Question

Jeri Cooper, the sales manager of Brunners Corporation, is getting worried. Her last three bids were rejected in favor of a bid from a new competitor to the market. Now, she is putting together a bid for a potential new customer, and she wants to make sure the price is competitive, but still profitable. As the managerial accountant at Brunners, your job is to help Jeri prepare bids by providing the most accurate cost estimates.

Brunners is a plastic injection custom molding company, which advertises its highly automated process as keeping costs low. Currently, Brunners uses a traditional (plantwide) costing system, with overhead costs allocated based on total direct labor hours. Suspecting that their traditional costing system is partially to blame for their recent problems, Brunners has begun the process of implementing ABC. However, before this new company entered the market, Brunners had little need to review their processes. Jeri has very little understanding of accounting, and has asked if her recent unsuccessful bids were due to an inaccurate costing system, or because process inefficiencies have driven up costs.

In the ABC implementation process, Brunners Corporation has identified four activities. The ‘molding’ activity is a highly automated process, where a few workers oversee several machines as they process parts. This is a large cost pool, as it includes the depreciation on the building all the plastic injection molding machines (i.e., millions of dollars of property, plant, and equipment). In the ‘materials management’ activity, workers with specialized machine training prepare each machine for a new process or color (setups) by cleaning and changing the molds in the machines, and then refill the machines with plastic pellets (materials handling) as needed. In the ‘trimming’ process, workers trim extra plastic from the parts. This extra plastic normally snaps off as the parts come out of the mold, but often needs to be trimmed as the molds get worn or if the mold is not correctly installed in the machine. Finally, in the ‘inspection’ activity, inspectors randomly select and inspect parts to ensure compliance with the customer’s specifications.

Having determined four activities used at Brunners, the ABC implementation team has separated the plant’s total overhead costs into the activity cost pools (see Table 1). The next step in the ABC implementation process it to identify cost drivers for each activity. So far, they have identified cost drivers for each of the activities (see Table 1). This is still a work in progress, though, and they are still making adjustments.

The proposed job is somewhat different, requiring pieces in a variety of colors (see Table 2 for details on the proposed job). Historically, customer jobs have required only one or two setups. While Brunners has not needed to support these types of requests in the past, several of the past bids (all rejected) have had similar needs. The plant manager believes that these types of jobs will increase in the future. Proving that they can support these requests would result in new business in future years.

You’ve realized that you could provide value to Brunners in a several different ways. First, providing cost estimates from both the traditional process and the proposed ABC method could shed some light on the accuracy of the cost estimation process. Second, you can use activity based management to identify improvements that could be made to the production process (if any). Finally, with your knowledge of this job (and the market looking forward), you could provide some valuable input to the ABC implementation team.

Table 1: ABC activities, cost drivers, and cost pools

Activity	Activity cost driver	Total activity cost pool	Est. cost driver usage
Molding	Machine hours	$420,000	300,000
Materials management	Lbs of materials	180,000	120,000
Trimming	DLH (trimming)	250,000	10,000
Inspection	# of inspections	100,000	2,000

Table 2: Job proposal (resources)

Direct materials	$10,000
Direct labor (total cost)	$8,000
Direct labor hours (molding)	300
Direct labor hours (trimming)	500
Lbs of material	3,500
Number of setups	6
Number of inspections	15
Number of machine-hours	1000

Required:

Write a 1-2 page memo, as the accountant of Brunners Corp, addressed to Jeri Cooper describing your analysis and the outcomes. Make sure you respond to the following items:

1.   Provide a total cost estimate using the current traditional costing system, where overhead is allocated based on direct labor hours (Brunners expects to use a total of 40,000 direct labor hours this year).

2.   Provide a total cost estimate using the activity based costing system proposed by the ABC implementation team.

3.   Explain to Jeri which cost estimate would be more accurate, and why.

4.   Use activity based management to respond to Jeri’s question about potential cost inefficiencies.

5.   Evaluate the ABC system as it currently stands. Explain what change(s) you expect the ABC implementation team to make, and how that could affect your cost estimates.

Grading Rubric:

Item	Points
Traditional cost estimate:
POHR calculation	1
OH allocation	1
Total cost estimate	1
ABC cost estimate:
Activity OHRs	1
OH allocation	1
Total cost estimate	1
Analysis and ABMgmt
Selection of cost estimate	2
ABM recommendation(s)	2
ABC evaluation	2
OABC format	2
Flow/legibility	2
Appendix titles/formatting	2
Grammar and proofreading	2
Total Points	20

Answer 1

Answer: