Accounting Homework Paper on ColorscopeInc

ColorscopeInc

Introduction

The internal and external environments that a business operates in are always changing and in order for a business to maintain profitability, it must change its operations accordingly. In order to do this, a company must analyze its cost of operations as well as the cost of allocation of resources. Colorscope Inc. is a company in New York established in nineteen sixty seven that is facing challenges in remain competitive due to merger by competitors and changing trends. As shown below using it as a case study, a business can remain competitive by changing its method of operations and improving employee motivation.

Literature Review (Body)

Colorscope Inc. must first analyze its overhead costs to find the operations that are costing the company the most.The company must then calculate the profitability of respective jobs in order to determine the most profitable and if any are not generating profit.

OVERHEAD COSTS

JOB PROFITABILITY

Method Used in Data Analysis

A full cost accounting system is designed to measure the complete, true costs of goods and services. While standard cash flow accounting practices focus on direct, current costs and expenditures, full cost accounting systems incorporate a wider range of costs, including indirect or overhead costs. Overhead is costs needed to operate a business, but which cannot be directly credited to any specific business activity, product, or service.

When a company uses departmental overhead rates, the assignment of manufacturing-overhead costs to production jobs is accomplished in two stages, comprising what is called two-stage cost allocation. In the first stage, we have to allocate the cost of resources to cost pools. All manufacturing-overhead costs are assigned to the production departments. In this case these departments include job preparation, scanning, assembly, output, and quality control. In the second stage, the overhead costs allocated to each production department are useful to the production jobs that pass through the department.

The overhead costs table represents stage one of the cost allocation process. Values for depreciation and wages were provided in the case. Rent expenses were found by taking the given total rent of thirty thousand dollars and multiplying that by the floor space percent. So floor space was used as the cost driver to allocate rent. Other overhead costs were allocated using labor hours as a cost driver; total other overhead multiplied by labor hour percentage. Overhead rate per hour for each cost pool was found by dividing the total overhead by labor hours.

The job profitability table represents stage two of the cost allocation process.Revenues and material expenses for each job were provided. Gross margin was determined by subtracting material expenses from revenues. Overhead costs for each job in each cost pool were determined using the labor hours given in the case. These labor hours were multiplied by the overhead rate per labor hour for each pool that was found in our stage one analysis. Net profit or loss was determined by adding up all the overhead costs for each particular job and then subtracting that number from the gross margin.The idle rent space is not applied to a particular job but is still an overhead cost that is subtracted from our net profit from all jobs, to get our total net profit.

Thejob profitability table is beneficial because it breaks down how profitable each individual job is for the company. It can be also used to determine whether there are any trends or relationships between those jobs that are profitable and those which are not. 

            Full cost is the appropriate metric for calculating job profitability.  Full cost, also known as absorption costing, is first required under GAAP (Generally Accepted Accounting Principles).  Only allocating the direct cost of jobs would leave out the necessary overhead costs when calculating profitability.  Under the full cost method: Job Profitability = Revenue – direct costs – allocated overhead.  With full cost, variable costs are assigned to most cost objects, including overhead. One major issue is that incremental costs are not taken into account.  If an overhead cost increases with production or growth in the company, full costing will miss this increased cost.  This aspect makes the method very impractical for startup companies or firms in a high growth stage.

Recommended Changes

Upon considering the process of rework from a financial perspective, it is important to point out that rework is a process that results in overall increases for any business’s cost structure. In the particular case of Colorscope, a rework signifies greater costs (associated with man hours taken up in the rework itself and with the resources used throughout the process). Furthermore, given that rework elevates the business’s cost structure, it only naturally follows that it cuts into the company’s profit. It is also noted that while in the past Colorscope might have been able to raise its prices; increased competition has now made it impossible for companies like it to raise prices and remain competitive.

            Given the financial costs of rework, it is recommended that Colorscope should focus on minimizing it. The data indicates that the company has already taken action, as evidenced by the fact that rework is classified as either being the consequence of changed specifications by customers, or the consequence of in–house errors identified by the Quality Control department (Harvard Business School 5). Distinguishing between rework resulting from errors made by employees and rework resulting from changes in customer demands and specifications is important. The importance of this distinction lies primarily in the fact that an employee–oriented strategy to reduce in–house errors could reduce this type of rework significantly, thereby allowing the company to keep its cost structure in check or even lower it and generate increased profit. Developing a new pricing strategy, one that makes it clear that any change in original requests and/or specifications will result in additional fees would also help the company keep its costs in check while at the same time generating higher levels of revenue and profit.

A major issue that plagues Colorscopes profits is their current incentive system.  Every employee is compensated for the amount of hours they work. This also includes reworks which take a significant amount of time.  There needs to be a more efficient payment structure that rewords quick and quality work which will create competition among the employees.  Workers could be broken down into smaller teams and rewarded based on the speed and quality of their work.  Tight deadlines would be set by upper management who can judge how many days or weeks a project will take and then a team would receive the project for creating a book.  If the team finishes under the allotted days, they can receive a bonus based on how early they finish.  The bonus would only be rewarded to high quality projects which would undergo a QC from another group.

            The incentive strategy would assistColorscope Inc. position itselfstrategically for the long run.  Their previous business model was to be a high quality printing and effects company.  With all of the competition from PCs and small firms, Colorscope’s products must become of very high quality with a quick delivery system in order to remain relevant in the market place.  Speed is part of high quality delivery and is crucial to many large clients.  The proposed incentive program would help Colorscope gain new business and create the needed customer loyalty.

            Upon considering ways in which Colorscope would be able to improve its operations and profitability, the first thing that the company should do is to develop a list of hours spent on rework. Apart from tracking the total number of hours spent on rework, it would also be necessary for the company to focus on distinguishing between rework resulting from changed specifications by customers, and rework resulting from in–house errors identified by the Quality Control department. Keeping track of rework, particularly rework resulting from in–house errors, would allow the company to offer its employees a highly effective incentive for improved operational efficiency (given that compensation would be reviewed and issued in function of rework hours as well as total labor hours). The company needs to keep in mind that its most valuable asset is its labor force, which is highly specialized and highly efficient. Creating the proper incentive should be more than enough to drive down rework resulting from errors identified by Quality Control.

            Bringing rework down will unequivocally improve operations and profitability. Given that quality control is perhaps the only problem that the company experiences in terms of operations, the primary focus should be on finding ways of enhancing profitability especially considering the intense competition in the market. After reducing the amount of rework, the company needs to revise and change its pricing strategy. It has already been proven that for colorscope Inc. the current pricing fails to properly reflect customer resource demands (Harvard Business School 5). The company needs to more fully understand the costs associated with each of its processes, thereby managing to develop a pricing scheme that results in differentiated pricing depending on the activities and resources demanded by each customer’s project. Activity–based costing should be implemented, since this would allow for a more detailed breakdown of each process’s costs, thereby allowing for identification of potential inefficiencies and the development of a more accurate pricing scheme (Hilton 41).

Conclusion

            A business’s practices and system’s must change with the change in the markets for it to remain competitive. In order for this to happen it must analyze its operation systems and market trends to determine future market expectations and the best changes to make. Colorscope Inc. can perform this by analyzing the profitability of various jobs and reducing the rework done to reduce overheads. The organization can also change its incentive system to reward individual effort in order toincrease employee motivation. Rewarding of individual effort will also lead to reduced rework and therefore reducedoverheads. As more is studied on the case study, better organization practices can be developed.

Works Cited

Harvard Business School. “Colorscope, Inc.” 19 Feb. 1998. Web. 11 Oct. 2014.

Hilton, Robert. Managerial accounting: Creating value in a dynamic business environment. New York: McGraw–Hill, 2011. Print.