Applying ECR to "real life"

sarahwilson · November 2008

I have been think ing after a PM from someone and I think I have established why I don't "get" ECR. I can't apply any of it to my job as we don't do that sort of thing here!!

I understand WIP despite the book saying its the hardest part as I have worked with that but the rest of it is hard to grasp, because I cannot put it into a real context.

Is anyone willing to help me either on here or by PM put the formulas to a "real life" situatuon? Please I is desperate, I know I can get this if I can just put it into a context.

SandyHood · November 2008

Sarah
I agree, any accounting that bears no relation to either your work or life doesn't feel real.
I'd like to help, and can imagine looking at a lot of aspects of ECR, but could you pick just one to start with, and perhaps give one or two aspects of your life or working life that I might be able to relate it to.

To help, I'll suggest a list of possible topics:
Stock valuation
Direct labour cost calculation
Overhead analysis and absorption rates
under and over absorption of overheads
product pricing (absorption costing and marginal costing)

Cost behaviour
Break even and margin of safety
Limiting factors
Capital Investment Appraisal

sarahwilson · November 2008

Thanks Sandy thats very kind of you.

If you can give me some pointers on overhead analysis and absorption rates that would be fab.

I work in the accounts department of a firm that manufacture signage in 3 seperate units split between vinyl, cnc & a production assembly unit. I can see that there will be some link between the course work and my workplace but I can't make the jump on my own!!

As far as I understand and that may not be far- I need to split or apportion overheads to cost centres, so in my case vinyl would be a cost centre as would CNC & assembly. So I need to get all the costs associated with each cost centre and "charge" them to it such as rent, rates, utility bills, wages, insurance,etc. However some of these aren't going to be as straightforward as a gas bill for the vinyl unit and will need apportioning on some basis.

Is it the case that as long as I use a sensible method to apportion overhead costs, eg by floor ares, number of staff, amount of machines, that theres no actual "right" way to do it?

Anywhere near?:thumbup:

SandyHood · November 2008

that theres no actual "right" way to do it?

Absolutely right

The standards will test

Knowledge and Unerstanding 10. The arbitrary nature of overhead apportionments

So it doesn't always truly reflect where the costs have been incurred.

The exam is normally pushing you towards particular bases to use, or spells out the company policy. This makes sense, but watch out for questions where you need to re-write an answer using a second basis.

My class starts in a few minutes, so I'll come back to you on overhead apportionment and absorption at your work later, if I may.

sarahwilson · November 2008

Thank you Sandy, I am not on completely the wrong track then!!

SandyHood · November 2008

I need to split or apportion overheads to cost centres, so in my case vinyl would be a cost centre as would CNC & assembly. So I need to get all the costs associated with each cost centre and "charge" them to it such as rent, rates, utility bills, wages, insurance,etc. However some of these aren't going to be as straightforward as a gas bill for the vinyl unit and will need apportioning on some basis.

Imagine we are budgeting for 2009 (I'm sure it has been done already, but I'll use this as an example)
We reckon that there will be overheads to pay, and as you suggest we put them into cost centres.
Some can be allocated easily as they are essentially specific to that cost centre, others such as your gas bill needs to be apportioned.
So you try and find a basis to use. Some might be specific if only one department uses gas in production, others may be in need of apportioning say if that part of the gas bill is for heating. Heating would typically be greater in a larger area than a smaller one, but you may need to take account of higher ceilings in some departments.

Once we have total; budgeted overhead values for each of our cost centres

vinyl
CNC
assembly

Then we can decide whether to use labour time or machine time as the basis for absorption.

When we absorb overheads we are adding overhead costs to direct costs of products.

I hope this is helping
I'm concerned it is becoming a little vague.

Sandy

sarahwilson · November 2008

So say I get a gas bill for 3000 that is for all 3 units, I could split it equally 3 ways, ie £1000.00 for each unit.

But to get the overhead of the gas bill into the cost of what is being produced in each unit, it is better to divide it by some other variable.So if there were 20 people working in 1 unit and 5 in each of the other 2, I could split the bill 2000, 500, 500, apportioning it by staff numbers or it could be split by floor area.

SandyHood · November 2008

Split it by the means that best reflects how much gas each department has used
then (cost centre by cost centre) total all the overhead costs, so you end up with one total cost per cost centre
and say in vinyl there is a lot of labour hours,
then divide the vinyl dept total overhead by the total labour hours
to get the overhead absorption rate per labour hour

sarahwilson · November 2008

Thanks Sandy, thats really helpful:thumbup:

Applying ECR to "real life"

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Applying ECR to &quot;real life&quot;

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Applying ECR to "real life"