CASE ANALYSIS REPORT
Managerial Accounting: John Deere Component Works.
John Deere Component Works (JDCW), subdivision of John Deere and Co. was in charged specifically of the manufacturing of tractor component parts. The demand for JDCW’s products had problems due to the collapse of farmland value and commodity prices. Numerous and constant failures in JDCW’s competition for bids, alerted top management to start questioning their current costing methods. As an outcome, the analysis has to be guided to research on the current costing methods with the intention of establishing legitimacy and to help the company in adopting a more appropriate costing system.
Q1. How did the competitive environment change for John Deere Company
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• The system also fails to compute material usage variances, which only further discredits the accuracy of the accounting cost structure. For more accurate measure of material usage, the quality assurance department must include this variance calculation in its weekly report.
• A further weakness is that the accounting department issues reports that only indicate how each area operates, rather than evaluating the performance of each area, which would prevent a constriction in cost efficiency. These weaknesses prevent JDCW from accurately accessing its true costs.
Q3. How were the limitations of the existing cost system overcome by the ABC Cost System? What are the implications of the ABC system?
Essentially, with the current cost system, the managerial analysis is highly flawed due to a lack of crucial in-depth cost information, as indicated by: 1) JDCW already had three cost pools with appropriate cost drivers for each; 2) JDCW distinguished variable ("direct") and non-variable ("period") overhead; 3) JDCW did not fall in the trap of charging under-capacity utilization out to current production levels (i.e., they used "normal volume" in the denominators of their rate computations).
The inconsistency in their accounting system makes that JDCW's cost drivers show all unit-based, whereas many overhead costs (41 % of the total overhead costs) are independent of units
While we are performing our analysis on different aspects of the company, we look at the three main types of cost. When we remain devoted to improving our costs, and the faults related, we show our same devotion to our consumers. This is portrayed by the quality of products we put on the shelves. Prevention costs, appraisal costs and Failure costs are areas
Assuming that the company’s goal is to maximize profits, the current cost system is not an appropriate tool for strategic planning. The ambiguity of the overhead costs per product makes it difficult to accurately analyze the cause and effect relationships of changes and/or improvements to specific product line.
Wilkerson employs a Normal Cost System, which means that they use predetermined overhead rates along with actual costs for direct material and direct labor. Normal costing systems are appropriate when overhead costs are a relatively small percentage of total manufacturing costs and product diversity is limited. For Wilkerson, normal costing does not make sense. Overhead costs make up over 50 percent of total manufacturing costs and their product offering is relatively more diverse. This indicates that the current accounting system in place may be distorting costs significantly. Supporting data:
Abby Conroy was tasked with calculating an effective quote for Breeland Ltd., she chose the activity based accounting costing system since it more accurately captures the related costs. A special order was placed by Breeland Ltd. with Ace Fertilizer Company. The did not plan to order more of this product in the future. Based on Ace’s policy, the special order included disposal costs for any used materials in the event no other orders existed for the unused materials at the time the Breeland contract was signed. Abby correctly calculated the total direct material and labor costs and accurately arrived at the indirect costs using the ABC method and used cost activity pools that make sense for the company and
• This cost method does not provide the best system for JDCW’s cost allocation. By using only three overhead rates the present system grossly undermines the true production costs since other activities of the production process are not acknowledged.
The current cost system is based on two components: a direct and indirect cost measurement.
with a number of strategic issues facing a capital-intensive, mature industry. Their product costing system was
According to the analysis and findings, the use of the ABC methodology has led to the revelation that Gargantuan has been overcosted while Gigantic has been undercosted under the traditional costing method. The underlying reason for this is because Gigantic is considered a complex product, as established through the higher direct materials costs and labour hours absorbed in comparison to Gargantuan. As such, whilst Gigantic should have been allocated more MOH costs than Gargantuan, an insufficient amount was allocated due to the broad averaging from the use of one cost-allocation base under traditional costing. The variances in the amount of MOH costs allocated to Gargantuan and Gigantic therefore explain the differences in the gross margin per unit values for each laptop under each costing method as each costing system provides a different cost figure.
HP in 1994 decided not to integrate the ABC in the Cost Accounting Information System (abbreviated CAIS) for a number of reasons. The first reason is that at that time the CAIS was implemented in all HP business units worldwide. This system was considered very complex and difficult to change. Because ABC was only used in one business unit it was thought to be insensible to change the whole system. The second reason is connected to the codification of the operations in the CAIS. If the ABC would be integrated this system would have to be reorganized and all the employees would have to learn to operate the new
The target costing case literature contains numerous examples of Japanese cost management practices; however, few cases describe the use of target costing by large companies outside Japan. The purpose of the Mercedes-Benz AAV case is to consider the competitive environment of a leading German automotive manufacturer and the company 's response to changing competitive conditions. The teaching plan generally follows the suggested student assignment questions. In places, I recommend considering additional material during the case discussion. These questions are identified by a check mark.
At its core, a cost driver is any factor that is literally driving or influencing the cost of something. Over the past century, there has been a shift from single cost drivers to companies now reviewing several cost drivers. The combination of more sophistication in manufacturing and growth in customers needs and demands means that direct labor can no longer be the central cost driver. Overhead costs have increased drastically and have had a dramatic effect on the profit and competitiveness of manufacturing organizations. They account for a large percentage of a company’s total value and as a result, they have forced management to recognize its effects. “Manufacturing overhead, which includes all manufacturing costs other than direct materials and direct labor, has increased significantly due to automation, product diversity and product complexity” (p. 14-18,). When accounting for these costs, a machine hour is defined as “the operation of one machine for one hour used as a basis for cost finding and for determining operating effectiveness” *Merriam-Webster. A company that employs the use of machines extensively, such as a manufacturing company, would be best served by using machine hours to analyze costs.
While all three costing method would work for a newly existing company in various areas, the actual costing method would be best for the first few years. The reason for this rationale, is that the company is new to the business environment and it would take some time for managers to acclimate their operations and production levels. As time passes, managers will have to change their strategy to the normal costing to avoid losing consumers to its competitors. Firms’ have to be able to reduce costs for their products and services, without losing the quality of the products (Apak, 2012).
Traditional method tends to use arbitrary allocations that are not significant determinants of the costs. On the contrary, ABC mainly uses cause-and-effect allocations as significant determinants of the costs and refrains from arbitrary allocations. Therefore, cause-and-effect allocations should be used to get accurate assignment of indirect costs to cost objects. Figure 1 below describes the different types of product costing systems.
The traditional budgeting model is built on an erroneous understanding of the overhead apportionments. Mostly, the companies use the labour hours, and the machines hours to allocate the overheads into different cost units. In reality, a single cost driver like the labour hours and the machine hours does not affect the incurrence of the overheads. The rate of consumption of the materials or the labour hours differs among the various product lines and the departments. Some products lines may consume a little amount of a given type of an overhead compared to another. When the absorptions rate used is not the real costs driver of the overhead used in a given product line, the costs will be either over or underestimated (Richards, 2011, p.78). The use of overall absorption rate produces information that is unreliable for use by the managers. They have to come up with strategies to control costs and compete effectively in the market.