Chapters 510

Metcalf Furniture Corporation produces sofas, recliners, and lounge chairs. Metcalf is located in a medium-sized community in the northwestern part of the United States. It is a major employer in the community. In fact, the economic well-being of the community is tied very strongly to Metcalf. Metcalf operates a sawmill, a fabric plant, and a furniture plant in the same community.

The sawmill buys logs from independent producers. The sawmill then processes the logs into four grades of lumber: firsts and seconds, No. 1 common, No. 2 common, and No. 3 common. All costs incurred in the mill are common to the four grades of lumber. All four grades of lumber are used by the furniture plant. The mill transfers everything it produces to the furniture plant, and the grades are transferred at cost. Trucks are used to move the lumber from the mill to the furniture plant. Although no outside sales exist, the mill could sell to external customers, and the selling prices of the four grades are known.

The fabric plant is responsible for producing the fabric that is used by the furniture plant. To produce three totally different fabrics (identified by fabric ID codes: FB60, FB70, and FB80, respectively), the plant has three separate production operationsone for each fabric. Thus, production of all three fabrics occurs at the same time in different locations in the plant. Each fabrics production operation has two processes: the weaving and pattern process and the coloring and bolting process. In the weaving and pattern process, yarn is used to create yards of fabric with different designs. In the next process, the fabric is dyed, cut into 25-yard sections, and wrapped around cardboard rods to form 25-yard bolts. The bolts are transported by forklift to the furniture plants Receiving Department. All of the output of the fabric plant is used by the furniture plant (to produce the sofas and chairs). For accounting purposes, the fabric is transferred at cost to the furniture plant.

The furniture plant produces orders for customers on a special-order basis. The customers specify the quantity, style, fabric, lumber grade, and pattern. Typically, jobs are large (involving at least 500 units). The plant has two production departments: Cutting and Assembly. In the Cutting Department, the fabric and wooden frame components are sized and cut. Other components are purchased from external suppliers and are removed from stores as needed for assembly. After the fabric and wooden components are finished for the entire job, they are moved to the Assembly Department. The Assembly Department takes the individual components and assembles the sofas (or chairs).

Metcalf Furniture has been in business for over two decades and has a good reputation. However, during the past five years, Metcalf experienced eroding profits and declining sales. Bids were increasingly lost (even aggressive bids) on the more popular models. Yet, the company was winning bids on some of the more-difficult-to-produce items. Sean Williams, the owner and manager, was frustrated. He simply couldnt understand how some of his competitors could sell for such low prices. On a common sofa job involving 500 units, Metcalfs bids were running $25 per unit or $12,500 per job more than the winning bids (on average). Yet, on the more difficult items, Metcalfs bids were running about $60 per unit less than the next closest bid. Debbie Lochner, vice president of finance, was assigned the task of preparing a cost analysis of the companys product lines. Sean wanted to know if the companys costs were excessive. Perhaps the company was being wasteful, and it was simply costing more to produce furniture than it was costing its competitors.

Debbie prepared herself by reading recent literature on cost management and product costing and attending several conferences that explored the same issues. She then reviewed the costing procedures of the companys mill and two plants and did a preliminary assessment of their soundness. The production costs of the mill were common to all lumber grades and were assigned using the physical units method. Since the output and production costs were fairly uniform throughout the year, the mill used an actual costing system. Although Debbie had no difficulty with actual costing, she decided to explore the effects of using the sales-value-at-split-off method. Thus, cost and production data for the mill were gathered so that an analysis could be conducted. The two plants used normal costing systems. The fabric plant used process costing, and the furniture plant used job-order costing. Both plants used plantwide overhead rates based on direct labor hours. Based on her initial reviews, she concluded that the costing procedures for the fabric plant were satisfactory. Essentially, there was no evidence of product diversity. A statistical analysis revealed that about 90 percent of the variability in the plants overhead cost could be explained by direct labor hours. Thus, the use of a plantwide overhead rate based on direct labor hours seemed justified. What did concern her, though, was the material waste that she observed in the plant. Maybe a standard cost system would be useful for increasing the overall cost efficiency of the plant. Consequently, as part of her report to Sean, she decided to include a description of the fabric plants costing proceduresat least for one of the fabric types. She also decided to develop a standard cost sheet for the chosen fabric. The furniture plant, however, was a more difficult matter. Product diversity was present and could be causing some distortions in product costs. Furthermore, statistical analysis revealed that only about 40 percent of the variability in overhead cost was explained by the direct labor hours. She decided that additional analysis was needed so that a sound product costing method could be recommended. One possibility would be to increase the number of overhead rates. Thus, she decided to include departmental data so that the effect of moving to departmental rates could be assessed. Finally, she also wanted to explore the possibility of converting the sawmill and fabric plant into profit centers and changing the existing transfer pricing policy.

With the cooperation of the cost accounting manager for the mill and each plants controller, she gathered the following data for last year:

Sawmill:

Joint manufacturing costs: $900,000

Quantity Produced Price at Split-Off

Grade (Board Feet) (per 1,000 Board Ft.)

Firsts and seconds 1,500,000 $300

No. 1 common 3,000,000 225

No. 2 common 1,875,000 140

No. 3 common 1,125,000 100

Total 7,500,000

Fabric Plant:

Budgeted overhead: $1,200,000 (50% fixed)

Practical volume (direct labor hours): 120,000 hours

Actual overhead: $1,150,000 (50% fixed)

Actual hours worked:

Weaving and Pattern Coloring and Bolting Total

Fabric FB60 20,000 12,000 32,000

Fabric FB70 28,000 14,000 42,000

Fabric FB80 26,000 18,000 44,000

Total 74,000 44,000 118,000

Departmental data on Fabric FB70 (actual costs and actual outcomes):

Weaving and Pattern Coloring and Bolting

Beginning inventories:

Units* 20,000 400

Costs:

Transferred in $0 $100,000

Materials $80,000 $8,000

Labor $18,000 $6,600

Overhead $22,000 $9,000

Current production:

Units started 80,000 ?

Units transferred out 80,000 3,200

Costs:

Transferred in $0 ?

Materials $320,000 $82,000

Labor $208,000 $99,400

Overhead ? ?

Percentage completion:

Beginning inventory 30% 40%

Ending inventory 40% 50%

*Units are measured in yards for the Weaving and Pattern Department and in bolts for the Coloring and Bolting Department._Note: With the exception of the cardboard bolt rods, materials are added at the beginning of each process. The cost of the rods is relatively insignificant and is included in overhead.

Proposed standard cost sheet for Fabric FB70 (for the Coloring and Bolting Department only):

Transferred in materials (25 yards @ $10) $250.00

Other materials (100 ounces @ $0.20) 20.00

Labor (3.1 hours @ $8) 24.80

Fixed overhead (3.1 hours @ $5) 15.50

Variable overhead (3.1 hours @ $5) 15.50

Standard cost per unit $325.80

Furniture Plant:

Departmental data (budgeted):

Producing

Service Departments Departments

General

Receiving Power Maintenance Factory Cutting Assembly

Overhead $450,000 $600,000 $300,000 $525,000 $750,000 $375,000

Machine hours 60,000 15,000

Receiving orders 13,500 9,000

Square feet 1,000 5,000 4,000 15,000 10,000

Direct labor hours 50,000 200,000

After some discussion with the furniture plant controller, Debbie decided to use machine hours to calculate the overhead rate for the Cutting Department and direct labor hours for the Assembly Department rate (the Cutting Department was more automated than the Assembly Department). As part of her report, she wanted to compare the effects of plantwide rates and departmental rates on the cost of jobs. She wanted to know if overhead costing could be the source of the pricing problems the company was experiencing.

To assess the effect of the different overhead assignment procedures, Debbie decided to examine two prospective jobs. One job, Job A500, could produce 500 sofas, using a frequently requested style and fabric FB70. Bids on this type of job were being lost more frequently to competitors. The second job, Job B75, would produce 75 specially designed recliners. This job involved a new design and was more difficult for the workers to build. It involved some special cutting requirements and an unfamiliar assembly. Recently, the company seemed to be winning more bids on jobs of this type. To compute the costs of the two jobs, Debbie assembled the following information on the two jobs:

Job A500:

Direct materials:

Fabric FB70 180 bolts @ $350

Lumber (No. 1 common) 20,000 board feet @ $0.12

Other components $26,600

Direct labor:

Cutting Department 400 hours @ $10

Assembly Department 1,600 hours @ $8.75

Machine time:

Cutting Department 350 machine hours

Assembly Department 50 machine hours

Job B75:

Direct materials:

Fabric FB70 26 yards @ $350

Lumber (first and seconds) 2,200 board feet @ $0.12

Other components $3,236

Direct labor:

Cutting Department 70 hours @ $10

Assembly Department 240 hours @ $8.75

Machine time:

Cutting Department 90 machine hours

Assembly Department 15 machine hours

Required:

4. Using the FIFO method calculate the cost per bolt for Fabric FB70.