Performance Management: Cost Absorption, Sensitivity Analysis, Target Costing

PERFORMANCE
MANAGEMENT

TABLE OF CONTENTS
TABLE OF CONTENTS................................................................................................................2
QUESTION 1..................................................................................................................................1
a) Cost per unit absorbing the overheads on basis of the labour hours.......................................1
b) Cost per unit absorbing the overheads on basis of Activity Based Costing Approach...........1
c) Evaluation of the results obtained in the above two techniques..............................................2
d) Use of Sensitivity analysis helping the managers to cope the uncertainties...........................3
QUESTION 2..................................................................................................................................4
(a) Computation of variance........................................................................................................4
(b) Problems with the current system of calculating and reporting variances.............................5
QUESTION 3..................................................................................................................................6
(a) Deriving target costing steps..................................................................................................6
(b) Application at C Co................................................................................................................6
QUESTION 4..................................................................................................................................7
Zero based budgeting and the Incremental Budgeting is different from each other and it
provides optimal solution for the perfect planning between them..............................................7
REFERENCES..............................................................................................................................10

QUESTION 1
a) Cost per unit absorbing the overheads on basis of the labour hours.
Cost Statement
Lipstick Lipbalm Lipgloss
Production (units) 30000 35000 3000
Sales 22 26 24
Material cost 5 10 10
Labour Hours 15 10 10
Overhead costs on labour
hours 3.2857 1.8776 21.9048
Profit -1.2857 4.1224 -17.9048
Calculation of Over-
heads on labour hours
Setup costs 1.7143 0.9796 11.4286
(120000*3/7)/
30000
(120000*2/7)/
35000
(120000*2/7)/
3000
Receiving 0.4286 0.2449 2.8571
(30000*3/7)/
30000
(30000*2/7)/
35000
(30000*2/7)/
3000
Despatch 0.2143 0.1224 1.4286
(15000*3/7)/
30000
(15000*2/7)/
35000
(15000*2/7)/
3000
Machining 0.9286 0.5306 6.1905
(65000*3/7)/
30000
(65000*2/7)/
35000
(65000*2/7)/
3000
Total overheads cost 3.2857 1.8776 21.9048
b) Cost per unit absorbing the overheads on basis of Activity Based Costing Approach.
Cost Statement
Lipstick Lipbalm Lipgloss
Production (units) 30000 35000 3000
Sales 22 26 24
Material cost 5 10 10
Labour Hours 15 10 10
Overhead cost as per ABC 2.83 2.99 1.85
1

Profit -0.827 3.013 2.148
Calculation of cost per
unit using overhead on ac-
tivity based costing
Overheads
Setup costs 120000
Receiving 30000
Despatch 15000
Machining 65000
Lipstick Lipbalm Lipgloss
Machine hours per unit 4 4 4
Number of setups 10 14 1
Number of deliveries re-
ceived 10 10 2
Number of orders
despatched 20 20 10
Setup cost 40000 40000 40000
Receiving 12000 16800 1200
Despatch 6818.18 6818.18 1363.64
Machining 26000 26000 13000
Lipstick Lipbalm Lipgloss
Production (units) 30000 35000 3000
Setup cost 1.33 1.33 1.33
Receiving 0.4 0.56 0.04
Despatch 0.227 0.227 0.045
Machining 0.867 0.867 0.433
Total overhead cost per
unit 2.83 2.99 1.85
c) Evaluation of the results obtained in the above two techniques.
Overhead absorption is described as allotment of the overheads to cost units. After
determining the amounts of overheads on pre-determined basis for cost centre next step is of
charging them to the production. It involves using cost centre and of application of the overheads
to products passing from the cost centre. Application of the overheads is known as absorption
2