Eto Management Accounting Case

* What caused the existing system at ETO to fail?

ETO’s existing system failed because there are several trends rising since the founding of the division in 1983. Direct labor per lot tested has been steadily declining over the years.

1. There is an increased dependence on incoming vendor certification, which is a key component of just-in-time delivery (JIT). Such practice has led to a reduction in the number of tests performed by ETO, and consequently the declining of direct labor content.

2. The shift from simple inspection services to broader-based test technology intensifies the obsolescence of the labor-based allocation system. Such shift to more technically sophisticated services promoted a shift in the labor mix from direct to indirect personnel.

3. The introduction of high-technology components creates the need for more automatic testing, longer test cycles and more data per part. Thus, very expensive highly automated equipment are required, which in turn leads to a smaller base of direct labor to absorb the depreciation costs of the new equipment.

In summary, as can been seen in Exhibit 4 of the case, the rolling average of direct labor hours per lot has been decreasing continuously since 1985, and as a result, the existing direct labor based cost system failed to reflect the real cost.

* Calculate the reported costs of the five components using the existing system

In the existing system, total burden costs are allocated to each component using a direct labor dollar allocation key (145% of each labor dollar).

* Calculate the reported costs of the five components using the system proposed by the accounting manager

In the system proposed by the accounting manager, total burden costs are split between administrative and technical functions costs ($ 684,603) and other burden costs ($ 4,029,379). The A&T function costs are allocated per component using a per direct labor dollar key (20% of each labor dollar). On the other side...