Importance of Accurate Product Costing: A Case Study Analysis of Beztec Limited

This report provides an analysis of the case study of Beztec Limited that is involved in manufacturing of two models of printers, that is, Lexon and Protox. It discusses the benefits of using the method of accurate product costing over traditional method of costing to provide accurate results that facilitates in taking correct decision. It also includes calculation of overhead rate for each identified activity, cost of each model manufactured by the company through applying the activity based costing approach, analyzing the profitability position of each model through calculating gross profit of each model and gross profit percentage of each model using activity based costing approach, and recommendations for resolving the ethical dilemma faced of altering the results derived with the use of ABC systems.

Introduction to Management Accounting
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Introduction
The present report is developed for providing an analysis of the case study of Beztec
Limited that is involved in manufacturing of two models of printers, that is, Lexon and Protox.
The company is initially following the traditional method of costing and is facing issues in
realizing profits from its product line of Lexon. The company has thus decided to introduce a
new product line, Protox, that they believe to generate much higher profit as compared to that of
Lexon. The management accountant, Smith, has advised the management for adopting the use of
ABC (Activity-based Costing) system so that it can accurate measure both direct and indirect
cost involved in production. However, ABC method has depicted that its new product line also
does not seem to be profitable and thus Kay, CEO of the company has advised Smith to alter the
results produced. In this context, the report has discussed the benefits of using the method of
accurate product costing over traditional method of costing to provide accurate results that
facilitates in taking correct decision. Also, it has provided a calculation regarding the cost driver
rates for various activities under the ABC system and the cost of each model of printer of
company under the activity based costing. The report has also conducted a profitability analysis
by calculating the gross profit and gross profit percentage per unit for both model as per the ABC
system. In addition to this, it has also provided recommendations to Smith for resolving the
ethical dilemma faced of altering the results derived with the use of ABC systems. At last, it has
also sated the technique to dispose the amount of over or under applied overhead costs with the
use of system of activity based costing.
Answer 1:
Product costing can be regarded as the process of allocating costs to the inventory and
production based on expenditure incurred during these processes while manufacturing of a
product. There is need for accurate estimation of the product cost to take important decisions for
improving the profitability position of a company by reduction in the operational costs. The
major goals that can be achieved by estimation of product costs are developing strategies for
reducing material cost, labor cost or the subcontractor cost. The major benefit of determination
of accurate product costing is achieving accuracy for keeping a track of operational expenses.
The use of product costing helps in assigning the cost to the value created by them for the
business. It also proves to be very useful in developing budgets by determination of overall
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expenses that will be involved in completion of a project. The development of budget helps in
assessing whether the various stages of a project are meeting the cost expectations and
identifying the variances easily. This helps in keeping a track of project cost and resolving the
costing issues in advance for ensuring successful completion of a project. The lack of accurate
product costing can lead to difficulty in analyzing the cash flows and determining the success of
a project (Maingi, 2013).
The determination of accurate product cost is very useful in making important decision
involving return realized on capital invested and estimating the profit to be achieved from an
action. For example, business managers adopt the use of absorption costing that involves
segregating the overall cost involved in production into different products manufactured.
Therefore, it can be said that there is high importance of estimating the accurate cost for taking
significant decisions in developing a new product line using methods for reduction in the
operational costs. It is required for controlling the expenses in current production process,
preventing the overruns of future jobs and developing a cost history for estimating the success of
a future product or service planning to be launched (Hansen, 2007).
The business managers at present are emphasizing on adopting the use of accurate
product methods as compared to the traditional method of costing. For example, management of
Beztec has adopted the sue of activity based costing for determination of overhead costs for its
product lines. The method of activity based costing helps in determination the accurate cost
incurred in developing a product by identifying the overall activities involved in production and
then allocating the cost based on actual consumption. The use of accurate product costing is
becoming important for business entities due to problems associated with the traditional costing
system that has been used by Beztec previously. The traditional cost methods do not seem to be
adequate in estimating the overhead costs involved in manufacturing of a product as it allocates
the cost based on volume such as total products manufactured, direct labor hours consumed or
number of machine hours involved. Therefore, the allocation of indirect costs that are not
incurred due to volume is not possible under the method of traditional costing system. This
weakness of the traditional costing system is causing the business entities such as Beztec to
adopt the use of accurate product costing methods (Emblemsvåg and Bras, 2012).
Answer 2:
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Calculation of overhead rate for each identified activity
The calculation of the overhead rate for each unit of activity involves identifying the total
cost of each activity and then dividing it by the total number of units of each activity to obtain
the overhead rate.
Calculation of overhead rate per quantity of each activity (Cost pool)
Activities
Identified Base of Allocation
Cost of each
activity
Number of
units
O/H rate per
unit
Soldering
number of solder
points
$
1,165,725.00 1766250
$
0.66
Shipments number of shipments
$
1,064,250.00 22500
$
47.30
Quality control
number of
inspections
$
1,534,500.00 87188
$
17.60
Purchase orders number of orders
$
1,176,120.00 213840
$
5.50
Machine power machine-hours
$
71,280.00 216000
$
0.33
Machine set-ups number of set-ups
$
928,125.00 33750
$
27.50
(Emblemsvåg and Bras, 2012)
Answer 3:
Calculation of cost of each model manufactured by the company through applying the
activity based costing approach
Application of activity based costing to calculate the cost of each model
Particulars Lexon Protox
Direct materials cost
$
5,491,200.00 $ 3,854,400.00
Direct Labour cost
$
475,200.00 $ 277,200.00
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Machine cost
$
3,801,600.00 $ 475,200.00
Total
$
9,768,000.00 $ 4,606,800.00
Production O/H Cost
Soldering
$
879,862.50 $ 285,862.50
Shipments
$
862,042.50 $ 202,207.50
Quality control
$
1,112,753.62 $ 421,746.38
Purchase orders
$
495,621.50 $ 680,498.50
Machine power
$
65,340.00 $ 5,940.00
Machine set-ups
$
495,000.00 $ 433,125.00
Selling and administrative O/H
cost
$
6,996,000.00 $ 1,613,700.00
Total
$
10,906,620.12 $ 3,643,079.88
Total Cost
$
20,674,620.12 $ 8,249,879.88
Per unit cost of each model
$
861.44 $ 1,374.98
(Hansen, 2007)
Note: For detailed calculation please refer to the excel sheet
Answer 4:
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Analyzing the profitability position of each model through calculating gross profit of each
model and gross profit percentage of each model using activity based costing approach
Profitability analysis of each model through using ABC
Particulars Lexon Protox
Total sales income
$
23,760,000.00 $ 7,524,000.00
Less: Cost of goods sold
Direct materials
$
5,491,200.00 $ 3,854,400.00
Direct Production Labor
$
475,200.00 $ 277,200.00
Machine
$
3,801,600.00 $ 475,200.00
Sub Total
$
9,768,000.00 $ 4,606,800.00
Less: Production Overhead
Cost
$
3,910,620.12 $ 2,029,379.88
Total COGS
$
13,678,620.12 $ 6,636,179.88
Gross Profit (Total Sales -
COGS)
$
10,081,379.88 $ 887,820.12
Total Sales Unit 24000 6000
Gross profit per unit
$
420.06 $ 147.97
Sales price per unit
$
990.00 $ 1,254.00
Gross profit percentage 42.43% 11.80%
(Bradtke, 2007).
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Answer 5:
Smith, the management accountant of Beztec, has advocated the use of activity-based
costing method for gathering the information related to overhead costs involved in each of its
product line of Protox and Lexon. This has been done as the use of traditional method of costing
is not proving to be adequate for identifying the overhead costs. As such, the initial product line
of Beztec, lexon, has not generated profitable results due to inadequate identification of the
indirect costs with the sue of traditional costing method. As such, Smith has emphasized on the
use of ABC system for identifying the overhead costs so that its new product line Proton
becomes profitable. The use of ABC system has depicted that the new product line of Beztec,
Protox, is also not profitable. Smith has depicted these results to Steven Kay, the CEO of the
company, and he has advised Smith to alter the results derived with the use of ABC system. This
is because Smith believes they cannot show these results to the headquarters as initially the
product line of Lexon was not profitable and now their new product line Protox has also depicted
negative costing results.
However, Smith has re-checked the results derived with the use of ABC system and have
found them to be accurate. As such, Smith is facing ethical dilemma for deciding the ways she
should respond to the suggestion of Kay as it would be unethical on her part to alter the results
derived with the use of ABC system according to APES 110 Code of Ethics. Accounting
Professional & Ethical Standards Board Limited (APESB) has stated that it’s the responsibility
of the accountancy professional to act in the direction of maximizing the public interest. As per
the code, an accounting professional need to give the professional judgment without any biasness
and should provide a fair view of the financial performance of an entity to its stakeholders. It is
the responsibility of accounting professional to apply the safeguards for eliminating the threats to
an acceptable level. Therefore, as per the code of ethics Smith has the responsibility of
presenting true and fair view of the financial results to the headquarters so that they can take
accurate decisions for its future growth and development. The manipulation of costing results
would be unethical on the part of Smith as it could lead to misleading the Board about its actual
financial position as well as can have a negative impact on its future growth prospects. As such,
it is advised to Smith to develop an understanding to Kay about the future implications of such
an alteration caused in the results produced by ABC system. The importance of depicting true
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result before the headquarters should be explained to Kay for taking significant decisions for
reducing the operating costs to make Protox profitable (APES 110 Code of Ethics for
Professional Accountants, 2010).
Answer 6:
The use of a predetermined overhead rate can result in over or under allocation of
overhead costs. This is because of the occurrence of variances due to difference between the
actual overhead incurred and the estimated overhead cost calculated based on a predetermined
overhead rate incurred during the manufacturing process. The predetermined overhead rate is
calculated based on estimated hours of labor or machine. However, the rate determined varies as
the actual hours of labor or machine varies at the end of production period. Therefore, such
variances can result in causing overhead or under applied overhead (CCH Australia Limited,
2009). The three ways that can be used for disposing the amount of over or under applied
overhead costs are as follows:
 Assigning the over or under applied overhead cost to work in progress, finished goods or
cost of goods sold
 Transferring the complete cost in over or under applied overhead to the cost of goods
sold
 Developing distinct account for over or under applied overhead cost and then transferring
it afterwards (Bhimani, 2006).
Conclusion
It can be stated from the analysis of the case study issues that has been carried out in this
report that determination of accurate product costs is of utmost significant for sustaining the
future growth prospects of a company. This is because it facilitates in taking accurate decision
relating to developing strategies for controlling and monitoring the overhead costs that is not
determined with the sue of traditional costing method. Beztec has also adopted the use of ABC
model for estimating the overhead cost of its new product line of Protox that is not possible with
the use of traditional method of costing. The differences resulting between the overhead cost
determined and that incurred can be used to calculate the overhead cost. It is also recommended
based on overall analysis of the case study issues that accounting professionals must adopt the
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use of techniques of accurate product costing to depict the accurate results to the management so
that they can take effective decisions regarding the future growth strategies of a company. APES
110 code of ethics provides guidance to the accounting professionals for maintaining integrity,
honesty and transparency in developing financial results to protect the interest of the
stakeholders.
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References
APES 110 Code of Ethics for Professional Accountants. 2010. [Online]. Available at:
https://www.apesb.org.au/uploads/standards/apesb_standards/standard1.pdf [Accessed on: 15
September 2018].
Bhimani, A. 2006. Contemporary Issues in Management Accounting. Oxford University Press.
Emblemsvåg, J. and Bras, B. 2012. Activity-Based Cost and Environmental Management: A
Different Approach to ISO 14000 Compliance. Springer Science & Business Media.
Maingi, J. 2013. Advantages & Disadvantages of activity based costing with reference to
economic value addition. GRIN Verlag.
Hansen, D. 2007. Cost Management: Accounting and Control. Cengage Learning.
Bradtke, D. 2007. Activity-Based-Costing. GRIN Verlag.
CCH Australia Limited. 2009. Australian Master Accountants Guide. CCH Australia Limited.
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