Cost Accounting Activities

In conversion cycle, these activities record the financial events that occur in the production process.

Cost accounting procedures are illustrated in Figure 7-13. That is on page 317 in our ebook. From the figure, it
shows that the cost accounting process begins when the Production planning and control department sends copy
of original work order to cost accounting department.

Then, cost accounting department will add the new record in WIP file. This WIP file is a subsidiary ledger for
WIP account in general ledger.

Materials and labor are added to the production process. These are reflected in documents sent by the inventory
control and work centers to the cost accounting department.

Inventory control sends copy of material requisitions, excess material requisitions, and material returns.

Work centers send job tickets, and completed move tickets.

Along with these documents, standard charges for direct labor, material and manufacturing overhead from the
standard cost file are used to update the affected WIP accounts.

Deviations are recorded to calculate material usage, direct labor and manufacturing overhead variances. These
variances are sent to the management accounting system.

When the cost accounting department receives the last move ticket, cost accounting department closes the WIP
account. Summary information about the debits and credits to WIP and variances are recorded on the journal
vouchers and sent to the general ledger department.

General ledger department posts to control accounts.

Value Stream Mapping

Value stream includes all the essential steps in producing a product. Production process can be essential
activities, which are those that add value or nonessential activity which do not add value and should be
removed.

Value stream map is a tool used by companies pursuing lean manufacturing which represents the business
processes to wasteful aspects that should be removed
Value stream mapping identifies all actions required to complete a product and key information about each
action such as total hours worked, overtime hours, cycle to complete task, and error rates.

Here is an example of a value stream map. It itemizes the amount of overtime, staffing, work, shifts, process
uptime, and task error rate. From this figure, it reveals that considerable production time is wasted between
processing steps and the shipping function appears to be inefficient and wasteful.

Produce both current-state map and future-state map. It is the basis of lean implementation plan as it identifies
actions steps to eliminate non-value added activities.

It works best in highly focused and high-volume processes because it reduces repetitive processes by even small
amounts of time.

Accounting in Lean Manufacturing

Traditional costing does not adequately support the needs of lean companies. Accounting in a lean
manufacturing environment requires new accounting methods and new information that:

Shows what matters to customers (quality and service)

Identifies profitable products and customer and opportunities for improvement

Encourages adoption of value-added activities

Provide multiple users with both financial and nonfinancial information efficiently

Problems in Traditional Costing

Since traditional standard costing focus on financial performance than manufacturing performance, this create
deficiencies which do not support the objectives of lean manufacturing.

Here are some of disadvantages of traditional standard costing:

1 Inaccurate cost allocations

 Leads to product cost distortions in a lean environment. Because of these cost distortions, some products
appear to cost more and others appear to cost less than they actually do and these may lead to poor
decisions regarding pricing, valuation, and profitability.

2 Promotes Nonlean Behavior

  To improve personal performance measures, management and operations, they produce large batches of
products and build inventory which is in conflict with lean manufacturing. Also standard costing
conceals waste within the overhead allocations

3 Time lags.

 Data lag behind actual manufacturing activities because control is applied only when there is need to
correct error. Unlike in lean setting, managers are provided immediately with information about
deviations.

4 Financial orientation:

 Financial information produced is not sufficient basis for making decisions about:
1) Functionality of product or process
2) Improving product quality
3) Shortening delivery time

Forcing such data may distort the problem and may lead to bad decisions
Because of the following deviations, activity-based costing method was developed.

Activity-based Costing

 This method assigns costs to activities based on their use of resources and to cost objects based on their
use of activities

Here we defined activities and cost objects.

Activities are the work performed in a firm. For example, preparing purchase order and readying a
product for shipping. These are specific deeds, action, or transactions performed.

Next, cost objects. These are the reasons for doing a job. These include products, services, vendors, and
customers. For example, preparing sales order. That is the activity. Our cost object is the customer, sales
order is prepared because the customer wants to order.

In contrast with traditional based costing that assumes that products cause cost, here in activity-based costing, it
assumes that activities cause costs and these activities are needed to produce the products.

This is how activity-based costing is done:

1st: Determine cost of activity. Once determined,

2nd: Assign activity cost to relevant cost object through an activity driver. The activity driver measures the
activity consumption by the cost object. Compared to traditional costing that uses only one activity driver,
activity-based costing may have dozens of cost pools, each with unique activity driver. It may vary depending
on the complexities of the manufacturing operations.

Advantages of ABC

1. More accurate costing of product/services, customers and distribution channels.

2. Identifies least and most profitable products and customers
3. Tracks costs of activities and processes accurately
 4. Equips managers with cost intelligence to drive continuous improvements
5. Facilitates better marketing mix.
6. Identifies waste and non–value-added activities.

Disadvantages of ABC

1. Too time-consuming and complicated for practical applications over time

 It requires constant identification of activity costs and cost drivers
2. Cost assignments can become inaccurate
 As products and processes change, associated activity costs and drivers also change. Inaccuracy
of cost assignments may happen unless significant resources are committed to maintain the
accuracy of activity costs and the appropriateness of drivers.
3. Creates complex bureaucracies within organizations
 These bureaucracies are in conflict with lean manufacturing that promotes process simplification
and waste elimination. Activity drivers are not organized by departments but by hierarchy of
activity levels.