Chapter Managerial Accounting and the Business Environment Solutions to Questions 1-1 Managerial accounting is concerned with providing information to managers for use within the organization Financial accounting is concerned with providing information to stockholders, creditors, and others outside of the organization from making one product to making another allows the company to respond more quickly to customers Finally, smaller batches make it easier to spot manufacturing problems before they result in a large number of defective units 1-2 Essentially, managers carry out three major activities in an organization: planning, directing and motivating, and controlling All three activities involve decision making 1-7 The main benefits of a successful JIT system are reductions in: (1) funds tied up in inventories; (2) space requirements; (3) throughput time; and (4) defects 1-3 The Planning and Control Cycle involves formulating plans, implementing plans, measuring performance, and evaluating differences between planned and actual performance 1-8 TQM generally approaches improvement in a series of small steps that are planned and implemented by teams of front-line workers Process Reengineering involves completely redesigning business processes from the ground up—often with the use of outside consultants 1-4 A line position is directly related to the achievement of the basic objectives of the organization A staff position is not directly related to the achievement of those objectives; rather, it is supportive, providing services and assistance to other parts of the organization 1-9 If Process Reengineering is successful, fewer workers are needed If management responds by laying off workers, morale will almost certain suffer 1-5 In contrast to financial accounting, managerial accounting: (1) focuses on the needs of the manager; (2) places more emphasis on the future; (3) emphasizes relevance and flexibility, rather than precision; (4) emphasizes the segments of an organization; (5) is not governed by GAAP; and (6) is not mandatory 1-10 Some benefits from improvement efforts come from cost reductions, but the primary benefit is often an increase in capacity At non-constraints, increases in capacity just add to the already-existing excess capacity Therefore, improvement efforts should ordinarily focus on the constraint 1-6 A number of benefits accrue from reduced setup time First, reduced setup time allows a company to produce in smaller batches, which in turn reduces the level of inventories Second, reduced setup time allows a company to spend more time producing goods and less time getting ready to produce Third, the ability to rapidly change 1-11 If people generally did not act ethically in business, no one would trust anyone else and people would be reluctant to enter into business transactions The result would be less funds raised in capital markets, fewer goods and services available for sale, lower quality, and higher prices © The McGraw-Hill Companies, Inc., 2006 Solutions Manual, Chapter 1 Exercise 1-1 (10 minutes) Line Directing and motivating Budgets Planning Staff Decentralization Precision; Nonmonetary data Managerial accounting; Financial accounting Feedback 10 Controller 11 Performance report 12 Chief Financial Officer © The McGraw-Hill Companies, Inc., 2006 All rights reserved Managerial Accounting, 11th Edition Exercise 1-2 (10 minutes) Total quality management; Process reengineering Just-In-Time Nonconstraint Benchmarking Setup Constraint Non-value-added activities Business process © The McGraw-Hill Companies, Inc., 2006 All rights reserved Solutions Manual, Chapter Exercise 1-3 (15 minutes) If cashiers routinely shortchanged customers whenever the opportunity presented itself, most of us would be careful to count our change before leaving the counter Imagine what effect this would have on the line at your favorite fast-food restaurant How would you like to wait in line while each and every customer laboriously counts out his or her change? Additionally, if you can’t trust the cashiers to give honest change, can you trust the cooks to take the time to follow health precautions such as washing their hands? If you can’t trust anyone at the restaurant would you even want to eat out? Generally, when we buy goods and services in the free market, we assume we are buying from people who have a certain level of ethical standards If we could not trust people to maintain those standards, we would be reluctant to buy The net result of widespread dishonesty would be a shrunken economy with a lower growth rate and fewer goods and services for sale at a lower overall level of quality © The McGraw-Hill Companies, Inc., 2006 All rights reserved Managerial Accounting, 11th Edition Problem 1-4 (30 minutes) See the organization chart on the following page Line positions include the university president, academic vice-president, the deans of the four colleges, and the dean of the law school In addition, the department heads (as well as the faculty) are in line positions The reason is that their positions are directly related to the basic purpose of the university, which is education (Line positions are shaded on the organization chart.) All other positions on the organization chart are staff positions The reason is that these positions are indirectly related to the educational process, and exist only to provide service or support to the line positions All positions would have need for accounting information of some type For example, the manager of central purchasing would need to know the level of current inventories and budgeted allowances in various areas before doing any purchasing; the vice-president for admissions and records would need to know the status of scholarship funds as students are admitted to the university; the dean of the business college would need to know his/her budget allowances in various areas, as well as information on cost per student credit hour; and so forth © The McGraw-Hill Companies, Inc., 2006 All rights reserved Solutions Manual, Chapter Problem 1-4 (continued) Organization chart: President Vice President, Auxiliary Services Manager, Central Purchasing Vice President, Admissions & Records Manager, University Press Dean, Business (Departments) Academic Vice President Manager, University Bookstore Dean, Humanities (Departments) Vice President, Financial Services (Controller) Manager, Computer Services Dean, Fine Arts (Departments) Vice President, Physical Plant Manager, Accounting & Finance Dean, Engineering & Quantitative Methods Manager, Grounds & Custodial Services Manager, Plant & Maintenance Dean, Law School (Departments) © The McGraw-Hill Companies, Inc., 2006 All rights reserved Managerial Accounting, 11th Edition Problem 1-5 (20 minutes) Failure to report the obsolete nature of the inventory would violate the Standards of Ethical Conduct as follows: Competence • Perform duties in accordance with relevant technical standards • Prepare complete reports using reliable information • By failing to write down the value of the obsolete inventory, Perlman would not be preparing a complete report using reliable information In addition, generally accepted accounting principles (GAAP) require the write-down of obsolete inventory Integrity • Avoid conflicts of interest • Refrain from activities that prejudice the ability to perform duties ethically • Refrain from subverting the legitimate goals of the organization • Refrain from discrediting the profession Members of the management team, of which Perlman is a part, are responsible for both operations and recording the results of operations Since the team will benefit from a bonus, increasing earnings by ignoring the obsolete inventory is clearly a conflict of interest Perlman would also be concealing unfavorable information and subverting the goals of the organization Furthermore, such behavior is a discredit to the profession © The McGraw-Hill Companies, Inc., 2006 All rights reserved Solutions Manual, Chapter Problem 1-5 (continued) Objectivity • Communicate information fairly and objectively • Disclose all relevant information • Hiding the obsolete inventory impairs the objectivity and relevance of financial statements (Unofficial CMA solution) As discussed above, the ethical course of action would be for Perlman to insist on writing down the obsolete inventory This would not, however, be an easy thing to Apart from adversely affecting her own compensation, the ethical action may anger her colleagues and make her very unpopular Taking the ethical action would require considerable courage and self-assurance © The McGraw-Hill Companies, Inc., 2006 All rights reserved Managerial Accounting, 11th Edition Problem 1-6 (30 minutes) Line authority is directly related to the achievement of an organization’s basic objectives Line managers have formal authority to direct operations Staff assists line management in the achievement of an organization’s basic objectives Persons with staff authority provide support services Staff managers typically have advisory authority because of their particular expertise Mark Johnson’s responsibility for maintaining the production schedule involves line authority Johnson would be directly concerned with meeting the company’s primary objective of producing metal parts Johnson’s responsibility to consult with production supervisors is a staff role because he apparently cannot order changes in those consultations, only advise Johnson’s supervision of new alloy testing and his role regarding the use of new alloys in product development is basically a staff function as well He has limited authority regarding the use of new alloys because his authority applies only to product development and not to production Mark Johnson may experience several conflicts because he has been given both line and staff authority First, Johnson may initially find it difficult to communicate with the production supervisors because he operates out of a staff position Second, a conflict could easily develop if the supervisors lacked a clear understanding of Johnson’s responsibilities and authorities The supervisors could resent apparent staff interference and refuse to discuss their problems with Johnson, making the meetings fruitless The supervisors working on the new contract may fail to perceive Johnson’s line authority and refuse to follow his orders Third, Johnson might have difficulty in understanding the nature of his position and job Johnson might also find it difficult to distinguish between his staff capacity and line capacity For instance, Johnson might have difficulty in remaining objective if any production problems develop in the alloys he tested (Unofficial CMA Solution, adapted) © The McGraw-Hill Companies, Inc., 2006 All rights reserved Solutions Manual, Chapter Problem 1-7 (20 minutes) If all automotive service shops routinely tried to sell parts and services to customers that they didn’t really need, most customers would eventually figure this out They would then be reluctant to accept the word of the service representative that a particular problem needs to be corrected—even when a real problem exists Either the work would not be done, or customers would learn to diagnose and repair problems themselves, or customers would hire an independent expert to verify that the work is really needed All three of these alternatives impose costs and hassles on customers As argued above, if customers could not trust their service representatives, they would be reluctant to follow the service representative’s advice They would be inclined not to authorize work even when it is really necessary And, more customers would learn to automotive repairs and maintenance themselves Moreover, customers would be unwilling to pay as much for work that is done since customers would have reason to believe that the work may be unnecessary These two effects would reduce demand for automotive repair services The reduced demand would reduce employment in the industry and would lead to lower overall profits © The McGraw-Hill Companies, Inc., 2006 All rights reserved 10 Managerial Accounting, 11th Edition Problem 15-15 (continued) Fixed costs to be allocated Building & Grounds: R3 per sq ft × 500 sq ft R3 per sq ft × 1,400 sq ft R3 per sq ft × 12,000 sq ft R3 per sq ft × 15,500 sq ft Building & AdminiGrounds stration R88,200 R60,000 (1,500) (4,200) (36,000) (46,500) Administration: 3% × R61,500 38% × R61,500 59% × R61,500 Equipment Maintenance: 40% × R30,045 60% × R30,045 Total fixed costs Total allocated costs Other budgeted costs Total overhead costs (a) Budgeted machine-hours (b) Predetermined overhead rate (a) ÷ (b) Equipment Maintenance R24,000 1,500 4,200 (1,845) (23,370) (36,285) 1,845 Fabrication R36,000 23,370 R R (12,018) 12,018 (18,027) R R 71,388 R R R R 87,388 566,000 R653,388 70,000 R9.33 Finishing R46,500 36,285 18,027 R100,812 R123,912 810,000 R933,912 105,000 R8.89 © The McGraw-Hill Companies, Inc., 2006 All rights reserved Solutions Manual, Chapter 15 939 Problem 15-15 (continued) Computation of allocation rates: Variable Administration: Allocation rate= = Variable administrative costs Employees R22,200 30+450+630=1,110 employees =R20 per employee Variable Equipment Maintenance: Allocation rate= = Variable equipment maintenance costs Machine-hours R16,900 + R600 70,000+105,000=175,000 MHs =R0.10 per MH Fixed Building & Grounds: Fixed building and grounds costs Allocation rate= Square feet = R88,200 500+1,400+12,000+15,500=29,400 square feet =R3 per square foot © The McGraw-Hill Companies, Inc., 2006 All rights reserved 940 Managerial Accounting, 11th Edition Problem 15-15 (continued) Fixed Administration: Department fixed costs Allocated from Building & Grounds Costs to be allocated R60,000 1,500 R61,500 Employees at full capacity: Equipment Maintenance Fabrication Finishing Total 45 570 885 R1,500 Fixed Equipment Maintenance: Department fixed costs Allocated from Building & Grounds Allocated from Administration Costs to be allocated R24,000 4,200 1,845 R30,045 3% 38 59 100 % Allocation percentages are given in the problem Variable cost allocation: R20 per employee × 32 employees R20 per employee × 460 employees R20 per employee × 625 employees Total cost allocated Actual variable administration cost Total cost allocated—above Spending variance—not allocated Equipment Maintenance Fabrication Finishing R640 Total R R9,200 640 9,200 R12,500 12,500 R22,340 R23,800 22,340 R 1,460 © The McGraw-Hill Companies, Inc., 2006 All rights reserved Solutions Manual, Chapter 15 941 Problem 15-16 (45 minutes) Variable costs General Administration $ Cost Accounting allocation: $5 per item × 800 items $5 per item × 1,200 items $5 per item × 3,000 items $5 per item × 9,000 items Cost Accounting $70,000 $143,000 (4,000) (6,000) (15,000) (45,000) Laundry allocation: $0.60 per pound × 20,000 pounds $0.60 per pound × 15,000 pounds $0.60 per pound × 210,000 pounds Total variable costs Laundry 4,000 (12,000) Convention Food Center Services $ $52,000 6,000 15,000 $ $ 45,000 9,000 (126,000) $ 24,000 12,000 (9,000) $ Guest Lodging 126,000 $18,000 $76,000 $195,000 © The McGraw-Hill Companies, Inc., 2006 All rights reserved 942 Managerial Accounting, 11th Edition Problem 15-16 (continued) General Administration Fixed costs $200,000 General Administration allocation: 10% × $200,000 4% × $200,000 30% × $200,000 16% × $200,000 40% × $200,000 Cost Accounting $110,000 (20,000) (8,000) (60,000) (32,000) (80,000) Cost Accounting allocation: 7% × $130,000 13% × $130,000 20% × $130,000 60% × $130,000 Laundry $65,900 20,000 8,000 (9,100) (16,900) (26,000) (78,000) Laundry allocation: 10% × $83,000 6% × $83,000 84% × $83,000 9,100 (8,300) (4,980) (69,720) Convention Food Center Services $ 95,000 $375,000 60,000 16,900 8,300 32,000 26,000 4,980 Guest Lodging $486,000 80,000 78,000 69,720 Total fixed costs $ $ $ $180,200 $437,980 $713,720 Total overhead costs $ $ $ $198,200 $513,980 $908,720 © The McGraw-Hill Companies, Inc., 2006 All rights reserved Solutions Manual, Chapter 15 943 Problem 15-16 (continued) Computations of allocation rates: Variable Cost Accounting: Allocation rate= = Variable cost accounting costs Items processed $70,000 15,000-1,000=14,000 items =$5 per item Variable Laundry: Allocation rate= = Variable laundry costs Pounds processed $143,000+$4,000 245,000 pounds =$0.60 per pound © The McGraw-Hill Companies, Inc., 2006 All rights reserved 944 Managerial Accounting, 11th Edition Case 15-17 (90 minutes) The plantwide rate would include overhead costs for both the service departments and the manufacturing departments It would be computed as follows: Manufacturing Departments Molding Component Assembly Variable overhead $ 210,500 Fixed overhead 1,750,000 Total overhead $1,960,500 $1,650,000 749,500 $2,399,500 $2,860,500 3,119,500 $5,980,000 Service department overhead costs: Power department ($500,000 + $140,000 + $1,200,000) Maintenance department ($25,000 + $375,000) Total company overhead costs 1,840,000 400,000 $8,220,000 Estimated direct labor-hours: Molding Component Assembly Total hours 50,000 200,000 150,000 400,000 Plantwide overhead rate= = $1,000,000 620,000 $1,620,000 Total Estimated overhead cost Estimated direct labor-hours $8,220,000 400,000 DLHs =$20.55 per DLH © The McGraw-Hill Companies, Inc., 2006 All rights reserved Solutions Manual, Chapter 15 945 Case 15-17 (continued) a Allocation rates for the service department costs would be as follows: Variable power costs: $500,000 + $140,000 = $8 per kwh 80,000 kwhs Variable maintenance costs: $25,000 = $2 per hour 12,500 hours © The McGraw-Hill Companies, Inc., 2006 All rights reserved 946 Managerial Accounting, 11th Edition Case 15-17 (continued) Given the above data, the allocations by the direct method would be as follows: Power Variable cost $ 640,000 Power allocation: $8 per kwh × 36,000 kwh (288,000) $8 per kwh × 32,000 kwh (256,000) $8 per kwh × 12,000 kwh (96,000) Maintenance allocations: $2 per hour × 9,000 hours $2 per hour × 2,500 hours $2 per hour × 1,000 hours Total variable costs $ Fixed costs $1,200,000 Power allocations: 50% × $1,200,000 (600,000) 35% × $1,200,000 (420,000) 15% × $1,200,000 (180,000) Maintenance allocations: 70% × $375,000 20% × $375,000 10% × $375,000 Total fixed costs $ Total allocated costs Maintenance $ 25,000 Molding $ 288,000 (18,000) (5,000) (2,000) $ 18,000 306,000 Component Assembly $256,000 5,000 261,000 $ 96,000 2,000 98,000 $375,000 600,000 (262,500) (75,000) (37,500) $ 262,500 420,000 75,000 180,000 862,500 495,000 37,500 217,500 $1,168,500 $756,000 $315,500 © The McGraw-Hill Companies, Inc., 2006 All rights reserved Solutions Manual, Chapter 15 947 Case 15-17 (continued) b Molding Component Assembly Allocated service department costs (above) $1,168,500 $ 756,000 $ 315,500 Manufacturing department overhead costs: Variable 210,500 1,000,000 1,650,000 620,000 749,500 Fixed 1,750,000 Total overhead costs $3,129,000 $2,376,000 $2,715,000 Divide by machine-hours ÷ 87,500 ÷ 200,000 ÷ 150,000 Divide by direct labor-hours Predetermined overhead rate $ 35.76 $ 11.88 $ 18.10 a Overhead cost allocated under the plantwide rate: 7,500 direct labor-hours × $20.55 per direct labor-hour = $154,125 Overhead cost allocated under the departmental rates: Molding department: $35.76 per machine-hour × 3,000 machine-hours $107,280 Component department: $11.88 per direct labor-hour × 2,500 direct labor-hours 29,700 Assembly department: $18.10 per direct labor-hour × 4,000 direct labor-hours 72,400 Total cost allocated $209,380 © The McGraw-Hill Companies, Inc., 2006 All rights reserved 948 Managerial Accounting, 11th Edition Case 15-17 (continued) b The use of a plantwide rate is resulting in too little overhead cost being allocated to products that require a large proportion of machinehours as compared to direct labor-hours In part 3a above, for example, the attaché case (which requires a large proportion of machinehours) is allocated only $154,125 in overhead cost if a plantwide rate is used, whereas it is allocated $209,380 in overhead cost if departmental rates are used Since Hobart Products is using a plantwide rate, it is not surprising that the company is pricing this attaché case well below the price of competitors On the other hand, use of a plantwide rate is resulting in too much overhead cost being allocated to products that require a large proportion of direct labor time as compared to machine time This probably accounts for the fact that Hobart’s prices for some products are well above the prices of competitors Hobart Products could take two additional steps to improve its overhead costing First, it could use the step method to allocate service department overhead costs And second, it could use activity-based costing (as discussed earlier in the book) to assign overhead costs from operating departments to products © The McGraw-Hill Companies, Inc., 2006 All rights reserved Solutions Manual, Chapter 15 949 Case 15-18 (75 minutes) Step method: Custodial Personnel Services Maintenance Printing Binding Total cost before allocations $360,000 $141,000 $201,000 $525,000 $373,500 Allocations: Personnel (@ $1,800 per employee)* (360,000) 27,000 45,000 72,000 216,000 Custodial services (@ $1.20 per square foot)** (168,000) 24,000 96,000 48,000 (270,000) 225,000 45,000 Maintenance (5/6, 1/6) Total overhead cost after allocations $ $ $ $918,000 $682,500 Divide by machine-hours ÷150,000 ÷175,000 Divide by direct labor-hours Predetermined overhead rate $ 6.12 $ 3.90 * Based on 15 + 25 + 40 + 120 = 200 employees ** Based on 20,000 + 80,000 + 40,000 = 140,000 square feet © The McGraw-Hill Companies, Inc., 2006 All rights reserved 950 Managerial Accounting, 11th Edition Case 15-18 (continued) Direct method: Custodial Personnel Services Maintenance Printing Binding Total costs before allocations $360,000 $141,000 $201,000 $525,000 $373,500 Allocations: Personnel (1/4, 3/4)* (360,000) 90,000 270,000 Custodial Services (2/3, 1/3)** (141,000) 94,000 47,000 (201,000) 167,500 33,500 Maintenance (5/6, 1/6) Total overhead cost after allocations $ $ $ $876,500 $724,000 ÷150,000 Divide by machine-hours ÷175,000 Divide by direct labor-hours Predetermined overhead rate $ 5.84 $ 4.14 * Based on 40 + 120 = 160 employees ** Based on 80,000 + 40,000 = 120,000 square feet © The McGraw-Hill Companies, Inc., 2006 All rights reserved Solutions Manual, Chapter 15 951 Case 15-18 (continued) a The amount of overhead cost assigned to the job would be: Step method: Printing department: $6.12 per machine-hour × 15,400 machine-hours $ 94,248 Binding department: $3.90 per direct labor-hour × 2,000 direct labor-hours 7,800 Total overhead cost $102,048 Direct method: Printing department: $5.84 per machine-hour × 15,400 machine-hours $ 89,936 Binding department: $4.14 per direct labor-hour × 2,000 direct labor-hours 8,280 Total overhead cost $ 98,216 b The step method provides a better basis for computing predetermined overhead rates than the direct method because it gives recognition to services provided between service departments If this interdepartmental service is not recognized, then either too much or too little of a service department’s costs may be allocated to a producing department The result will be an inaccuracy in the producing department’s predetermined overhead rate For example, using the direct method and ignoring interdepartmental services causes the predetermined overhead rate in the Printing Department to fall to only $5.84 per MH (from $6.12 per MH when the step method is used), and causes the predetermined overhead rate in the Binding Department to rise to $4.14 per DLH (from $3.90 per DLH when the step method is used) These inaccuracies in the predetermined overhead rate can cause corresponding inaccuracies in bids for jobs Since the direct method in this case understates the rate in the Printing Department and overstates the rate in the Binding Department, it is not surprising that the company tends to bid low on jobs requiring a lot of printing work and tends to bid too high on jobs that require a lot of binding work © The McGraw-Hill Companies, Inc., 2006 All rights reserved 952 Managerial Accounting, 11th Edition Group Exercise 15-19 The answer to this part will depend on the industry the group selects The answer to this part will depend on the industry the group selects The answer to this part will depend on the industry the group selects & Generally speaking, the wider the range of products made or services offered, the greater the support costs More products and services require additional support resources for scheduling, planning, billing, shipping, and so on As the resources demanded of the support departments increase, their costs increase as well Service department costs are reduced by decreasing spending on the resources the service departments consume This can be accomplished by: (1) decreasing the activities the service departments are required to perform—perhaps by reducing the range and complexity of products and services offered by the company; (2) improving the business processes in the service departments so that fewer resources are required to carry out those activities; or (3) spending less on the resources— perhaps by negotiating for better prices from suppliers © The McGraw-Hill Companies, Inc., 2006 All rights reserved Solutions Manual, Chapter 15 953 ... rights reserved Solutions Manual, Chapter 15 pleted, their cost is removed from Work in Process and transferred to Finished Goods As goods are sold, their cost is removed from Finished Goods and... might be justified if the customer requested a “rush” order that caused the overtime © The McGraw-Hill Companies, Inc., 2006 All rights reserved 24 Managerial Accounting, 11th Edition Exercise... rights reserved 31 Managerial Accounting, 11th Edition Problem 2-15 (continued) 16 17 18 19 Cost Item Ink used in textbook production Fringe benefits, assembly-line workers Yarn used in sweater