Cost Management Session 5. Overview Theory Exercise: 2.26, 2.33, 2.41, 2.42, 10.32 2

Cost Management

Session 5

Overview

• Theory

• Exercise: 2.26, 2.33, 2.41, 2.42, 10.32

2

Theory

3

Total Costs = Direct Costs + Indirect Costs

cost that are directly related to production of the goods

costs which cannot be directly assigned to a single product rather it has to be assigned in some proportion to all products

Direct labour, direct material Building rent, supervisory salaries

4

Opportunity CostsSunk CostsCommitted costsVariable costsFixed costsProduct cost vs period cost

Cost behaviour means how a cost will react to changes in the level of business activity.

– Total variable costs change when activity level changes.

– Total fixed costs remain unchanged when activity level changes.

Cost behaviour means how a cost will react to changes in the level of business activity.

– Total variable costs change when activity level changes.

– Total fixed costs remain unchanged when activity level changes.

5

6

Prime cost Conversion cost3 major categories of manufacturing costs

7

Exercise 2.26 (pag.71)

(a) Cost of raw material purchased during the year

8

9

Beginning raw- material inventory+ Raw material purchased=Direct material used +Ending raw- materialinventory

328,000

1,732,000

366,000

???

Raw material purchased = 1,732,000 + 366,000 – 328,000= 1,770,000

10

(b)Cost of goods manufactured

11

Beginning finished-goods inventory+Cost of goods manufactured=Cost of goods sold+Ending finished-goods inventory

146,000

6,000,000

150,000

?????

Cost of goods manufactured = 6,000,000 + 150,000 – 146,000 = 6,004,000

12

(c) Total manufacturing costs

13

Beginning work –in-process Inventory+Total manufacturing costs=Cost of goods Manufactured+Ending work -in-processinventory

362,000

6,004,000

354,000

???

Total manufacturing costs = 6,004,000 + 354,000 – 362,000= 5,996,000

14

Exercise 2.33(pg 73)

What is the difference in this year’s divisional operating profit if the new machine is rented and installed on 31 december of this year?

15

This year’s statement of income:Baseline (Status Quo) Rent

EquipmentDifference

REVENUE €1,590,000 €1,590,000 0Operating costs:

 Variable (190,000) (190,000) 0 Fixed (cash expenditures)

(750,000) (750,000 0

Equipment depreciation

(150,000) (150,000) 0

Other depreciation (125,000) 125,000) 0Loss from equipment

write-off

Operating profit (before taxes)

0

€  375,000

(850,000)

(475000)

€850,000 lower

€850,000lower

Next year’s statement of income

16

17

Baseline (Status Quo)

RentEquipment

Difference

REVENUE €1,590,000 €1,749,000 €159,000

Operating costs:Equipment

rental0 (230,000) 230,000

higher

 Variable (190,000) (190,000) 0

Fixed (cash expenditures)

(750,000) (712,500) 37,500lower

Equipment depreciation

(150,000) 0 150,000lower

Other depreciation

(125,000) (125,000) 0

Operating profit (before taxes)

€  375,000 €491,500 €116,500higher

Would you rent the machine?

• Despite the effect on next year’s statement of income, the company should not rent the new machine because net cash inflow as a result of installing the new machine (€159,000 + €37,500) does not cover cash outflow for equipment rental.

18

Exercise 2.41(pg 77)

19

a.Variable manufacturing cost=manufacturing overhead + direct labour +direct material

=CHF 30 + 10 + 40 = CHF 80

b. Variable cost = all variable unit costs

=CHF 5 + 30 + 10 + 40 = CHF 85

c. Accrual cost per unit = fixed and variable manufacturing overhead + direct labour + direct material

= CHF 15 + 30 + 10 +40 = CHF 95

20

d.Direct cost per unit = direct labour + direct material

= CHF 10 + 40 = CHF 50

e. Conversion cost per unit = direct labour + manufacturing overhead=CHF 10 + (30 + 15) =CHF 55

f. Profit margin per unit =sales price – full cost

= CHF 175 – 120 = CHF 55

g. Gross margin per unit = sales price – accrual cost

= CHF 175 – 95 = CHF 80

21

h. As the number of units increases (reflected in the denominator), the fixed manufacturing cost per unit decreases

Exercise 42 (pg77)

22

a. Direct cost = direct material + direct labour

Direct material =beginning inventory + purchases – ending inventory

= €9,000 + €22,000 – €8,500 = €22,500

Direct labour is given as €14,000

Direct cost= €22,500 + €14,000= €36,500

23

b. Conversion cost = direct labour + manufacturing overheadConversion cost = €14,000 + €20,000 = €34,000

c. Total manufacturing cost=direct material + direct labour + manufacturing overhead

=€22,500 (from question a) + €14,000 + €20,000 = €56,500

24

d. Cost of goods manufactured =beginning WIP* + total manufacturing costs – ending WIP

= beginning WIP + direct material + direct labour + manufacturing overhead – ending WIP

=€4,500 + €22,500 + €14,000 + €20,000 – €3,000=€4,500 + €56,500 (from req. c above) – €3,000=€58,000

e.Cost of goods sold = cost of goods manufactured + beginning finished-goods inventory –Ending finished -goods inventory

= €58,000 (from d above) + €13,500 – €18,000= €53,500

Exercise 10.32 (pg 508)

• Applying overhead using a predetermined rate

25

26

OB + TI – TO = CB

CB=€5,000 + (€30,000 + €20,000 + €16,000) – €60,000CB=€11,000 Factory overhead = 80% x €2,500 = €2,000

Total cost = direct material + direct labour + factory overhead

€11,000 = direct material + €2,500 + €2,000Direct material = €11,000 – €2,500 – €2,000Direct material = €6,500

See you next week!

27