Fundamentals of Cost Accounting 3rd Edition by William N. Lanen, Shannon W. Anderson, Michael Maher

Exercise 39

Product Costing: Ethical Issues

Refer to the data in Exercise 6-31. The president of Tiger Furnishings is confused about the differences in costs that result from using direct labor costs and machine-hours.

Required

a. Explain why the two product costs are different.

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b. How would you respond to the president when asked to recommend one allocation base or the other?

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c. The president says to choose the allocation base that results in the highest income. Is this an appropriate basis for choosing an allocation base?

Step 1 of 4

Cost accounting system

It is a system designed to report the cost of products and services. Material, labor and overhead costs are allocated to determine unit costs. Cost accounting system comprises of various types of formats, forms, procedures, reports and records. This can be maintained independently and can be part of formal accounting system also.

Cost accounting systems are used by both manufacturing and service firms to find the unit costing of their products or service. There are two types of cost accounting systems like job order costing system used for personalized products or services and process costing system used for large size of identical products. Some companies may use combination of job order costing and process costing system to fit its particular needs.

Cost allocation

It is easy to calculate the cost of product if components of the products are directly used and not shared like direct labor is not shared resource. It becomes difficult to allocated the cost of common resources like depreciation on machine or rent of warehouse building which is used for two products manufacturing.

Role of cost allocation comes into play when common cost needs to allocated to two or more products or departments. There different basis used for cost allocation like number units used, labors hours, area used by departments or products etc. Cost allocation is very important to determine the correct product cost and keep all departments satisfied with cost allocated.