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USING ACCOUNTING FOR QUALITY AND COST MANAGEMENT


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1 st. 1 st. CHAPTER 20. USING ACCOUNTING FOR QUALITY AND COST MANAGEMENT. Quality and the New Production Environment. Objective – To stay competitive through: Improving customer service and product quality Reducing costs. How much will it cost to improve quality?.

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USING ACCOUNTING FOR QUALITY AND COST MANAGEMENT

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1st

1st

CHAPTER 20

USING ACCOUNTING FOR

QUALITY AND COST

MANAGEMENT


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Quality and the New Production Environment

Objective – To stay competitive through:

  • Improving customer service and product quality

  • Reducing costs


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How much willit cost toimprove quality?

What can wedo to improvequality?

Improving Quality


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Cost of QualityTexas Instruments Approach

  • Prevention costs

    • Inspection of materials upon delivery

    • Inspection of production process

    • Equipment inspection

    • Employee training

  • Appraisal costs

    • Finished goods inspection

    • Field testing of products

.


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CostReport

Cost of QualityTexas Instruments Approach

  • Internal failure costs are due to defects discovered before delivery to customers.

    • Scrap materials

    • Rework

    • Reinspection

    • Lost sales resultingfrom late deliveries


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Cost of QualityTexas Instruments Approach

  • External failure costs are due to defects discovered after delivery to customers.

    • Warranty repairs

    • Product liability

    • Marketing costs toimprove product image

    • Lost sales due to poorproduct quality


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Internaland external failure costs

Cost of preventionand appraisal

Cost of QualityTexas Instruments Approach

Objective

Zero defectswhile minimizingall four qualitycost categories


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Improving Quality

Total Quality Management (TQM)

Managing an organization so that it excels in areas important to the customer

Organization strives for excellence

Quality is definedby the customer


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Cost vs. Benefit

Quality is free

Costs of quality programsare easily measured, butbenefits of increasedcustomer satisfaction aredifficult to measure.

The long-run benefits ofincreased customersatisfaction far outweighthe costs of improvingquality.

Is Quality Worth the Investment?

Two Views


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Increasedbusinessandprofits

Greatercustomersatisfaction

The Quality Is Free Concept

Qualityproductsandservices


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Methods to IdentifyQuality Problems

Control charts

Pareto diagrams

Cause andeffect analysis


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Performance measure

Quality control

Number of customer complaints and defects

Delivery performance

Percentage of on-time deliveries

Materials waste

Scrap and waste as a percentage of materials used

Machine Downtime

Percentage of time machines are not working

Objective

Customer satisfaction and high quality products

Increase on-time deliveries

Decrease scrap and waste; improve product quality

Increase efficiency; increase on-time deliveries

Quality & Customer Satisfaction Measures

746


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Additional Quality Concepts

Motivation

Employees respond favorablyto quality initiatives

Strategic advantages

Favorable reputation among competitors

Benchmarking

Continuous process of measuring performance against best of similar organizations


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Just-In-Time (JIT) Inventory

Products are completed just in time for shipment to customers

Raw materials are received just in time for production


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Just-In-Time (JIT) Inventory

In conventional system, materials are “pushed” through assembly process.

In JIT system, materials are “pulled” through assembly process by customers’ needs.


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Complete productsjust in time toship to customers

Scheduleproduction

Receive materialsjust in time forproduction

Complete partsjust in time forassembly into products

Just-In-Time (JIT) Inventory

Receivecustomerorders


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Relationship Between JIT andTotal Quality Management

Less warehousespace needed

Reducedinventorycarrying costs

Reduced riskof obsoleteinventory


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Relationship Between JIT andTotal Quality Management

Less warehousespace needed

Higher qualityproducts

Reducedinventorycarrying costs

More rapidresponse tocustomer orders

Greatercustomersatisfaction

Reduced riskof obsoleteinventory


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Unhappy customer

Latedelivery

Raw materials

Poor qualityitems returned

Relationship Between JIT andTotal Quality Management

Quality must be stressedfrom the very beginning forJIT to be successful.

JIT factory isidle, waiting onquality rawmaterials


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Impact of Just-in-Time on Accounting Procedures

JIT goal is to minimize inventories:

Raw Materials

Work inProcess

FinishedGoods

Production costs are assigned directlyto cost of goods sold.


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Cost ofGoods Sold

Inventory

Impact of Just-in-Time on Accounting Procedures

Any end-of-period inventory is recorded in a procedure knownas backflush costing.


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Impact of Just-in-Time on Accounting Procedures

JIT accounting entries


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Impact of Just-in-Time on Accounting Procedures

Backflush entry if inventory remains unsold or in process


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Put on your hard hat and click the reels.

Hey! You’re just in time for the movies.

ROLL ‘EM !

Video #1

(Approx. 8 min.)

Video #2

(Approx. 3 min.)


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Let’s change the subject!


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Products

Consume

Activities

People

Manage

Activities

Activity-Based Costing (ABC)

A costing method that first assigns indirect costs to activities, then to products based on their consumption of the activities.

Activities

Consume

Resources


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Activity-Based CostingBenefits

  • More detailed measures of costs

  • More accurate product costs for...

    • Pricing decisions

    • Product elimination decisions

  • Better information for use in managing activities that cause costs

  • Benefits should always be compared to costs of implementation


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A cost driver is a factor

that causes, or “drives,” an

activity’s cost.

Methods Used forActivity-Based Costing

Activity-based costing involves these steps:

  • Identify the activities that consume resources, and assign costs to those activities.

  • Identify the cost driver(s) associated with each activity.


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Methods Used forActivity-Based Costing

Activity-based costing involves these steps:

  • Identify the activities that consume resources, and assign costs to those activities.

  • Identify the cost driver(s) associated with each activity.

  • Compute a cost rate per cost driver unit or transaction.

  • Assign costs to products as follows:

Cost driver rate × Cost driver units consumed


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Activity-Based CostingIdentifying Cost Drivers

  • Cost drivers are related to volume or complexity of production.

    • Examples: machine time, machine setups, purchase orders, production orders

  • Cost driver factors (in order of preference):

    • Causal relationship

    • Benefits received

    • Reasonableness


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Estimated indirect costs

Estimated cost driver

units of activity

Predetermined

indirect cost rate

=

This formula applies to any indirect cost.(e.g., manufacturing overhead, administrative, distribution, marketing, etc.

Activity-Based CostingCost Rate Per Cost Driver Unit

For a period of time, estimate total . . .

  • indirect costs for the activity

  • cost driver units of activity


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Estimated indirect costs

Estimated cost driver

units of activity

Predetermined

indirect cost rate

=

Activity-Based CostingCost Rate Per Cost Driver Unit

For a period of time, estimate total . . .

  • indirect costs for the activity

  • cost driver units of activity

Note that this concept is identical to that used to calculate the predetermined

overhead rate in Chapter 18.


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Activity-Based CostingExample

At this point, we need to look at an example to illustrate the concepts.

.


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Activity-Based CostingExample

Ritz Company manufactures a product in regular and deluxe models. Overhead is assigned on the basis of direct labor hours. Estimated overhead for the current year is $2,000,000. Other information:

First, determine the unit cost of each model using traditional costing methods.


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Activity-Based CostingExample

(Overhead Allocation)


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Activity-Based CostingExample

(Overhead Allocation)


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Activity-Based CostingExample


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Activity-Based CostingExample


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A

C

B

Activity-Based CostingExample

Ritz Company plans to adopt activity-based costing. Using the following activity center data, determine the unit cost of the two products if activity-based costing is implemented.


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A

C

B

Activity-Based CostingExample


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A

C

B

Activity-Based CostingExample

Original budgeted overhead total forthe period


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A

C

B

Activity-Based CostingExample

====

++++


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A

C

B

Activity-Based CostingExample


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A

C

B

Activity-Based CostingExample


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A

C

B

Activity-Based CostingExample


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A

C

B

Activity-Based CostingExample


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A

C

B

Activity-Based CostingExample


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A

C

B

Activity-Based CostingExample


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A

C

B

Activity-Based CostingExample

These amounts did not

change as a result of

using ABC.


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A

C

B

Activity-Based CostingExample

Comparison

Remember, we originally used aplant-wide rate, based on directlabor hours, to allocate overhead.


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Activity-Based CostingExample

Comparison

Many companies have found that low-volume, specialized products havegreater costs than previously realized.


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Activity-Based CostingExample

Comparison

Can you see how different allocation

methods might lead managementto make different decisions?


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Mfg.OH

DirectMaterial

Dollar Amount

DirectLabor

Product Cost

Activity-Based CostingFinal Observations

As companies become more automated...

  • Overhead tends to become a larger portion of product cost.

  • Direct labor becomesa smaller portion ofproduct cost andconsequently a lessreliable cost driver.


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Costs

Activity-Based CostingFinal Observations

  • ABC is likely to result in cost reductions.

    • Focus is on activity analysis.

    • Cost reduction usually requires a change in activities.


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Activity-Based CostingFinal Observations

  • ABC is likely to result in cost reductions.

    • Focus is on activity analysis.

    • Cost reduction usually requires a change in activities.

  • Activity-based costing concepts and methods are also applicable to marketing and administrative activities.


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Activity-Based CostingFinal Observations

  • ABC is likely to result in cost reductions.

    • Focus is on activity analysis.

    • Cost reduction usually requires a change in activities.

  • Activity-based costing concepts and methods are also applicable to marketing and administrative activities.

  • Accountants implementing activity-based costing may experience opposition to change.


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THE END

We finished just in time!