Question

Anu Ghai was a new production analyst at RHI, Inc., a large furniture factory in North Carolina. One of her first jobs was to update the predetermined overhead allocation rates for factory production costs. This was normally done once a year, by analyzing the previous year's actual data, factoring in projected changes, and calculating a new rate for the coming year. What Anu found was strange. The activity rate for "maintenance" had more than doubled in one year, and she was puzzled how that could have happened. When she spoke with Larry McAfee, the factory manager, she was told to spread the increases out over the other activity costs to "smooth out" the trends. She was a bit intimidated by Larry, an imposing and aggressive man, but she know something wasn't quite right. Then one night she was at a restaurant and overheard a few employees who worked at RHI talking. They were joking about the work they had done fixing up Larry's home at the lake last year. Suddenly everything made sense. Larry had been using factory labor, tools, and supplies to have his lake house renovated on the weekends. Anu had a distinct feeling that if she went up against Larry on this issue, she would come out the loser. She decided to look for work elsewhere.

1. Besides spotting irregularities, like the case above, what are some other ways that ABC cost data are useful for manufacturing companies?

2. What are some of the other options that Anu might have considered?

Answer 1

1.

An ABC system reflects the way products actually use a company’s resources (activities).ThusABC system costs are closer to the true cost of making products, and one should feel morecomfortable making decisions using ABC cost data (including pricing and product mix decisionsand cost management decisions such as computing target prices and target costs).ABC costdata can also help identify activities where costs are excessive and there are opportunities for savings and gains in efficienct

Data from activity-based costing can be useful in a number of ways. Because ABC offers a more accurate method of costing, it can be a useful tool to better understand costs, including identifying areas for cost savings and areas where costs have spun out of control. Because ABC data correlates more specifically with specific product lines, it is beneficial for identifying potential areas for improvement and potential efficiencies. ABC cost data is useful in management decisions and analysis, such as budgeting, product profitability analysis, and pricing decisions.

2.

Anu might have considered communicating with the company’s audit committee (if the companyhas one) and upper management.If this didn’t yield resolution, Anu might also have considered approaching the company’s external auditors or law enforcement.