As per AICPA's Code of Professional Conduct, ET Sec. 56, Article ...

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As per AICPA's Code of Professional Conduct, ET Sec. 56, Article V, which of the following statements is true of the principle of due care?
 
  A) It requires a member to be honest and candid within the constraints of client confidentiality.
  B) It imposes the obligation to be impartial, intellectually honest, and free of conflicts of interest.
  C) It requires a member to discharge professional responsibilities with competence and diligence.
  D) It precludes relationships that may appear to impair a member's objectivity in rendering various professional services.

Question 2

Cost hierarchy.
 
  Forrester, Inc., manufactures karaoke machines for several well-known companies. The machines differ significantly in their complexity and their manufacturing batch sizes. The following costs were incurred in 2014:
 
  a. Indirect manufacturing labor costs such as supervision that supports direct manufacturing labor, 825,000
  b. Procurement costs of placing purchase orders, receiving materials, and paying suppliers related to the number of purchase orders placed, 525,000
  c. Cost of indirect materials, 160,000
  d. Costs incurred to set up machines each time a different product needs to be manufactured, 365,000
  e. Designing processes, drawing process charts, and making engineering process changes for products, 287,500
  f. Machine-related overhead costs such as depreciation, maintenance, and production engineering, 950,000 (These resources relate to the activity of running the machines.)
  g. Plant management, plant rent, and plant insurance, 512,000
 
  Required:
  1. Classify each of the preceding costs as output unitlevel, batch-level, product-sustaining, or facility- sustaining. Explain each answer.
  2. Consider two types of karaoke machines made by Forrester, Inc. One machine, designed for professional use, is complex to make and is produced in many batches. The other machine, designed for home use, is simple to make and is produced in few batches. Suppose that Forrester needs the same number of machine-hours to make each type of karaoke machine and that Forrester allocates all overhead costs using machine-hours as the only allocation base. How, if at all, would the machines be miscosted? Briefly explain why.
  3. How is the cost hierarchy helpful to Forrester in managing its business?

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Answer to Question 1

C
Explanation: C) The principle of due care requires a member to discharge professional responsibilities with competence and diligence.

Answer to Question 2

1. a. Indirect manufacturing labor costs of 825,000 support direct manufacturing labor and are output unit-level costs. Direct manufacturing labor generally increases with output units and so will the indirect costs to support it.
b. Batch-level costs are costs of activities that are related to a group of units of a product rather than each individual unit of a product. Purchase order-related costs (including costs of receiving materials and paying suppliers) of 525,000 relate to a group of units of product and are batch-level costs.
c. Cost of indirect materials of 160,000 generally changes with labor hours or machine hours which are unit-level costs. Therefore, indirect material costs are output unit-level costs.
d. Setup costs of 365,000 are batch-level costs because they relate to a group of units of product produced after the machines are set up.
e. Costs of designing processes, drawing process charts, and making engineering changes for individual products, 287,500, are product sustaining because they relate to the costs of activities undertaken to support individual products regardless of the number of units or batches in which the product is produced.
f. Machine-related overhead costs (depreciation and maintenance) of 950,000 are output unit-level costs because they change with the number of units produced.
g. Plant management, plant rent, and insurance costs of 512,000 are facility-sustaining costs because the costs of these activities cannot be traced to individual products or services but support the organization as a whole.
2. The complex karaoke machine made in many batches will use significantly more batch-level overhead resources compared to the simple karaoke machine that is made in a few batches. In addition, the complex karaoke machine will use more product-sustaining overhead resources because it is complex. Because each karaoke machine requires the same amount of machine-hours, both the simple and the complex karaoke machine will be allocated the same amount of overhead costs per karaoke machine if Forrester uses only machine-hours to allocate overhead costs to karaoke machines. As a result, the complex karaoke machine will be undercosted (it consumes a relatively high level of resources but is reported to have a relatively low cost) and the simple karaoke machine will be overcosted (it consumes a relatively low level of resources but is reported to have a relatively high cost).
3. Using the cost hierarchy to calculate activity-based costs can help Forrester to identify both the costs of individual activities and the cost of activities demanded by individual products. Forrester can use this information to manage its business in several ways:
a. Pricing and product mix decisions. Knowing the resources needed to manufacture and sell different types of karaoke machines can help Forrester to price the different karaoke machines and also identify which karaoke machines are more profitable. It can then emphasize its more profitable products.
b. Forrester can use information about the costs of different activities to improve processes and reduce costs of the different activities. Forrester could have a target of reducing costs of activities (setups, order processing, etc.) by, say, 3 and constantly seek to eliminate activities and costs (such as engineering changes) that its customers perceive as not adding value.
c. Forrester management can identify and evaluate new designs to improve performance by analyzing how product and process designs affect activities and costs.
d. Forrester can use its ABC systems and cost hierarchy information to plan and manage activities. What activities should be performed in the period and at what cost?

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Excellent

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