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Administrative Studies
ADMS 3510
Jamison Aldcorn

CHAPTER 14. PERIOD COST APPLICATION Support department cost allocation is treated separately in part because most period costs are excluded from inventoriable costs by accounting standards. But prices of the finished output must recover all manufacturing and non-manufacturing costs for corporation to remain profitable. Task of the management is to select the best method of cost assignment that most accurately includes the value added. THE RELEVANCE CRITERION Management team must select an observable and countable input to signal different levels of value added. The goal is to allocate period costs of non manufacturing activities proportional to the different levels of benefit provided to each of the users. Upstream and downstream costs are often interdependent: eg. R+D and customer service. If outputs are homogenous, simple average is appropriate , if not homogenous, then runs the risk of inadvertent over and under costing and pricing decisions Discipline of the market: consumers rule when competition is intense. Product bundle: combination of two or more different products , tow or more different services or products and services combined. Careful costing is needed, benefit are: - More accurate full product pricing secures market share - Improve the budgeting process signals entry and exit - Feedback in the form of periodic variance helps regain control - Understand which products are profitable, which are not Relevance: Managers need to allocate non manufacturing cost /period cost in the best possible method so as to generate quality information that gives better control and helps in decision making. 4 possible decisions requiring appropriate allocation of period costs are to: - Provide information for economic decisions - Motivate managers and employees - Justify either costs or reimbursement internally or externally - Measure GAAP compliant income and assets for reports to external parties. For economic purposes: include cost from all business function For motivation purpose: include costs from more than one business function Important notes: - Consider cost benefit analysis of changing the costing system - Time, aggravation and money required Justification of relevance Gives validity and relevance. Many ways of justifications for decisions about the design of cost system: - Causality: direct cause effect relationship between driver and quantities consumed ( direct cost) - Benefit received: internal users of upstream / downstream services are the beneficiaries. Allocation should be based on unequal benefits received by each distinct product a. One product: complication in using average period cost allocation rate when support cost pools are made up of variable and fixed cost b. Multiple products: average cost allocation rate would over cost or under cost products and company shall lose out on profitability - Fairness: equality when parties believe in the system in good faith-> fairness-> simple average - Ability to bear: cost depends on various stakeholders’ agreement about the fairness. Bundle can be highly profitable when the loss leader is sold based on a variable costing policy ( not going below the total variable cost) DECIDING BETWEEN SINGLE AND DUAL RATE COST METHODS 1. Identify the problem: Single rate method: company uses average cost allocation rate to allocate its non manufacturing cost pools. Dual rate method: fixed and variable cost contributors to the cost pool are allocated based on different cost drivers. 2. Gather relevant information 3. Make predictions about the future: Standard/budget method: based on budgeted use as the quantity of the cost driver and budgeted cost driver rates under the single rate method Under dual rate: fixed cost pools are separated from the variable 4. Decide on and implement on alternative: Small business: easy to follow dual rate method with use of excel spreadsheet Large corporation: easily acquire or apply software to accommodate any. Problem with single rate - Check master budget Q/ Practical Q: customers will not pay for poor capacity utilization policies. Small cost discrepancies in the budget can result in significant unrecoverable amount. - Option of outsourcing Dual rate method: - Incentive for honest capacity use estimates by its managers - Informs when there is excess capacity and opportunity cost 5. Implement the decision and evaluate performance ANALYSIS OF FAVOURABLE AND UNFAVOURABLE EFFICIENCY VARIANCES Pg. 565 (9) Under single rate costing system, feedback is informative and helps with managers performance review Disadvantage is that there may be conflict between the managers of different department as costs are applied based on actual use and the unitized rate adjusted, transforms what should be independent to an interdependent measure. - For motivation and reimbursement , the feedback from variance analyses should distinguish between controllable and uncontrollable costs. - Capacity cannot be alte
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