Data as follows:
Annual Budgeted overheads as follows:
MHs Batches Product Z73,800700Product K96,200300Total10,0001,000
A chemical is used to keep the presses from overheating and is automatically sprayed in fractions of seconds to keep the press operating smoothly to lubricate and prepare the metal. The chemical also keeps the press from sparking during the punching process. A small spark could cause a fire and safety hazard. Therefore, the chemical is crucial to the operation of the stamping process.
The stamping solution contains proprietary ingredients that are toxic and considered to be hazardous waste, and disposal must be through EPA approved methods. The cost to dispose of the chemical is many times greater than regular waste products.
Currently, Bell Products uses a traditional, volume-based costing system for its clutch plate products. Total manufacturing overhead for the period is allocated to the clutch plates based on machine hours.
Fred, who was recently hired, is the controller for Bell Products. He has five years of experience as a cost accountant at a lumber manufacturing facility. At the lumber plant, Fred implemented an activity-based costing system that helped the plant manager determine the profitability of various product lines. After getting to know the manufacturing process at Bell Products, Fred has determined that an activity-based costing system would help management make better decisions and track the costs of the clutch plates more accurately.
Tina is the manager of the stamping department and is good friends with Fred. Tina runs a very efficient department and has earned several bonuses for the stamping department’s production and profitability. Each of the department managers are evaluated based on the profitability of the departments based on internal cost reports.
If activity-based costing is used to allocate costs and the hazardous waste of the stamping chemical is allocated to the department that uses the product, the internally calculated profits of the stamping department would decline drastically. The decline in profitability would be due to the extreme high cost of the stamping chemical and this cost would be directed allocated to the stamping department.
Tina decides to take Fred to an expensive restaurant and eventually brings up the activity-based costing system. She voices her concern about the allocation of the hazardous waste being directly allocated to her department. She asks Fred if there is any way that he could reduce the amount of hazardous waste allocated to the stamping department. Fred values Tina’s friendship and realizes that she is on the compensation committee that evaluates Fred on an annual basis. Fred definitely wants to keep Tina happy and on his side.
As a result, Fred decides to not setup a cost pool for hazardous waste. He reasons that since the hazardous waste has always been a part of the manufacturing process, he will bury it as part of the manufacturing costs that are allocated across all departments. He justifies his decision because the activity-based system will still accurately allocate all other costs and it is much more accurate than the old traditional costing system. Fred feels no one will get hurt. Since the activity-based costing cannot be used for external reporting, Fred feels that his decision is not illegal.
Using the Institute of Management Accountants Statement of Ethical Professional Practice on page 13 of your textbook (Exhibit 1-7) as an ethical framework, answer the following questions:
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