Arclight County Daycare Center Case

2. Examine the costs listed in Table 2. a. Identify the direct costs associated with each service or program. for a) I was thinking the answer would be food expense, wages and supplies/art. my reasoning is the employees are being payed to provide a service to the children (childcare) but they feed the children breakfast, lunch and two snacks a day plus they do art projects with them. Would food and supplies/art also be correct?

FOOD COSTS - The center provides food for ACDC patrons, but it does not charge a separate fee to recover the cost of snacks or meals.The cost of food is included as part of the tuition fee. In addition, the employees are required to remain on-site during the lunch hour in order to maintain the staff-to-child ratio, so their meals are also provided by the center. All children and classroom staff receive breakfast, lunch, and two snacks a day. b. Which costs would be organization-sustaining costs? Provide an argument for or against assigning these costs to services or programs. for b) I was thinking the answer would be depreciation, building insurance, interest expense the argument is ACDC and the tenants both use the facility so they all should share the cost of obtaining the building

OCCUPANCY COSTS Building: Because ACDC worked in conjunction with the local school district and the Head Start program prior to constructing the new facility, the building was purposely built larger than the space required by the day care only. Consequently, when it came time to analyze costs, it was the boards opinion that the Head Start and school district programs should share in the costs of the loan and building (i.e., interest expense and depreciation).

Table 2 Operating Expenses Accounting &legal Advertising Bank charges Continuing education Depreciation Food expense Ins. - Bldg/property Ins. -Officerbond Ins.-Gen. liability Ins. - Workers comp Interest expense Payroll - wages* Payroll-taxes* Repairs & maintenance Sanitation Service Supplies - Cleaning Supplies - Program/art Supplies - Office Telephone Utilities Water/sewer TOTAL EXPENSES $ 900 150 35 450 11,800 5,500 860 120 2,190 400 13,085 109,500 9,475 5,950 2,435 365 3,675 2,900 1,060 4,000 1,100 $ 175,950 Exhibit 1 Department of Human Services Excerpt from Childcare Regulations Staffratio. The staff-to-child ratioshallbe as follows: Age of Children Minimum Ratio of Staff to Children Two weeks to two years One to every 4 children Two years Onetoevery 6 children Three years Onetoevery 8 children Four years One to every 12 children Five yearstoten years One to every 15 children Ten years and over One to every 20 children Source: Department of Human Services.2008. Child Care Centers and Preschools Licensing Standards and Procedures. Comm. 204, August to raise the childcare rates, for fearthat doing so would deter people from patronizing the facility. On the other hand, the board was not at all positive that the existing rates would cover the costs associated with the new building. In addition, ACDC was becoming a landlord, and this created additional concerns forthe board. ACDC agreed to lease floor space or rooms to the Head Start program and school district, perform facility maintenance, and provideutilities. ACDCdid not provide any furniture or fixtures. The board's main question: How much rent should ACDC charge the tenants? The ACDC board researched the lease rates charged to the area's commercial retail facilities and determined that $20 per 100 square feet was the going rate and decided to charge their tenants at this rate. Because the board members were not experienced in making financial and capital expenditure decisions, they did not fully consider that this rate was for floor space only; commercial leaseholders typically pay all of their own utilities, sanitation, and maintenance fees. Thus, the board had inadvertently created the potential for a future financial crisis for ACDC. Selected post-construction revenues, costs, and operational information for ACDC follow. In addition to labor, other costs that impact day care center operations include occupancy costs, food, insurance, supplies, and programming expenses. Occupancy and food costs are also highly influenced by the Department of Human Services, as a facility must provide a minimum amount of space per child (based on age) and follow specific nutritional guidelines in preparing meals and snacks. ACDC COST STRUCTURE ACDC PLANNING AND OPERATIONS LABOR COSTS ACDC maintains a staff of employees assigned to each age- level classroom that is in compliance with DHS guidelines. The staff schedule is rotated throughout the week so that the staff-to-child ratio is always maintained whileno one employee works more than 40 hours per week. The employer's labor costs include the wages, FICA (7.65%), and the SUTA rate (1%). The facility does not offer any other employee benefits. (See Table 1) Table 1 Payroll Detail About five years into operations, a new board of directors was appointed and strategic objectives were developed. As its first strategic actions, the board replaced the Center's administration and developed specific operating procedures to keep the facility afloat financially. In order to eliminate the community's negative perceptions of institutionalized childcare, the board decided to move the center to a higher- quality facility. After further study, the board concluded that constructing a new facility would be the best option for providing quality childcare in an attractive and safe environment. In addition, the new building would house the community's federally-funded Head Start program and the local school district's handicapped pre-school program, as these programs were housed in inadequate facilities. Thus, the ACDC board spearheaded the construction of an 8,000-square-foot building that would be owned by ACDC, Inc., and funded in part by a federal grant and a loan from the local USDA Rural Development Office. Duringtheplanningand constructionofthenewfacility but prior to its opening, the ACDC board had to resolve a number of issues. First and foremost, the board did not want Administrative Kitchen Infant care Toddler care Pre-K care Totals Wages $ 13,750 9,000 19,250 38,500 29,000 $109,500 Taxes $ 1,190 780 1,665 3,330 2,510 $ 9,475 Total Payroll $ 14,940 9,780 20,915 41,830 31,510 $118,975 Exhibit 2 Excerpt from Building Lease FOOD COSTS The center provides food for ACDC patrons, but it does not charge a separate fee to recover the cost of snacks or meals. The cost of food is included as part of the tuition fee. In addition, the employees are required to remain on-site during the lunch hour in orderto maintain the staff-to-child ratio, so their meals are also provided by the center. All children and classroom staff receive breakfast, lunch, and two snacks a day. ITIS AGREED this 1st day of July, 20xx, by and between Appaloosa County Day Care Center, Inc., hereinafter referred to as Landlord; and Head Start, hereinafter referred to as Tenants: That the Landlord hereby leases to the Tenants and the Tenants hereby lease from the Landlord the following premises situated in Appaloosa County, USA, to wit: Three rooms and an office (2650 sq.ft.) in the "ACDC" daycare centeras specified in the building plans, in consideration of the mutual promises of the parties herein and upon the terms, provisions, and conditions following: 1. LEASE PERIOD. The term of this lease shall be for a period of twelve months starting July 1, 20xx. 2. RENT. Tenants shall pay rentalforthe period asfollows; $530.00 on the 1st day of July and $530.00 on the 1st day of each month thereafter during the lease period; saidrental thusatall timesto be paidinadvanceforthe month. The Landlord will pay all utilities, maintenance, and custodial services on the building. The Landlord reserves all remaining rooms for their use or lease. OCCUPANCY COSTS Building: Because ACDC worked in conjunction with the local school district and the Head Start program prior to constructing the new facility, the building was purposely built larger than the space required by the day care only. Consequently, when it came time to analyze costs, it was the board's opinion that the Head Start and school district programs should share in the costs ofthe loan and building (i.e., interest expense and depreciation). Utilities: When ACDC designed the facility, it considered the needs of the tenants and designed their rooms accordingly. The board did not have the foresight, however, to set up the tenants' rooms with theirown gas, electric, and water meters. Therefore, all of the utilities are measured through common meters, and ACDC pays the bills for the entire facility. The only exception to this is the telephone expense, as each program contracts and pays for its own phone service. See Exhibit 2 for details. OTHER OPERATING COSTS A complete listing of the organization's operating expenses is shown in Table 2. The costs not previously discussed include administrative or program costs such as accounting, advertising, continuing education, and supplies. These costs are attributable solely to ACDC. THE ACCOUNTANT'S CHALLENGE Maintenance, etc.: As specified in the lease agreement, ACDC pays the entire building's expenses related to maintenance, cleaning supplies, and sanitation. See Exhibit 2 for details. INSURANCE COSTS ACDC has four different insurance costs: property, general liability, officer's bond, and worker's compensation. The property insurance covers the entire building. The general liability insurance covers the children and staff in the ACDC program and helps protect the center against accidents or claims against the staff. The tenants must carry their own liability insurance. The bond insurance on the officers covers the center for any inappropriate handling of financial matters by the board of directors. Finally, the worker's compensation insurance covers the administration and ACDC employees for work-related injuries. Rather than addressing the revenue and cost issues that aroseduring the facility construction, the board took a "wait and see" position and opted to review both the childcare rates and rental rates after the new facility had begun operations. After the first year of building occupancy, the ACDC board wanted to evaluate the costs and revenues associated with each of the day care's and tenants programs. You are the center's accountant (and the only individual on the board with significant financial knowledge), so the other board members have asked you to explain why the center is running at a loss. You indicate that you believe that both the childcarerates and rentalrates wereset without establishing correlation to the costs that they were intended to cover. You also state that you want to take the time to complete athorough cost and profitability analysis oftheday care's childcare programs and tenant agreements. Inordertodoso, you decide to implement an activity-based costing system to allocate costs to the various programs and tenants. Tables 1-3 provide revenue and expense information for the first year of operations at the new facility. Tables 4-6 provide additional information useful for the cost analysis and decision making. Table 4 Hourly Childcare Rates Infant care Toddler care Pre-K care $ 2.00 1.75 1.75 Table 2 Operating Expenses Table 5 Square Footage ACDC School district Head Start TOTAL 3,600 1,750 2,650 8,000 Accounting & legal Advertising Bank charges Continuing education Depreciation Food expense Ins. - Bldg/property Ins. -Officerbond Ins. -Gen. liability Ins. -Workers comp Interest expense Payroll - wages* Payroll-taxes* Repairs & maintenance Sanitation Service Supplies - Cleaning Supplies - Program/art Supplies - Office Telephone Utilities Water/sewer TOTAL EXPENSES *See detailin Table 1 $ 900 150 35 450 11,800 5,500 860 120 2,190 400 13,085 109,500 9,475 5,950 2,435 365 3,675 2,900 1,060 4,000 1,100 $ 175,950 ACTIVITY-BASED COSTING-A QUICK REVIEW Activity-based costing (ABC) is used frequently in manufacturing settings because it typically improves product cost information. ABC replaces arbitrary cost allocations by first assigning costs to activities and then to goods based on how much each good uses the activities. The concepts of ABCcan also be applied to service-based organizations where tangible products do not exist. In a service organization, costs are assigned to the various activities performed, cost drivers that measure the activities performed are identified, cost driver rates are calculated for each activity, and the resulting rates are used to assign activity costs to the types of services provided. This process reflects the causal relationship between the activity, the costs created by the activity, and the assignment of these costs to services. Table 3 Revenues Tuition Infant care Toddler care Pre-K care $ 28,530 68,710 62,650 Rent School district Head Start TOTAL 4,200 6,360 $ 170,450 IDENTIFICATION OF COST DRIVERS There are many activities present in a day care setting that create or drive costs. An example is the preparing and serving of food. It is relatively easy to assign many of the costs, such as food and direct labor, to this activity. It is more difficult, however, to assign costs to many of the most significant activities that occur regularly in a day care. These activities (like reading a book, playing a game, or teaching a skill) are key components of the service being provided-childcare- but they are difficult to measure. Therefore, identifying each of the individual activities that drive cost and then assigning cost to the daycare programs based on those activities may be cost prohibitive. For that reason, ACDC places activities into broad category classifications. When considering drivers that would be cost effective yet causally related to the costs being incurred, population or a population subset becomes the driver identified for many of the activity cost pools. Population may be measured in terms of enrollment, class size, or number of staff. See Table 6. Table 6 Population Total Total number of students enrolled Total staff employed Average daily attendance of students Average daily average staffing of daily employees population ACDC Administrator 1 1 1 Kitchen 1 1 1 Infant care 11 3 8 2 10 Toddler care 35 5 22 4 26 Pre-K care 32 4 20 3 23 School district 12 6 18 40 6 46 Head Start Total 78 14 102 23 125 QUESTIONS 1. Identify the services or programs to be included in the cost and profitability analysis. 2. Examine the costs listed in Table 2. a. Identify the direct costs associated with each service or program. b. Which costs would be organization-sustaining costs? Provide an argument for or against assigning these costs to services or programs. 3. Identify the broad activity categories and create cost pools by assigning the costs from Table 2 to the pools. 4. Identify the cost drivers that have a causal relationship to the activity cost pools created in Question3. 5. Calculate the activity or cost-driver rates for each cost pool. Note: You should develop rates that will allocate costs to ACDC programs and/ortenants only. Youshould not allocate any costs back to general administration. 6. Using the services or programs identified in Question 1, determine service or program revenues, assign the costs to the service or programs, and calculate service or program profitability.Aspreadsheet may be helpful with this task. 7. Based upon your calculations in Question 6, which services or programs are operating successfully? What appears to be the determining factor in whether the service or program is profitable? 8. Discuss at least three alternatives forimprovingthe overall profitability of the daycare facility Table 2 Operating Expenses Accounting &legal Advertising Bank charges Continuing education Depreciation Food expense Ins. - Bldg/property Ins. -Officerbond Ins.-Gen. liability Ins. - Workers comp Interest expense Payroll - wages* Payroll-taxes* Repairs & maintenance Sanitation Service Supplies - Cleaning Supplies - Program/art Supplies - Office Telephone Utilities Water/sewer TOTAL EXPENSES $ 900 150 35 450 11,800 5,500 860 120 2,190 400 13,085 109,500 9,475 5,950 2,435 365 3,675 2,900 1,060 4,000 1,100 $ 175,950 Exhibit 1 Department of Human Services Excerpt from Childcare Regulations Staffratio. The staff-to-child ratioshallbe as follows: Age of Children Minimum Ratio of Staff to Children Two weeks to two years One to every 4 children Two years Onetoevery 6 children Three years Onetoevery 8 children Four years One to every 12 children Five yearstoten years One to every 15 children Ten years and over One to every 20 children Source: Department of Human Services.2008. Child Care Centers and Preschools Licensing Standards and Procedures. Comm. 204, August to raise the childcare rates, for fearthat doing so would deter people from patronizing the facility. On the other hand, the board was not at all positive that the existing rates would cover the costs associated with the new building. In addition, ACDC was becoming a landlord, and this created additional concerns forthe board. ACDC agreed to lease floor space or rooms to the Head Start program and school district, perform facility maintenance, and provideutilities. ACDCdid not provide any furniture or fixtures. The board's main question: How much rent should ACDC charge the tenants? The ACDC board researched the lease rates charged to the area's commercial retail facilities and determined that $20 per 100 square feet was the going rate and decided to charge their tenants at this rate. Because the board members were not experienced in making financial and capital expenditure decisions, they did not fully consider that this rate was for floor space only; commercial leaseholders typically pay all of their own utilities, sanitation, and maintenance fees. Thus, the board had inadvertently created the potential for a future financial crisis for ACDC. Selected post-construction revenues, costs, and operational information for ACDC follow. In addition to labor, other costs that impact day care center operations include occupancy costs, food, insurance, supplies, and programming expenses. Occupancy and food costs are also highly influenced by the Department of Human Services, as a facility must provide a minimum amount of space per child (based on age) and follow specific nutritional guidelines in preparing meals and snacks. ACDC COST STRUCTURE ACDC PLANNING AND OPERATIONS LABOR COSTS ACDC maintains a staff of employees assigned to each age- level classroom that is in compliance with DHS guidelines. The staff schedule is rotated throughout the week so that the staff-to-child ratio is always maintained whileno one employee works more than 40 hours per week. The employer's labor costs include the wages, FICA (7.65%), and the SUTA rate (1%). The facility does not offer any other employee benefits. (See Table 1) Table 1 Payroll Detail About five years into operations, a new board of directors was appointed and strategic objectives were developed. As its first strategic actions, the board replaced the Center's administration and developed specific operating procedures to keep the facility afloat financially. In order to eliminate the community's negative perceptions of institutionalized childcare, the board decided to move the center to a higher- quality facility. After further study, the board concluded that constructing a new facility would be the best option for providing quality childcare in an attractive and safe environment. In addition, the new building would house the community's federally-funded Head Start program and the local school district's handicapped pre-school program, as these programs were housed in inadequate facilities. Thus, the ACDC board spearheaded the construction of an 8,000-square-foot building that would be owned by ACDC, Inc., and funded in part by a federal grant and a loan from the local USDA Rural Development Office. Duringtheplanningand constructionofthenewfacility but prior to its opening, the ACDC board had to resolve a number of issues. First and foremost, the board did not want Administrative Kitchen Infant care Toddler care Pre-K care Totals Wages $ 13,750 9,000 19,250 38,500 29,000 $109,500 Taxes $ 1,190 780 1,665 3,330 2,510 $ 9,475 Total Payroll $ 14,940 9,780 20,915 41,830 31,510 $118,975 Exhibit 2 Excerpt from Building Lease FOOD COSTS The center provides food for ACDC patrons, but it does not charge a separate fee to recover the cost of snacks or meals. The cost of food is included as part of the tuition fee. In addition, the employees are required to remain on-site during the lunch hour in orderto maintain the staff-to-child ratio, so their meals are also provided by the center. All children and classroom staff receive breakfast, lunch, and two snacks a day. ITIS AGREED this 1st day of July, 20xx, by and between Appaloosa County Day Care Center, Inc., hereinafter referred to as Landlord; and Head Start, hereinafter referred to as Tenants: That the Landlord hereby leases to the Tenants and the Tenants hereby lease from the Landlord the following premises situated in Appaloosa County, USA, to wit: Three rooms and an office (2650 sq.ft.) in the "ACDC" daycare centeras specified in the building plans, in consideration of the mutual promises of the parties herein and upon the terms, provisions, and conditions following: 1. LEASE PERIOD. The term of this lease shall be for a period of twelve months starting July 1, 20xx. 2. RENT. Tenants shall pay rentalforthe period asfollows; $530.00 on the 1st day of July and $530.00 on the 1st day of each month thereafter during the lease period; saidrental thusatall timesto be paidinadvanceforthe month. The Landlord will pay all utilities, maintenance, and custodial services on the building. The Landlord reserves all remaining rooms for their use or lease. OCCUPANCY COSTS Building: Because ACDC worked in conjunction with the local school district and the Head Start program prior to constructing the new facility, the building was purposely built larger than the space required by the day care only. Consequently, when it came time to analyze costs, it was the board's opinion that the Head Start and school district programs should share in the costs ofthe loan and building (i.e., interest expense and depreciation). Utilities: When ACDC designed the facility, it considered the needs of the tenants and designed their rooms accordingly. The board did not have the foresight, however, to set up the tenants' rooms with theirown gas, electric, and water meters. Therefore, all of the utilities are measured through common meters, and ACDC pays the bills for the entire facility. The only exception to this is the telephone expense, as each program contracts and pays for its own phone service. See Exhibit 2 for details. OTHER OPERATING COSTS A complete listing of the organization's operating expenses is shown in Table 2. The costs not previously discussed include administrative or program costs such as accounting, advertising, continuing education, and supplies. These costs are attributable solely to ACDC. THE ACCOUNTANT'S CHALLENGE Maintenance, etc.: As specified in the lease agreement, ACDC pays the entire building's expenses related to maintenance, cleaning supplies, and sanitation. See Exhibit 2 for details. INSURANCE COSTS ACDC has four different insurance costs: property, general liability, officer's bond, and worker's compensation. The property insurance covers the entire building. The general liability insurance covers the children and staff in the ACDC program and helps protect the center against accidents or claims against the staff. The tenants must carry their own liability insurance. The bond insurance on the officers covers the center for any inappropriate handling of financial matters by the board of directors. Finally, the worker's compensation insurance covers the administration and ACDC employees for work-related injuries. Rather than addressing the revenue and cost issues that aroseduring the facility construction, the board took a "wait and see" position and opted to review both the childcare rates and rental rates after the new facility had begun operations. After the first year of building occupancy, the ACDC board wanted to evaluate the costs and revenues associated with each of the day care's and tenants programs. You are the center's accountant (and the only individual on the board with significant financial knowledge), so the other board members have asked you to explain why the center is running at a loss. You indicate that you believe that both the childcarerates and rentalrates wereset without establishing correlation to the costs that they were intended to cover. You also state that you want to take the time to complete athorough cost and profitability analysis oftheday care's childcare programs and tenant agreements. Inordertodoso, you decide to implement an activity-based costing system to allocate costs to the various programs and tenants. Tables 1-3 provide revenue and expense information for the first year of operations at the new facility. Tables 4-6 provide additional information useful for the cost analysis and decision making. Table 4 Hourly Childcare Rates Infant care Toddler care Pre-K care $ 2.00 1.75 1.75 Table 2 Operating Expenses Table 5 Square Footage ACDC School district Head Start TOTAL 3,600 1,750 2,650 8,000 Accounting & legal Advertising Bank charges Continuing education Depreciation Food expense Ins. - Bldg/property Ins. -Officerbond Ins. -Gen. liability Ins. -Workers comp Interest expense Payroll - wages* Payroll-taxes* Repairs & maintenance Sanitation Service Supplies - Cleaning Supplies - Program/art Supplies - Office Telephone Utilities Water/sewer TOTAL EXPENSES *See detailin Table 1 $ 900 150 35 450 11,800 5,500 860 120 2,190 400 13,085 109,500 9,475 5,950 2,435 365 3,675 2,900 1,060 4,000 1,100 $ 175,950 ACTIVITY-BASED COSTING-A QUICK REVIEW Activity-based costing (ABC) is used frequently in manufacturing settings because it typically improves product cost information. ABC replaces arbitrary cost allocations by first assigning costs to activities and then to goods based on how much each good uses the activities. The concepts of ABCcan also be applied to service-based organizations where tangible products do not exist. In a service organization, costs are assigned to the various activities performed, cost drivers that measure the activities performed are identified, cost driver rates are calculated for each activity, and the resulting rates are used to assign activity costs to the types of services provided. This process reflects the causal relationship between the activity, the costs created by the activity, and the assignment of these costs to services. Table 3 Revenues Tuition Infant care Toddler care Pre-K care $ 28,530 68,710 62,650 Rent School district Head Start TOTAL 4,200 6,360 $ 170,450 IDENTIFICATION OF COST DRIVERS There are many activities present in a day care setting that create or drive costs. An example is the preparing and serving of food. It is relatively easy to assign many of the costs, such as food and direct labor, to this activity. It is more difficult, however, to assign costs to many of the most significant activities that occur regularly in a day care. These activities (like reading a book, playing a game, or teaching a skill) are key components of the service being provided-childcare- but they are difficult to measure. Therefore, identifying each of the individual activities that drive cost and then assigning cost to the daycare programs based on those activities may be cost prohibitive. For that reason, ACDC places activities into broad category classifications. When considering drivers that would be cost effective yet causally related to the costs being incurred, population or a population subset becomes the driver identified for many of the activity cost pools. Population may be measured in terms of enrollment, class size, or number of staff. See Table 6. Table 6 Population Total Total number of students enrolled Total staff employed Average daily attendance of students Average daily average staffing of daily employees population ACDC Administrator 1 1 1 Kitchen 1 1 1 Infant care 11 3 8 2 10 Toddler care 35 5 22 4 26 Pre-K care 32 4 20 3 23 School district 12 6 18 40 6 46 Head Start Total 78 14 102 23 125 QUESTIONS 1. Identify the services or programs to be included in the cost and profitability analysis. 2. Examine the costs listed in Table 2. a. Identify the direct costs associated with each service or program. b. Which costs would be organization-sustaining costs? Provide an argument for or against assigning these costs to services or programs. 3. Identify the broad activity categories and create cost pools by assigning the costs from Table 2 to the pools. 4. Identify the cost drivers that have a causal relationship to the activity cost pools created in Question3. 5. Calculate the activity or cost-driver rates for each cost pool. Note: You should develop rates that will allocate costs to ACDC programs and/ortenants only. Youshould not allocate any costs back to general administration. 6. Using the services or programs identified in Question 1, determine service or program revenues, assign the costs to the service or programs, and calculate service or program profitability.Aspreadsheet may be helpful with this task. 7. Based upon your calculations in Question 6, which services or programs are operating successfully? What appears to be the determining factor in whether the service or program is profitable? 8. Discuss at least three alternatives forimprovingthe overall profitability of the daycare facility