Sneakers Unlimited is a manufacturer of men’s and women’s leisure shoes. What began as a small family business has now grown into a firm with a large and very popular product range.
Costing system currently used
The firm accounts for its products using standard absorption job costing, applying overhead to products using a plant-wide rate based on direct labour hours. Materials purchases are recorded at actual cost. Work in process and finished goods inventories are recorded at standard cost. All cost variances in the period are transferred to cost of goods sold at the end of the period.
This existing costing system was established when only one type of sneakers was produced and when overhead was a significantly smaller proportion of total cost than it is now.
Materials for sneakers are fabric, cottons, and depending on the styles, zippers, buttons, Velcro, laces and logos. At the present time the only material which is traced directly to the product is fabric. Cottons, buttons, zippers, laces, Velcro and logos are treated as indirect materials (overhead). All on-costs such as superannuation, payroll tax, provisions for leave on wages are treated as indirect costs (overhead).
Standards are determined at the point when the product is initially designed, and are regularly updated to reflect all changes in the manufacturing process. The firm prides itself on its very efficient labour force, and in the past the company seldom had cost over-runs due to labour inefficiency.
In the period which is the focus of this review, two changes were made in the manufacturing process. First, a change was made in the layout of the manufacturing space which should reduce the standard time per product in the long run. The direct labour standards have not yet been updated to include this change. Secondly, a new type of material was purchased from the current supplier. The supplier had claimed that the new material (which is of high quality, yet cost a similar price to the old material) is easier to work with in terms of both cutting and sewing. The supplier is known to be reliable in terms of material supply.
Review of costing system
The firm is commencing an extensive review of its costing system and reporting practices. This review will involve all divisions of the firm. Your task is only a small part of the entire review:
• One product only (“Dance” sneakers), and
• Selected tasks only – for example, a discussion on implementing Activity Based Costing
Some of the issues which have prompted the review are:
• Various pressures from competitors have alerted the firm to be more cost conscious. The firm has had a number of issues with their product pricing recently. The firm sets prices based on a mark-up on total cost (i.e. inventoriable (product) cost + period cost for each product). Various inconsistencies have been identified when comparing Sneakers Unlimited prices with those of its major competitors. As a result, the firm wants to have more confidence in the product cost generated by the accounting system, in particular the cost of each individual product (Dance, Run and Walk).
• In addition to product pricing, the costing data provided by the firm is now being used extensively for other decision-making within the firm. This means that the accuracy of costing data is becoming increasingly important.
• In recent times the firm has been faced with limited storage space at their premises. The firm is unable, at this stage, to consider options involving a significant capital outlay to relocate or rebuild. Further, Just in Time inventory is not an option for this firm. (Note: the recent change in factory layout has no impact in any way on storage capacity.)
The requirements of the case begin on the next page. In addition to the tasks management have asked you to complete, they have also indicated that there are a few issues that you are not to include:
• Ways of reducing costs – You are to take all costs as given, and at this stage not recommend any particular ways of attempting to reduce or eliminate costs.
• Use all data as given, including all the fixed overhead figures without trying to fine-tune those figures in any way.
• Management has extensively reviewed the budgeting process of the firm and is happy that all budgets have been appropriately set. Therefore you should not include any issues related to the firm’s budgeting process.
• Management has stressed that your responses to the questions should be based only on the facts with which you have been provided. Do not go outside these facts.
• The information you provide will be combined with information relating to the other lines (“Run” and “Walk”) for further analysis. This additional analysis and any issues which may result from combining the information are outside the scope of this case.
• Be concise
• Do not include unnecessary padding
• Use pro-forma Part B on Blackboard to structure your responses
Task Description – “Dance” Sneakers
You are to assist the review process by providing management with the following items related to the product line “Dance”.
1. Six technical reports with two supporting schedules (Part A). Management is considering various costing system options. To facilitate their decision-making they have requested the preparation of these schedules. The data and the schedules are in the Excel file on Blackboard.
2. Short answers to 3 questions from management (listed below Part B 1-3). Your answers to each of the questions should be complete, but also should be clear and concise, and in a form that is easy for managers to read and understand. You may use bullet points if they assist in the presentation of your answers. Answers must be written in acceptable Business English.
3. A discussion (Part B – 4 below) based on (i) Schedule 6 (ABC), (ii) the facts of the case (iii) and an article from the literature.
PART A: Schedules required (12 + 8 Marks)
Complete schedules (8) in the appropriate spaces on pro-formas. Do not delete any parts of the pro-forma. Show all required working in the relevant spaces, and only show required working.
• Variance report related to units produced. (Schedule 1)
• Calculation of standard costing cost variances relating to the product “Dance”. The firm calculates price variances for all manufacturing costs, efficiency variances for all variable manufacturing costs, and a fixed overhead volume variance. The material price variance is calculated on usage. (Schedule 2)
• The Normal Absorption Costing Income Statement for the period, with relevant variances expensed to the period and; recast the Income Statement (with relevant variances expensed to the period) assuming Standard Absorption Costing. (Schedules 3 and 4, and a schedule to calculate COGS)
• Show the journal entries for the period under the standard absorption costing system currently used by the firm. Journal entries must be presented in proper form. (Schedule 5)
• Prepare a comparison of overhead costs per product under the existing costing system (a plant-wide rate based on DL hours) with an Activity Based Costing system using the cost pools and cost drivers identified in the data. (Schedule 6 and workings for Schedule 6)
• If you want to be eligible for up to 8 marks, then use formulas in your calculations. The formulas will have to refer to other cells in the worksheet that either contain the original values, e.g. dl cost per hour, machine hours per unit, order times etc. or to formulas from a previous step. This means, every time the values in the data sheet are changed, the results are updated automatically.
• To be clear, all worksheets are to be completed using formulas that draw values from the data provided. In each worksheet, students will be deducted 0.5 marks for each cell that contains a numerical value that has not been obtained using an Excel formula. It is not necessary to enter the label “U” or “F” in the column next to the relevant variance value. If you wish to do so use an “if” statement.
• Each sheet is worth 1 mark, therefore only two errors can be made in each sheet.
PART B: Answers to management questions (pro-forma provided) (20 Marks)
(1) The firm’s labour force has a good reputation. Therefore, management is perplexed at the efficiency variances from this period. Taking each of the variances separately under the headings provided in the pro-forma, suggest possible reasons (deriving from the facts provided in the case) that the firm has used more/less material and more/less DL hours than it should have. Your suggested reason(s) may apply to more than one variance so be very clear here. Be concise and succinct.
(2) Management is keen to have more confidence in its product costs. One way to achieve this would be to implement Activity Based Costing (as you will discuss in (4) below). There are other improvements that this firm could make to the way it is currently costing its products. This may provide product costs which the management of the Department can be more confident about (costs which would be less subjective). Identify and explain two improvements that can be made to the costing system based on the facts provided in the case. (50% each). Note that the improvements may be related to each other.
(3) Management is uncertain about the meaning of the fixed volume variance. They have commented: “the fixed OH volume variance is favourable, so this must mean that everything is OK there”. Explain to management the meaning of the variance and why their observation is incorrect. (50%) In addition, following on from that explanation, explain related consequences for the firm in light of the other concerns that management has raised, (50%)
(4) Based on your analysis in Schedule 6 and the facts of the case, discuss why you would or would not recommend ABC. Also, provide further evidence for your discussion by referring to an article from the literature (use the Internet or QUT’s database). Articles from professional or scientific journals/magazines that report on costing system (e.g. ABC) experiences will serve this purpose well. Textbooks such as Horngren et al. (2011) do not qualify as an article. Use the AREA critical thinking framework document on Blackboard under Lecture 2 to structure your discussion. Your discussion should be no longer than two pages (double line spacing).
Make sure that you:
• Answer the question asked, and only the question asked.
• Provide complete answers.
As per the third paragraph of the case study “The firm accounts for its products using standard absorption job costing….”, except for question 4, none of the answers require you to recommend one costing system over another, e.g. do not discuss the different costing systems such as:
• Absorption .v. variable
• Normal .v. standard
• Job .v. process
• How to dispose of variances (transferring to COGS or prorating)
• Using Activity Based Costing or plant-wide rates
• Using multiple OH rates or plant-wide rates
Comments regarding specific questions
Question 1 – Efficiency variances.
Do not define an (un)favourable efficiency variance. An (un)favourable efficiency variance means that Sneakers Unlimited has used more/less material and more/less DL hours than it should have. The question already defines this for you. You are asked to consider the facts of the case and suggest reasons the firm has used more/less material and more/less DL hours than it should have.
Do not include broad, generic “possible reasons for (un)favourable efficiency variances”.
Question 2 – Two changes to costing.
Note that the answer to this question does not relate to any items required for question 4. Further, it does not relate to any of the costing system choices referred to in paragraph 3 of the case.
Question 3 – Fixed volume variance.
Make sure you answer both parts. For the second part, use information found in the case material.
Question 4 – Activity Based Costing.
This is the only question that relates to the use of ABC rates or plant-wide rates. Do not discuss alternative methods of calculating overhead rates (ABC, plant-wide, multiple rates etc) in any other question.
Research and referencing
• Except for Part B4 (the discussion), please do not use any references. For B4, use any acceptable referencing style such as Harvard.
• Your bibliography should include full details of the article you have used in your discussion in Part B4.
• Your entire assignment must be written in your own words. Students should note that severe penalties are imposed for plagiarism.
Length of assignment
• Answers to management questions (Pro-forma Part B) can be three to four pages but must be no longer than four (4) single-sided pages, double line spacing, excluding the bibliography, which should be on the 5th page.
• NOTE: The markers will only mark the first 4 pages; any more pages will be ignored.
• Schedules must be completed in the excel sheet provided.