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Accounting

27th Edition
WARREN + 5 others
ISBN: 9781337272094

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BuyFindarrow_forward

Accounting

27th Edition
WARREN + 5 others
ISBN: 9781337272094
Textbook Problem

Variable costs and activity bases in decision making

Sales volume has been dropping at Mumford Industries. During this time, however, the Shipping Department manager has been under severe financial constraints. The manager knows that most of the Shipping Department's effort is related to pulling Inventory from the warehouse for each order and performing the paperwork. The paperwork involves preparing shipping documents for each order. Thus, the pulling and paperwork effort associated with each sales order is essentially the same, regardless of the size of the order. The Shipping Department manager has discussed the financial situation with senior management. Senior management has responded by pointing out that because sales volume has been dropping, the amount of work in the Shipping Department also should be dropping. Thus, senior management told the Shipping Department manager that costs should be decreasing in the department.

The Shipping Department manager prepared the following information:

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Given tills information, how would you respond to senior management?

To determine

Variable costs: These are the costs that proportionately change with the changes in the activity base such as units of production Common examples of variable costs are direct materials and direct labor costs.

Activity Base: The activities that cause the cost to vary accordingly are known as activity base.

To respond: to the senior management about the decrease in cost in the shipping department.

Explanation

The manager of the shipping department should respond to the senior management that the increase or decrease in the cost of the shipping department depends upon the number of sales orders not sales volume.

The sales orders requires pulling inventories from the warehouse and the paperwork activities for processing the sales orders. Thus, from the given information, it is found that even though there is a decrease in the volume of sales, the number of sales orders has increased from 1,180 to 1,475 in the past eight months...

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