Cost Management For Just-in-Time Environments: Principles of Managerial Accounting

Cost Management for Just-inTime Environments
11e
Principles of Managerial Accounting
Chapter 12
Prepared by: C. Douglas
Cloud
Professor Emeritus of
Accounting
Pepperdine University
2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Reeve Warren Duchac
Learning Objectives
1. Describe just-in-time manufacturing
practices.
2. Apply just-in-time practices to a
nonmanufacturing setting.
3. Describe the implications of just-intime manufacturing on cost
accounting and performance
measurement.
4. Describe and illustrate activity
analysis for improving operations.
Learning Objective 1
Describe just-intime
manufacturing
practices.
LO 1
Just-in-Time Practices
Just-in-time processing (JIT),
sometimes called lean
manufacturing, is a philosophy that
focuses on reducing time and cost
and eliminating poor quality.
LO 1
Just-in-Time Practices
LO 1
Reducing Inventory
Just-in-time (JIT) manufacturing
views inventory as wasteful and
unnecessary. As a result, JIT
emphasizes reducing or eliminating
inventory.
Under traditional manufacturing,
inventory often hides underlying
production problems.
JIT manufacturing attempts to solve
and remove production problems.
LO 1
Reducing Inventory
LO 1
Reducing Lead Time

Lead time, sometimes called
throughput time, is a measure of the
time that elapses between starting a
unit of product and completing the unit
of product. The lead time can be
classified as one of the following:
Value-added lead time, which is the time spent
in converting raw materials into a finished unit of
product.
Non-value-added lead time, which is the time
spent while the unit of product is waiting to enter,
or being moved to, the next production process.
LO 1
Reducing Lead Time
LO 1
Reducing Lead Time

The value-added ratio is computed as
follows:
Value-Added Ratio =
Value-Added Lead Time

Total Lead Time
LO 1
Reducing Lead Time
55
min.
click only
once
5
min.
35
min.
10
min.
5
min.
120 minutes
10
min.
LO 1
Reducing Lead Time

The material in Exhibit 2 (previous slide) arrived
at 2:00 oclock and was delivered to the customer
at 4:00 oclock, or 120 minutes later. Value was
added in only 45 of these minutes. The valueadded ratio is calculated as follows:
Value-Added Ratio =
Value-Added Ratio =

Total Lead Time
45 minutes
120 minutes
= 37.5%
LO 1
Reducing Setup Time

A setup is the effort spent preparing an
operation or process for a production
run. If setups are long and costly, the
batch size (number of units) for the
related production run is normally large.
Large batch sizes allow setup costs to
be spread over more units and, thus,
reduce the cost per unit.
Exhibit 3 (next slide) shows the
relationship between setup times and
lead time.
LO 1
Reducing Setup Time
LO 1
Reducing Setup Time

A product can be manufactured in Process X or
Process Y as follows:
LO 1
Reducing Setup Time
(continued)
LO 1
Reducing Setup Time
LO 1
Reducing Setup Time

The lead time for Process Y is
longer because each unit has to
wait its turn while other units in
the batch are processed. It takes a
unit five minutes for each
operationfour minutes waiting
and one minute in production.
The wait time is called within-batch
wait time. The total within-batch
(Total Time
Perform
wait
time is
asto follows:
Total
Within-Batch
Waitcalculated
Time =
Operations) x (Batch Size
1)
LO 1
Reducing Setup Time

The total within-batch wait time for Process Y is
12 minutes, as computed below.
Total Within-Batch Wait Time =
(Total Time to Perform

Operations) x (Batch Size
1)
(1 +1 + 1) minutes x (5 1)
12 minutes
LO 1
Reducing Setup Time

The value-added ratio for Process Y is 20%, as
computed below.
Value-Added Ratio =
Value-Added Ratio =

Total Lead Time
3 minutes
15 minutes
= 20%
LO 1
Reducing Setup Time

Automotive Components Inc. manufactures
engine starters as follows:
LO 1
Reducing Setup Time

The total within-batch wait time is 936 minutes,
as computed below:
The total lead time is 985 minutes, as computed

below:
LO 1
Reducing Setup Time

Based on the data in the preceding slides, the
value-added ratio is approximately 2.4%, as
computed below:
Value-Added Ratio =
Value-Added Ratio =

Total Lead Time
(7 + 9 + 8) minutes
985 minutes
Value-Added Ratio = 2.4% (rounded)
LO 1
Reducing Setup Time

Automotive Components can increase its valueadded ratio by:
reducing setups so that the batch size is one
unit (termed one-piece flow), and
moving the Machining, Assembly, and Testing
operations closer to each other so that the
move time can be reduced.
EE 12-1
12-1
12-1
PE 12-1A, PE 12-1B
LO 1
Emphasizing Product-Oriented
Layout
If the manufacturing process is
organized around a product, it is
called a product-oriented layout (or
product cells).
If the manufacturing process is
organized around a process, it is
called a process-oriented layout.
LO 1
Emphasizing Product-Oriented
Layout
Just-in-time normally organizes

manufacturing around products
rather than processes. Organizing
work around products reduces:
1. Moving materials and products
between processes
2. Work in process inventory
3. Lead time
4. Production costs
LO 1
Emphasizing Employee
Involvement
Employee involvement is a management

approach that grants employees the
responsibility and authority to make
decisions about operations by:
1. Organizing employees into product

cells.
2. Cross-training employees to
perform any operation within the
product cell.
LO 1
Emphasizing Pull
Manufacturing
Producing items only as they are

needed by the customer is called pull
manufacturing (or make to order).
A system that accomplishes pull
manufacturing is often called kanban
(Japanese for cards). Electronic
cards or containers signal production
quantities to be filled by the
preceding operation.
LO 1
Emphasizing Pull
Manufacturing
In contrast, the traditional approach

is to schedule production based on
forecasted customer requirements.
This principle is called push
manufacturing (or make to stock).
LO 1
Emphasizing Zero Defects

Just-in-time manufacturing attempts to
eliminate poor quality. Poor quality
creates:
1.
2.
3.
4.
5.
Scrap
Rework required to fix the product
Disruption in the production process
Dissatisfied customers
Warranty costs and expenses
LO 1
Emphasizing Zero Defects

Six Sigma was developed by Motorola
Corporation and consists of five steps:
Define
Measure
Analyze
Improve
Control
These five steps form the acronym

DMAIC.
LO 1
Emphasizing Supply Chain

Management
Supply chain management
coordinates and controls the flow of
materials, services, information, and
finances with suppliers,
manufacturers, and customers.
LO 1

Management
To enhance the interchange of
information between suppliers and
customers, supply chain
management often uses:
Electronic data interchange (EDI),
which uses computers to communicate
Radio frequency identification devices
(RFID), which are electronic tags (chips)
placed on or embedded within products
that can be read by radio waves that allow
instant monitoring of product location
LO 1

Management
Enterprise resource planning (ERP)
systems, which are used to plan and
control internal and supply chain
operations
EE 12-2
Apply just-in-time
practices to a
nonmanufacturing
setting.
LO 2
JIT for Nonmanufacturing

Processes
(continued)
LO 2

Processes
LO 2

Processes
Describe the
implications of just-intime manufacturing
on cost accounting
and performance
measurement.
LO 3
Accounting for JIT

Manufacturing
In just-in-time manufacturing, the

accounting system has the following
characteristics:
Fewer transactions. There are fewer
transactions to record, thus simplifying the
accounting system.
Combined accounts. All in-process work is
combined with raw materials to form a
new account, Raw and In Process (RIP)
Inventory.
LO 3
Accounting for JIT

Manufacturing
Combined accounts. Direct labor is

combined with other costs to form a new
account titled Conversion Costs.
Nonfinancial performance measures.
Nonfinancial performance measures are
emphasized.
Direct tracing of overhead. Indirect labor is
directly assigned to product cells; thus,
less factory overhead is allocated to
products.
LO 3
Fewer Transactions
The accounting system for just-intime manufacturing is simplified by
eliminating the accumulation and
transfer of product costs by
departments. This type of accounting
is termed backflush accounting.
LO 3
Combined Accounts
Anderson Metal Fabricators, a manufacturer of
metal covers for electronic test equipment, has an
annual budgeted conversion cost of $2,400,000
and 1,920 planned hours of production. The cell
conversion cost rate is determined as follows:
Cell Conversion Cost Rate =
Cell Conversion Cost Rate =
Budgeting Conversion Cost

Planned Hours of Production
$2,400,000
1,920 hours
= $1,250 per hr
LO 3
Combined Accounts
Assume that Anderson Metals cover product cell
is expected to require 0.02 hour of manufacturing
time per unit. Thus, the conversion cost for the
cover is $25 per unit, as shown below.
Conversion Cost
Manufacturing
=
for Cover
Time
Cell Conversion
Cost Rate
= 0.02 hours $1,250

= $25 per unit
LO 3
Combined Accounts
1. Steel coil is purchased for producing 8,000
metal covers. The purchase cost was $120,000,
or $15 per unit.
Raw and In Process Inventory
120,000
Accounts Payable
120,000
To record materials purchases.
AAseparate
separate
Raw
Raw Materials
Materials
account
account is
isnot
not
used.
used.
LO 3
Combined Accounts
2. Conversion costs are applied to 8,000 covers at
a rate of $25 per cover.
200,000
Conversion Costs
200,000
To record applied conversion
costs of the medium-cover line.
The
The Raw
Rawand
andIn
InProcess
Process
Inventory
Inventoryaccount
account is
isused
used
to
toaccumulate
accumulatethe
theapplied
applied
conversion
conversioncosts
costs..
LO 3
Combined Accounts
3. All 8,000 covers were completed in the cell.
Finished Goods Inventory
To transfer the cost of
completed units to finished
goods.
Materials
Materials
320,000
($15
($15xx8,000
8,000units)
units)
Conversion
Conversion
This
is
a
backflush
transaction
($25
This is a backflush transaction
($25xx8,000
8,000units)
units)
because
the
raw
and
in
process
Total
because the raw and in process
Total
inventory
account
balance
is
zero
inventory account balance is zero
after
afterthe
thetransfer.
transfer.
320,000
$120,000
$120,000
200,000
200,000
$320,000
$320,000
LO 3
Combined Accounts
4. Of the 8,000 units completed, 7,800 were sold
and shipped to customers at $70 per unit.
Accounts Receivable
Sales
To record sales.
546,000
546,000
7,800
$70
Cost of Goods Sold
312,000
7,800
$70
Finished Goods Inventory
312,000
To record cost of goods sold.
7,800
7,800 $40
$40
EE 12-3
LO 3
Nonfinancial Performance
Measures
A nonfinancial measure is operating

information that has not been stated in
dollar terms. Examples include:
1.
2.
3.
4.
5.
6.
Lead time
Value-added ratio
Setup time
Number of production line stops
Number of units scrapped
Deviations from scheduled
production
7. Number of failed inspections
Describe and
illustrate activity
analysis for
improving
operations.
LO 4
Activity Analysis
An activity analysis determines the
cost of activities based on an
analysis of employee effort and other
records. An activity analysis can be
used to determine the cost of:
Quality
Value-added activities
Processes
LO 4
Costs of Quality
Prevention costs are costs of
preventing defects before or during
the manufacture of the product or
delivery of services.
Appraisal costs are costs of activities
that detect, measure, evaluate, and
inspect products and processes to
ensure that they meet customer
needs.
(continued)
LO 4
Costs of Quality
Internal failure costs are costs
associated with defects discovered
before the product is delivered to the
consumer.
External failure costs are costs
incurred after defective products
have been delivered to consumers.
LO 4
Costs of Quality
LO 4
Costs of Quality
Exhibit 7 (next slide) shows the
relationship between the costs of
quality. The internal and external
failure costs decline with increases in
the percentage of good units
produced.
LO 4
Costs of Quality
LO 4
Quality Activity Analysis
LO 4
Pareto Chart of Quality Costs

Managers want information
displayed so that important problems
or issues can be identified quickly.
One method of reporting quality cost
information is the Pareto chart.
A Pareto chart is a bar chart that
shows the totals of an attribute for a
number of ranked categories.
LO 4
Pareto Chart of Quality Costs
LO 4
Cost of Quality Report

A cost of quality report normally
reports
the: cost for each quality
1.
Total activity
cost classification
2. Percent of total quality costs associated
with each classification
3. Percent of each quality cost classification
to sales
LO 4
Cost of Quality Report
EE 12-4
LO 4
Value-Added Activity Analysis

A value-added activity is one that is
necessary to meet customer
requirements.
A non-value-added activity is not
required by the customer, but occurs
because of mistakes, errors,
omissions, and process failures.
LO 4
Value-Added Activity Analysis
LO 4
Process Activity Analysis

A process is a series of activities that
converts an input into an output.
Common business processes include:
1.
2.
3.
4.
5.
Procurement
Product development
Manufacturing
Distribution
Sales order fulfillment
LO 4
LO 4

Assume that the cost of a firms four activities is
as follows:
If 10,000 sales orders are filled during the current

period, the per-unit process cost is $8 per order
($80,000/10,000 orders).
LO 4

Masters Company determines that only new
customers need to have a credit check. If this
change is made, it is estimated that only 25% of
sales orders would require credit checks. In
addition, by revising the warehouse product
layout, it is estimated that the cost of picking
orders can be reduced by 35%.
LO 4

If 10,000 orders will be filled, the cost savings
from these two improvements are as follows:
EE 12-5
Cost Management for Just-inTime Environments
The End
Prepared by: C. Douglas
Cloud
Professor Emeritus of
Accounting
Pepperdine University
2012 Cengage
Learning.
All distributed
Rights Reserved.
not product
be copied,
duplicated,
whole or in part, except
for for
useclassroom
as
permitted
in a license
with aMay
certain
or scanned,
service oror
otherwise
on ainpassword-protected
website
use.

Cost Management For Just-in-Time Environments: Principles of Managerial Accounting

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Cost Management For Just-in-Time Environments: Principles of Managerial Accounting

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Cost Management for Just-inTime Environments

Principles of Managerial Accounting

Reeve Warren Duchac

Reducing Lead Time

Reducing Lead Time

Reducing Lead Time

Value-Added Lead Time

Reducing Lead Time

Reducing Lead Time

Value-Added Lead Time

Reducing Setup Time

Reducing Setup Time

Reducing Setup Time

Reducing Setup Time

Reducing Setup Time

Reducing Setup Time

Reducing Setup Time

Total Within-Batch Wait Time =

(Total Time to Perform

Total Within-Batch Wait Time =

Total Within-Batch Wait Time =

Reducing Setup Time

Value-Added Lead Time

Reducing Setup Time

Reducing Setup Time

The total lead time is 985 minutes, as computed

Reducing Setup Time

Value-Added Lead Time

Value-Added Ratio = 2.4% (rounded)

Reducing Setup Time

Just-in-time normally organizes

Employee involvement is a management

1. Organizing employees into product

Producing items only as they are

In contrast, the traditional approach

Emphasizing Zero Defects

Emphasizing Zero Defects

These five steps form the acronym

Emphasizing Supply Chain

Emphasizing Supply Chain

Emphasizing Supply Chain

JIT for Nonmanufacturing

JIT for Nonmanufacturing

JIT for Nonmanufacturing

Accounting for JIT

In just-in-time manufacturing, the

Accounting for JIT

Combined accounts. Direct labor is

Budgeting Conversion Cost

= 0.02 hours $1,250

A nonfinancial measure is operating

Quality Activity Analysis

Pareto Chart of Quality Costs

Pareto Chart of Quality Costs

Cost of Quality Report

Cost of Quality Report

Value-Added Activity Analysis

Value-Added Activity Analysis

Process Activity Analysis

Process Activity Analysis

Process Activity Analysis

If 10,000 sales orders are filled during the current

Process Activity Analysis

Process Activity Analysis

Cost Management for Just-inTime Environments

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