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Implementations In Manufacturing Company

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Question:

Discuss about the Implementation in a Manufacturing Company.

 

Answer:

Introduction:

The current assignment deals with the provided case study of Happy Traveller Limited, which manufactures different types of luggage like simple luggage, complex luggage and other luggage. It is involved in ascertaining its product costs with the help of both traditional costing system and activity-based costing system. The first section of the assignment would ascertain overhead analysis systematically using traditional costing system by following a two-stage allocation process. The second segment would concentrate on conducting the same analysis by using the activity-based costing system, in which the costs are allocated to the activity cost centres. The third portion would lay emphasis on explaining the differences in products costs computed under both the systems. In addition, the cost-benefit considerations in the context of Happy Traveller Limited are discussed, since they are crucial for adopting the ABC system. Finally, the assignment would shed light on finding out the possible ways through which the above-stated system could be applied in the organisation except allocation of cost to its products. 

Requirement 3:

The main reason behind the variations in product costs under both the systems is due to cost assignment. In this context, Edmonds et al. (2016) cited that this component takes into account certain amount of labour and material, which could be gauged reliably. In both the methods, the cost of labour is computed by multiplying the materials consumed with the labour rate per hour, while the material cost is calculated by multiplying the overall consumed materials with the unit price. After this, a certain portion of overhead costs consumed would be included. In traditional costing system, a percentage of the overhead cost of the organisation is loaded to the component. This percentage could be either a portion of labour cost or machine hours compared to the total labour cost or machine hours worked (Weygandt, Kimmel and Kieso 2015). There is absence of rationale, as the component might not have attracted such overheads actually to it. 

However, in ABC system, there is ardent need in ascertaining the actual overhead activities conducted on the component. All activities are gauged in terms of their cost drivers, which imply the number of units of the cost drivers actually used on the part of the component. For all the overhead activities, the total costs are accumulated at the organisational level (Eldenburg et al. 2016). This could be termed as the overhead cost pool of the activities. In addition, for determining the unit cost of the activity drivers, the overall overhead cost pool of the activity is divided by the overall units of the cost driver, which are utilised at the organisational level.

In case of Happy Traveller Limited, the overhead charged to simple luggage using ABC system is $134.65 per unit, which is higher than $67.82 computed using the traditional costing system. For complex luggage, the overhead cost under ABC system is calculated as $111.38 per unit and $200 per unit under traditional costing system. The reason behind these variations is that the cost allocation is ascertained by taking into account direct labour hours. As complex luggage has high direct labour amount, a higher portion of the overhead costs is allocated to it in contrast to simple luggage. There is no effect of setups, orders and tests of the actual usage of the product on the apportionment of cost overhead at the time there is usage of direct labour hours for assigning overheads. Thus, under ABC system, there is accurate allocation of costs in contrast to the traditional costing system.

 

Requirement 4:

Happy Traveller Limited needs to consider certain costs and benefits while adopting ABC system within the organisation. For implementing this particular system, two types of costs are required, which constitute of the development cost of the system and the operational cost of running the system (Lanen 2016). In addition, Happy Traveller Limited needs to obtain adequate information before adopting the system and thus, it needs to develop its IT department for providing necessary support. Moreover, it needs to provide adequate staff training for generating awareness of this concept along with ensuring their cooperation.

The benefits that Happy Traveller Limited could enjoy after adopting the ABC system include the identification of non-value-added activities and accordingly, they could be eliminated or minimised to accomplish greater cost efficiency. Moreover, the organisation could undertake significant decisions regarding pricing, process technology, marketing mix and others, since it takes into account greater realistic activities (Mitchell and Nørreklit 2017).

Requirement 5:

There are certain ways through which the application of ABC system could be made in the context of Happy Traveller Limited and they are enumerated briefly as follows:

  • Due to the rising competition in the market, ABC system provides a platform by grouping various activities in batch mode in accordance with the various departments of Happy Traveller Limited.
  • The presence of computers and other technologies has enhanced the need for improvement in information collection technology to make decisions for obtaining competitive advantage (Öker and Ad?güzel 2016).
  • Due to the non-uniformity in demand for various products on resources because of volume, process set-up, complexity and batch size, the organisation could apply the average overhead cost in order to minimise the cost of production with the help of ABC system.

Conclusion:

Based on the above evaluation, it could be inferred that ABC system is gaining popularity in the manufacturing sector due to accurate cost allocation to products. It has been found that one of the biggest drawbacks of the traditional costing system is that it lays too much emphasis on direct labour for the apportionment of cost to products. However, in case of ABC system, it has been identified that each activity has separate cost driver and thus, it ensures accurate cost allocation to products. Hence, it could be inferred that implementing the ABC system would help Happy Traveller Limited to minimise its cost of production along with sustaining competitive edge in the operating market.

 

References:

Edmonds, T.P., Edmonds, C.D., Tsay, B.Y. and Olds, P.R., 2016. Fundamental managerial Accounting concepts. McGraw-Hill Education.

Eldenburg, L.G., Wolcott, S.K., Chen, L.H. and Cook, G., 2016. Cost management: Measuring, monitoring, and motivating performance. Wiley Global Education

Lanen, W., 2016. Fundamentals of cost Accounting. McGraw-Hill Higher Education.

Mitchell, F. and Nørreklit, H., 2017. Introduction. In A Philosophy of Management Accounting (pp. 15-34). Routledge.

Öker, F. and Ad?güzel, H., 2016. Time?driven activity?based costing: An implementation in a manufacturing company. Journal of Corporate Accounting & Finance, 27(3), pp.39-56.

Weygandt, J.J., Kimmel, P.D. and Kieso, D.E., 2015. Financial & managerial accounting. John Wiley & Sons.

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