2009) argues managers are more likely to focus on improving efficiency in most costly activities thereby reducing costs Glaser Health Products Essay
In conclusion, activity based costing uses a multitude of cost drivers that relate costs more closely to the resources consumed and activities occurring. This type of costing is appropriate for Glaser Health Products because it improves product costing procedure and it appreciates that many so called fixed overhead costs vary in proportional to changes other than production units. Through establishing a link between these cost drivers and fixed overhead costs, Glaser can trace individual products. This will enable the company to trace costs to areas of managerial responsibility, processes, customers, departments besides the product costs.
Glaser Health Products manufactures medical items for the health care industry. Production involves machining, assembly and painting. Finished units are then packed and shipped. The financial controller is interested to introduce an activity-based costing (ABC) system to allocate (or distribute) indirect costs to products. Indirect costs, as distinct from direct costs, cannot be unambiguously linked to specific products. The controller would like to calculate product costs based on ABC for planning and control, not inventory valuation. Under an ABC system, the allocation of costs to products is achieved through at least four analytical steps. Firstly, costs are grouped into activity levels. Secondly, cost drivers are selected for each activity level to link activities with costs. Thirdly, for each activity level, a cost function is defined to arithmetically describe the relationship between cost drivers and costs. Finally, a unit allocated cost is calculated for each product (Schneider, 2012). This paper outlines a process for introducing an ABC system at Glaser. The paper is divided into six sections. The first section groups cost categories identified at Glaser by division. The second section groups cost categories by division and activity level. The third section identifies specific cost drivers for each activity level. The fourth section explains preliminary stage allocation. The fifth section explains primary stage allocation.Glaser Health Products Essay
Glaser Health Products manufactures medical items for the health care industry. Production involves machining, assembly and painting. Finished units are then packed and shipped. The financial controller is interested to introduce an activity-based costing (ABC) system to allocate (or distribute) indirect costs to products. Indirect costs, as distinct from direct costs, cannot be unambiguously linked to specific products. The controller would like to calculate product costs based on ABC for planning and control, not inventory valuation.
Under an ABC system, the allocation of costs to products is achieved through at least four analytical steps. Firstly, costs are grouped into activity levels. Secondly, cost drivers are…show more content…
Cost Drivers by Activity Level by Division Cost drivers can be identified for each activity or cost category based on observation, discussions with management, simulations and statistical studies. The key is to determine the behavior of indirect costs with respect to activity or resource usage in each activity center (Leslie, 2009). These efforts have identified the eight cost drivers shown in Table 3. Direct labor assembly costs are, by their nature, directly traceable to individual products. Therefore the relevant cost driver for this cost is the number of Direct Assembly Labor Hours. The other 21 cost categories are indirect costs. At the unit activity level, electricity assembly costs are likely to vary with Direct Labor Hours, Assembly. Similarly, the three machining costs grouped at the unit-activity level are likely to vary with by the number of Direct Labor Hours, Machining. Secondly, at the batch activity level, paint cost is likely to vary mainly with the Number of Batches Processed. Painting activity is the only batch activity at Glaser. Thirdly, at the product activity level, the two Operations costs are likely to vary mainly with the Number of Units Produced and the three Sales costs are also likely to vary mainly with the Number of Units Produced. Finally, at the facility-level, the five Operations costs are likely to vary mainly Glaser Health Products Essay
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