Question

I have (3) questions:

1. What exactly is the Cost-Benefit Principle, and how does it apply to ABC?

2. Is JIT just about the reduction of inventory? Please Explain.

3. Indicate which of the following answers to the statement below represents the best choice, then support your view. Indicate why one of the other choices is incorrect. Which of the following is classified as an inventory shortage cost?

a. Purchase order preparation.

b. Production disruption.

c. Lost sales and lost customers.

d. Spoilage.

e. Production disruption, lost sales, and lost customers.

f. The cost of Justin Bieber's latest iTunes single.

Answer 1

1.Cost Benefit principle: It could be described as the costs of obtaining the information for the financial statments should not be over and above the benefit such an information provides us with.

Usually companies spend millions to get all its information gathering , sorting and organising it to provide the users with every piece of information which could affect their decisions associated with it. Providing every piece of information in the financial statments would cause a huge burden on the company and thus information should always be weighted with the benefit associated with it.

ABC- Activity Based Accounting- It is a method of accounting, which allows us to assign the costs such as overhead costs to be apportioned to the activities primarily and then apportioned to the products. It studies the relationship between the costs, overhead activities and manufactured products.

Some of the benefits of ABC are- Identifying the products that are unprofitable, improve the process efficiency, price products appropriately by using the accurate cost information, reveal unnecessary costs which should be reduced. By following ABC , the entity will be able to identify such costs which are not beneficial to us when compared to the costs involved. Such costs could be easily idenfied by ABC and steps could further be taken to reduce them, as it is easier to know which activity, which products or which area of activity is associated with such costs. Thus by following ABC company can achieve cost-benefit principle with much ease.

2.JIT- Just In Time Manufacturing/Production

As the name itself suggests in refers to producers what the customer needs , in what quantity it requires and when they want without causing delay . By incorporating JIT, you can produce only those inventories which are actually needed by the customers and not just produce a lot of inventories in advance which may or may not be required by them or at that particular point of time. This is a very useful method to be adopted as the company can focus on its resources and use them productively on inventory which will actually be needed by the customers.

The benefits of JIT are as follows:

a.Reduction in the shortage of cash flows: When the company adopts to produce inventory before they are required , it has to buy raw materials required for producing them and this invloves cash outflow, inflow towards this would only happen when those inventories produced are sold. Thus JIT helps in solving the problem of cash flow cycle by producing as when required by the customers.

b.Lead time reduction:

c.Reduction in the costs associated with handling and such other costs : When the company does not adopt to produce huge lot of inventories prior to the demand, it saves a lot of labour costs involved and such other costs associated such as huge and complex machineries required to produce them.

d.Productivity Increases: For the company to carry on JIT smoothly, it should have a strng team of workers who help in overcoming allthe hurdles. This increases the productivity of the company.

e. Reduction in the space required : By reducing the amounts of stocks that are produced and stored and implement JIT, it reducing the floor space thats required to store them before they are sold, increasing its warehousing costs and chances of spoilage, spillage and etc.

And there are many more benefits associated with JIT production such as -Reduction in inventory costs, Lead time reduction, improved quality,emphasising 'right--first-time' i.e., rework and costs of inspection being reducing and etc, thus JIT production is not only about reduction in the inventory. It is only one of the benefits when JIT is adopted in the company.

3.Lost sales and lost customers is best classified as inventory shortage costs.

Shortage costs can be best defined as the costs that an entity incures whe it has no sufficient inventory in stock. That is they will have o incur penalty costs of loss of sales.

When the company does meet the demand of the customer right on time, we loose the customers and the sales revenue from such a sale is also lost.This is also called as stockout situation.Even if the company attempts to deliver it with delay in time, the customers may not accept the delivery which leads to back-ordering , which again becomes a cost to the company to take back the delivery.

Stockout leads to customers going elsewhere , and here the company would incur higher costs of over production which is usually higher than the ordering,purchasing/holding costs.

The company not only looses the customers ans sales from them, but also affects the company in many other ways such as loss in companies goodwill.