John Deere Components Works Essay

1203 words - 5 pages

SummaryIn its inception, the John Deere Component Works (JDCW) was structured to be a captive producer of parts for the equipment divisions of John Deere. The factories were required to purchase all major parts internally, and the corporate policy favoured internal purchasing from JDCW for smaller component parts also (Kaplan, p. 136). The high volume production of the 1970's supported this company objective, and supplying the parts internally gave John Deere a competitive advantage.Changing EnvironmentJohn Deere met with hard times in the 1980's as a result of the collapse of farmland values and commodity prices. The high dollar decreased exports, reducing income for the farmers and ...view middle of the document...

This division is still using the cost allocation system that was in place in the 1970's when the division was running at full capacity. With the downturn in demand and sales, the division is no longer able to sustain operations at full capacity, but they continue to use the same system, which is not effective when full capacity is not being used. Symptoms of the ineffective costing system are presenting themselves in the over and under costing of the parts that the division has recently bid on as given in Exhibit 1 (Kaplan p. 142-143).With the current system, the allocation of overhead based on machine time is 31.2% greater than the allocation for direct labour hours. Thus, products requiring more machine time will incur more of the overhead resulting in their over costing, and the under costing of products that do not require much machine time.Activity based costing (ABC) is a very useful tool for refining a cost system to ensure that costs are assigned to products based on the activities required to complete each product. This leads to more accurate costing of products as a result of properly costing the activities associated with them. The ABC system that has been designed by Williams and Vintila is very detailed. By separating the overhead into categories that can be better traced to individual activity usage (such as machine maintenance overhead costs by specific machine) they will ensure that overhead is better allocated to the products and help to reduce both the under and over costing that currently exists under the old system.Testing the New SystemPart A103 was used to test the new ABC system and the actual costs including direct and overhead costs per unit can be found in APPENDIX A. The cost per unit under the standard costing system was $0.23 while the cost per unit under the ABC system is $0.32. This suggests that this unit is currently under costed by $0.09 and a loss of $749.22 is being incurred during the year for a full production run of this part of 8,000 units.Under the current, standard costing system, approximately 61% of overhead was allocated to this product by means of machine hours used, however under the ABC method, only 22% of overhead can be linked by the machine hours required to produce this product.The ABC method...

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