Kings Mountain Distillery
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I have attached the Case Study and the Case Exhibits. Thank you so much for your assistance and expertise with this case!
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Required Questions (answer all parts)
1: In your opinion, what costs should be included in Kings Mountain Distillery's inventory?
2: Assuming KMD decided to charge only barrel costs (but not other warehousing and aging costs) to inventory, how would the 1996 income statement and balance sheet change?
What account balances would change?
Would the balances increase or decrease?
By what amounts? (Assume that there would be no change to "Inventory in process.")
3: An alternative to charging the barrel costs directly to inventory would be to treat the barrels as if they were machines, capitalizing their cost, and depreciating them over their useful lives. Would you recommend that KMD consider using this accounting method?
Why or why not?
4: What methods of accounting would you recommend that KMD use in preparing the annual financial statements to be submitted to GastoniaBanc?
If these methods of accounting had been used in preparing the financial statements in the years between 1992 and 1995, approximately what would have been the reported income of KMD in 1995?
5: What could be the explanation for the increase in selling, advertising and distribution expenses between 1995 and 1996?
What actions, if any, would you recommend Kings Mountain Distillery take with respect to selling, advertising and distribution costs?
6: Would Kings Mountain Distillery benefit from the introduction of transaction based or Activity Based Costing (ABC) in its manufacturing operations?
If you feel that it would, explain why and also how you would go about deciding the number of cost pools and activity measures (cost drivers) to use for such a system?
If you feel they would not benefit from introducing ABC, explain why not, and speculate about changes in the company or conditions that might cause you to reconsider at a later date.
7: Laboratory labor and supplies expense are direct and variable costs with respect to number of barrels in the aging vats. The standard number of tests done in the chemical laboratory in 1996 was one test for every eight barrels in the aging process. The standard cost for each test in 1996 was $8. In 1996, the Laboratory did 23,200 tests at $10 per test. Evaluate the Laboratory's performance in 1996, calculating, interpreting and commenting on any variances you think would be useful.
8: What are some of the management control problems and future management controls problems that KMD is facing or may face as it grows and changes and as the experienced management team is replaced by managers who have not grown up in the business?
What controls may need reconsideration now, and how would you think about developing new controls and control systems for use in the future?
Assume that you have been asked by a member of the board of directors to prepare a draft of a memorandum to Ralph Harmon as suggested by his remarks at the end of the board of directors' meeting on August 5, 1996. Be as specific as you can be in your analysis and suggestions.
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Solution Summary
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1. All costs incurred in getting the whiskey ready for sale should be included in the cost of inventory. The costs would include -
a. The cost of raw material used in the whiskey - corn, barley, malt, yeast, water.
b. Direct labor cost of personnel attached to the manufacturing process
c. Other Indirect Material used in the manufacturing process
d. Cost of barrels used in the ageing process
e. Occupancy Costs for factory building and rented buildings
f. Labor and supplies expense of chemical laboratory
g. Depreciation on factory equipment and warehouse equipment
h. Cost of bottling liquor.
All these costs are directly related to the manufacture of liquor and hence should form a part of manufacturing expenses which should be charged to the cost of finished goods produced.
2. Presently, KMD charges the cost of barrels to the Income statement in the year the barrels are purchased. If the barrel costs are charged to inventory, then only the barrel costs of the inventory sold would be accounted for in the cost of goods sold. In 1996, the opening inventory is 172,000 barrels, barrels purchased are 63,000 and the closing inventory is 192,000 barrels. The barrels sold are 172,000+63,000-192,000 = 43,000. The cost of 43,000 barrels only would be charged to the cost of goods sold account. Each barrels costs $89. The total cost is $3,827,000. In 1996, the cots of barrels charged to cost of goods sold is $5,607,000. The cost of goods sold would decrease by $1,780,000. The net income would increase by $1,780,000 to $598,000. The inventory amount would increase by $1,780,000. The table below shows the changes to the accounts
Account Value Increase/Decrease
Cost of Goods Sold 1,780,000 Decrease
Earnings ...
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