View
102
Download
4
Category
Tags:
Preview:
DESCRIPTION
Management Accounting Midterm Review. Smiti Tolani. Chapter 1. Introduction to Managerial Accounting. Management Accounting for Managers. Process of identifying, measuring, accumulating, analyzing, preparing, interpreting and communicating information that helps managers - PowerPoint PPT Presentation
Citation preview
Management Accounting Midterm ReviewSmiti Tolani
Chapter 1Introduction to Managerial Accounting
Management Accounting for ManagersProcess of identifying, measuring, accumulating,analyzing, preparing, interpreting andcommunicating information that helps managersfulfill organizational objectives
Problem Solving long range strategic plansAttention-Directing controlling routine
operationsScorekeeping accumulating and classifying
data
Distinctions Between Management Accounting and Financial Accounting
Management Accounting
Organization Managers
Costs versus benefits
Influence on managerial behaviour
Future orientation
Flexible
Detailed
Less sharply defined
FinancialAccounting
External parties
G.A.A.P.
Measurement of economic activity
Past orientation
Less flexible
Summary reports
More sharply defined
Primary Users
Reporting Choices
BehaviouralImplications
Time Focus
Time Span
Reporting Detail
Activities
Management Decision Process1. Identify the problems/issues.
4. Perform the necessary quantitative and qualitative analyses.
3. Identify alternative solutions to the problem.
5. Evaluate the alternative solutions and recommend one.
6. Implement the recommendation.
2. Understand the Key Success Factors of the company.
Key Success Factors (KSF’s)• Factors that must be managed successfully if
the organization is to be successful.
• Many of these factors tie-in to the Value Chain. (for example, timely delivery of product, exceptional customer service, low cost/efficient production, etc.)
• Differ with each industry and organization.
Two major issues to remember when designing Management Accounting systems:
1. The “Cost-Benefit” Philosophy: “The benefits of better decisions should exceed
the cost of the system”
2. The “Behavioural” Philosophy:
▫ Management Accountants should consider behavioural issues (ie. How will Management Accounting systems affect managers and their decisions?)
▫ These behavioural issues may affect the benefit Management Accounting systems
A management accounting system should provide accurate, timely budgets and performance reports in a form useful to
A. ShareholdersB. BankersC. Revenue CanadaD. Managers
Financial Accounting is constrained by GAAP, Managerial Accounting is constrained by:
A) Revenue CanadaB) The ControllerC) Cost BenefitD) GAAS
Chapter 2Cost Behavior and Cost Volume Relationships
Cost BehaviourCost Driver• an activity which influences how a cost is
incurred
Volume
Volume
$
$
Variable Cost• a cost which changes in direct proportion
to changes in the cost driver• is constant per unit as volume changes
Fixed Cost• a cost which is not influenced by changes
in the cost driver over the relevant range• per unit fixed costs change as volume
changes
Cost-Volume-Profit Analysis•the study of the relationships between
revenues, costs, volume and profits
• Break-Even Point- level of sales at which revenue equals expenses, and income is zero
• Margin of Safety- equal to the planned unit sales less the breakeven unit sales; it shows how far sales can fall below planned level before losses occur
▫ Margin of Safety= planned unit sales- break-even unit sales
2 Techniques:▫ Contribution margin approach▫ Income Statement Approach
• EG. Amy Winston is trying to decide whether to rent a line of food vending machines
• She has determined:▫ Selling price/unit $0.50▫ Variable cost of each item $0.40▫ Selling price less variable cost $0.10 (cont. margin)▫ Total fixed per month $6000
▫ Selling price/unit $0.50▫ Variable cost of each item $0.40▫ Selling price less variable cost $0.10 (cont. margin)▫ Total fixed per month $6000
Contribution Margin Approach- CM (per unit) = P – VC
- when enough units have been sold to generate total contribution margin equal to fixed costs, break-even point is reached
- FC/CM = Break even units- 6000/0.1 = 60,000 units
- Break even in Dollars:- CM% = CM/P
- 0.1/0.5 = 20%- FC/CM% = Break even in Dollars
- 6000/0.2 = 30,000
▫ Selling price/unit $0.50▫ Variable cost of each item $0.40▫ Selling price less variable cost $0.10 (cont. margin)▫ Total fixed per month $6000
Income Statement Approach
Sales – VC – FC = Net IncomeX = # of units S = Sales
P(X) – VC(X) – FC = Net Income0.5X-0.4X-6000=00.1X=6000X=6000/0.1 = 60,000 units
S – 0.8S-FC = Net Income
0.2S = 6000
S = 30,000 Dollars
Break-Even Point Summary:
Break-even units = FC/CM
Break-even sales = FC/CM%
Cost-Volume-Profit Graph
Sales
Total Expenses
Relevant Rangeof volume
Volume
$ Break-evenPoint
Net lossarea
Net incomearea
Changes in CVP Model Factors
$
Volume
Sales
Expenses
Basic Model
$
Volume
Sales
Expenses
Decrease Variable Costs
$
Volume
Sales
Expenses
Increase Fixed Costs
$
Volume
Sales
Expenses
Decrease Fixed Costs
Target Net Income and Income Taxes
Target Net Income of $480 :
Target Sales in Units Target Sales in Dollars= (Fixed costs + Target income) = (Fixed costs + Target
income) / CM per unit / CM%= ($6,000 + $480) / $0.10 = ($6,000 + $480) / 20%= 64,800 units = Sales $32,400
Income Taxes• convert desired ‘after-tax’ net income to its ‘before-tax’
equivalent before calculating the target sales formula
Target income before income taxes= Target after-tax net income / (1 - tax rate)= $288 / (1 - .40)= $288 / .6= $480
Cost-Volume-Profit AnalysisMultiple Product SituationsSales Mix- the relative proportions or combinations of quantities of products that comprise total salesEG: Ramos Retail Company sells two products wallets (W) and key cases (K)
Wallets (W) Key Cases (K) Total
Sales in units 300,000 75,000 375,000
Sales @ $30 and $5 9,000,000 375,000 9,375,000
Variable Ex. @ $14 and $3
4,200,000 225,000 4,425,000
Cont Margins @ $16 and $2
4,800,000 150,000 4,950,000
Fixed expenses 198,000
Net Income 4,752,000
IF Constant mix is 4 units of W for every unit of K
What is Break Even?
Operating Leverage
$ Sales
Volume
$
Volume
Sales
TotalExpenses
High Operating LeverageHigh Fixed / Low Variable Costs
Higher CM/Unit
Higher Break-even PointGreater Risk
Greater Potential Returns
Low Operating LeverageLow Fixed / High Variable Costs
Lower CM/Unit
Lower Break-even Point
Reduced RiskLower Potential Returns
TotalExpenses
If fixed expenses are doubled, the break even point in units would be doubled, and break even points in sales would be cut in halfTRUE/FALSE
As the level of activity increases within the relevant range
A. Total variable costs remain unchangedB. Variable costs per unit decreaseC. Total fixed costs increasesD. Fixed costs per unit decrease
Chapter 3Measurement and Cost Behavior
Variations in Cost Behaviour
Step Costs• change abruptly at intervals of
activity because the resources and their costs come in indivisible chunks
• supervisory salaries
Mixed Costs• contain both variable and fixed
cost elements• maintenance costs
Volume
$
Volume
$
Management Influence on Cost Functions Management has influence over 3 general
categories of cost: • Capacity Costs• Committed Fixed Costs• Discretionary Fixed Costs
Capacity Costs:• fixed costs of being able to achieve a desired
level of production or service
• once capacity is set, the company is committed to the fixed costs of that capacity level
• setting capacity is very important if long-run demand fluctuates –> decisions must be made to increase investment in facilities and equipment and, therefore, increase long-term capacity costs, or to pay a premium (outsource or pay overtime) at times of peak demand
Management Influence on Cost Functions II
Committed Fixed Costs:
• arise from the possession of facilities, equipment, and a basic organization
• large, indivisible chunks of cost that the organization is obligated to incur and usually would not consider avoiding
• mortgage payments, lease payments, property taxes, insurance, salaries of key personnel
• committed fixed costs can only be changed by changing the basic philosophy, scale or scope of the organization's operations
Management Influence on Costs Functions III
Discretionary Fixed Costs:• each planning period, management will
determine how much to spend• advertising, promotion, research and
development, employee training• the amount of spending may vary, but only
because management has decided to spend more or less
• management can influence spending on these costs in the short run
Measuring Cost BehaviorCost Function• algebraic equation of the cost and its cost driver• linear cost function is as follows: Y = F + VX
where ▫ Y is the total cost▫ F is the intercept of the vertical axis or the fixed cost▫ V is the slope or the variable cost per unit of activity▫ X is the cost driver (in units)
Example: Total Maintenance Costs per monthGiven: Monthly Maintenance Salaries of $10,000;
Cost Driver is (units are) Mechanic Hours; Cost per Mechanic Hour is $15.00
What is the Monthly Maintenance Cost at 500 Mechanic Hrs.?
What is the Monthly Maintenance Cost at 650 Mechanic Hrs.?
Measuring Cost Behavior
Criteria for Choosing A Cost Function:
• Use activity analysis to determine which cost driver best explains how the cost behaves▫Economic plausibility (it must make sense that
X causes Y)
▫Reliability (the estimates derived by the cost equation must conform with actually observed costs)
Methods of Measuring Cost Functions:Engineering Analysis• systematic review of costs based on past experienceAccount Analysis• review of accounting records and the subjective determination of
cost behavior patternsHigh-Low Analysis• use of simple linear algebra to determine variable and fixed costs• may yield unreliable resultsVisual Fit Analysis• fit a representative line to the data as shown in a scatter diagramRegression Analysis• using mathematical formula, determine the cost equation which
best fits the data• may be simple least squares regression with one X variable or
multiple least squares regression with more than one X variable• enables user to measure the "quality" of the predictive equation
High-Low Approach to Cost AnalysisEquation: Y = F + VX
Variable cost= change in cost / change in volume= $30,000 / 3,700= $8.108 per patient-day
Fixed cost= total mixed cost - variable cost= $40,000 - ($8.108 x 4,900)= $40,000 - $39,730= $270 per month
Maintenance Costs= $270 + $8.108 per square meter
(cost driver)
Month Facilities Mgmt Cost
Square Meter
Jan 10,000 1,200
Feb 15,000 1,600
March 12,000 1,900
April 40,000 4,900
May 22,000 3,400
Regression AnalysisCheck for Economic Plausibility• Does it make sense that X and Y are related?
Plot the data• to see if basic relationship is linear and identify "outliers"
Generate Regression OutputConstant $9,329Std Error of Y Estimate$2,145 Observations 12R-Squared 0.954 Degrees of Freedom 10X Coefficient(s) $6.95 Std Error of Coefficent
0.479
Interpret Regression Output• R-squared (R2) varies between 0 and 1• The closer to R2 is to 1 the more X explains the changes in Y• Standard error of Y estimate and standard error of X
coefficient(s) can be used to set confidence intervals for the cost function estimates and the predicted value of the variable cost per unit
T/F QUESTIONS
•When graphing a cost function, the Total Variable cost is the intercept?
•Plausibility and reliability are 2 important factors to consider to ensure accurate and useful cost functions
Costs that change abruptly at intervals of activity because the resources and their costs come in indivisible chunks are called
A) Step costsB) Intangible costsC) Variable costsD) Mixed costs
A cost function
A. does not explain past cost behaviourB. should be a reliable predictor of future
costsC. should include only personal observations
of costs and activitiesD. need not have a cause-and-effect
relationship
___ is a method in which the analyst would place a straight line through a plot of available data
A) Engineering AnalysisB) Accounting AnalysisC) Visual FitD) Least Square Regression Method
Chapter 4Cost Management Systems
Cost Management SystemsCost Object• a department, service or product for which cost information is
collected
Direct Cost• a cost which can be identified specifically and exclusively with
a given cost objective in an economically feasible way• examples: direct material and direct labour• ASSIGNED
Indirect Cost• a cost which cannot be identified specifically and exclusively
with a given cost objective in an economically feasible way• factory overhead cost (or factory burden) • all factory costs other than direct material and direct labour• power, supplies, indirect labor, supervisory salaries, property
taxes, rent, insurance and depreciation• ALLOCATED
A COST CAN BE BOTH DIRECT AND INDIRECT DEPENDING
ON COST OBJECT
Manufacturing CostsPrime Costs• Direct Material and Direct Labour costs• in many companies direct labour has become
so insignificant that it is simply lumped in with overhead
Conversion Costs• Direct Labour and Factory Overhead costs• cost of converting material into finished
product
DirectMaterials
DirectLabour
FactoryOverhead
Prime Costs
Conversion Costs
Product and Period Costs - RetailerProduct Costs• also called ‘Inventoriable Costs’• all costs involved in the purchase or manufacture of
goods • are expensed only when product is sold
Period Costs• costs which are expensed during the period they are
incurred (without going through an inventory stage)
MerchandiseInventory
Cost ofGoods Sold
Balance Sheet Income Statement
Product Costs
Selling &Administrative
ExpensesPeriodCosts
Product and Period Costs - ManufacturerProduct Costs• also called ‘Inventoriable Costs’• all costs involved in the purchase or manufacture of
goods• are expensed only when product is soldPeriod Costs• costs which are expensed during the period they are
incurred (without going through an inventory stage)
DirectMaterial
Inventory
Work inProcess
Inventory
FinishedGoods
Inventory
Cost ofGoods Sold
Balance Sheet Income Statement
Product Costs
Selling &Administrative
ExpensesPeriodCosts
Product and Period Costs
AbsorptionCosting
Variable Manufacturing
Fixed Manufacturing
Overhead
Variable Selling& Administrative
Fixed Selling& Administrative
Contribution
Costing
Variable Manufacturing
Fixed ManufacturingOverhead
Variable Selling& Administrative
Fixed Selling& Administrative
Product
Costs
Period
Costs
Cost Behaviour and Income Statements
Absorption Income Statement
Sales $20,000Cost of Goods Sold:Direct material $7,000Direct labour 4,000Factory overhead 4,000 15,000
Gross margin 5,000
Selling expenses 3,000Administrative
expenses 1,000Total selling & administrative expenses 4,000
Operating Income $1,000
Contribution Income Statement
Sales $20,000Variable expenses:Direct material $7,000Direct labour 4,000Variable overhead 1,000Variable selling 1,000Variable administrative 100Total variable expenses 13,100Contribution margin 6,900Fixed expenses:Manufacturing $3,000Selling 2,000Administrative 900Total fixed expenses 5,900Operating Income $1,000
Absorption & Variable Costing
Absorption Costing Income Statement• Also called "full" costing• Classify costs by function - selling &
administration versus manufacturing• Inventory comprised of variable and fixed
production costs • Net income is a function of sales and production
Variable Costing Income Statement• Also called "direct" or "variable" • Classify costs based on behaviour • Inventory comprised of only variable
production costs • Net income is a function of sales
Converting Between the Two Models of Income• Difference in net income is equal to the difference in the values
assigned to inventories on the two statements• Absorption’s inventory value will be higher since it includes
an allocation of fixed production costs and Variable’s does not
RevenueVariable Costs
Contribution MarginFixed CostsNet Income
RevenueCost of Goods Sold
Gross MarginSell & Admin Costs
Net Income
Cost Flows: Absorption Costing
Direct material
Direct labour
Variable manufacturingoverhead
Fixed manufacturingoverhead
Costs to Account ForInventoried Costson Balance Sheet
Expense onIncome Statement
Becomeexpenses
when inventoryis sold
Becomeexpenses
immediately
Initially applied
toinventory
asunexpired
costs
As goods
are sold
Expires
immediately
All selling & administrative costs
Cost Flows: Variable Costing
Direct material
Direct labour
Variable manufacturingoverhead
Costs to Account ForInventoried Costson Balance Sheet
Expense onIncome Statement
Becomeexpenses
immediately
Initially applied to
inventory asunexpired
costs
All selling & administrative costs
Fixed manufacturingoverhead
As goods
are sold
Expiresimmediately
Becomeexpenses
when inventoryis sold
Fixed Manufacturing Overhead & Absorption Costing
•Firms use a fixed overhead rate to smooth the application of fixed overhead to ‘work in process’ and to determine "full" product costs
Fixed = Budgeted fixed manufacturing overheadoverhead rate Expected volume of production
Production Actual - Expected x fixed-overheadvolume = volume volume ratevariance
Flow of Fixed Manufacturing Costs - VariableFixed
ManufacturingOverhead
Incurred
Inventoried Costson Balance Sheet
Expense onIncome Statement
$150,000 $150,000None
Flow of Fixed Manufacturing Costs - Absorption
Fixed Manufacturing
Overhead Incurred
Inventoried Costson Balance Sheet
Expense onIncome Statement
$150,000
Fixed-overhead costs in beginning inventory:
$30,000
Costs added to product: $140,000
Fixed-overhead costs in ending inventory:
$10,000
$140,000 Cost of goods sold:$30,000 + $140,000 - $10,000 = $160,000
$10,000Unfavourable
production volume variance: $10,000
Total expense = $170,000
•When inventory increases, absorption will yield higher income
•When inventory decreases, absorption will yield lower income
•IF amount charged is GREATER than budgeted, favorable variance (subtract from COGS)
T/F Questions• Prime costs consist of direct labor and factory
overhead ▫ FALSE
• In the contribution approach, all factory overhead is considered to be product costs in that they are expensed as incurred▫ FALSE
Only VARIABLE factory overhead is considered to be PRODUCT
Product costs are NOT expensed as incurred- expensed when SOLD!!
Chapter 5Cost Allocation & Activity Based Costing
Cost Accounting System
•technique used to determine the cost of a product or service by collecting and classifying costs and assigning them to cost objects
Cost
Cost Pool
(a group of individual costs that are allocated to
cost objectives using a single cost driver)
Cost Objective
(product, department, division)
Cost Driver
Why Allocate Costs?
•Costs are allocated for 3 main purposes:▫Employee motivation- influence managerial
behavior▫Better compute income and asset
valuations- better measure inventory, COGS, and departmental income
▫Promote fair pricing or obtain reimbursement- prices based on cost, gov’t reimbursement
3 Types of Cost Allocations(based on 3 types of objectives)•Allocation of joint costs to
appropriate responsibility centers
•Allocation of service departments to production department costs
•Allocation of Costs of a particular organizational unit to its outputs of products
Cost Allocation Methods
•Direct Method▫IGNORES other service department costs
•Step-Down Method▫RECOGNIZES some service department
costs•Reciprocal Allocation Method
▫RECOGNIZES all services department costs
Direct Method: Example(Microsoft)
Service Departments Production Departments
Facilities Management
Human Resources
X-Box Office
Direct Dep. Costs
450,000 120,000 178,000 200,000
Sq. meters 20,000 30,000 20,000
# of employees
20 60 40
Outputs 10000
Machine Hours
30,000
1. ALLOCATE FACILITIES MANAGEMENT – account for 450,00030,000 (x box) + 20,000 (office) = 50,000 square units
XBOX = 30,000/50,000 x 450,000 = 270,000
OFFICE = 20/50 x 450,000 = 180,000
2. ALLOCATE HUMAN RESOURCE COSTS – account for 120,000
60 (x box) + 40 (office) = 100 employees
XBOX = 60/100 x 120,000 = 72,000
OFFICE = 40/100 x 120,000 = 48,000
Step-Down Method - ExampleService Departments Production Departments
Facilities Management
Human Resources
X-Box Office
Direct Dep. Costs
450,000 120,000 178,001 200,000
Sq. meters 20,000 30,000 20,000
# of employees
20 60 40
Outputs 10000
Machine Hours
30,000
Service Departments Production Departments
Facilities Management
Human Resources X Box department
Office department
1. Allocate Facilities management
(450,000) 20/70 x 450k= 128,571
30/70 x 450k= 192,857
20/70 x 450k= 128,571
2. Allocate H/R (128,571)+
(120,000)
= (248,571)
60/100 x 248,571
= 149,142
40/100 x 248,571
= 99,429
TOTAL cost after allocation
342,000 228,000
Reciprocal Method
•Recognize that service departments provide services to each other as well as to production departments – ie. Would allocate facilities management to personnel AND personnel to facilities management
Allocating Costs to OutputsStep Down X BOX OFFICE
Direct Dep. Cost 178,001 200,000
Allocated from Facilities Mgmt
192, 857 128,571
Allocated from HR 149,142 99,429
Total 520,000 226,800
Cost Driver – Machine Hours 30,000
Cost Driver – Output 10,000
Summary
•Allocate Costs to Departments (using either Direct or Step-down)
•Select cost drivers for each production department (ie. Machine hours and output)
•Allocate total costs to products based on cost driver($17.33 machine hour & 22.68/output)
Traditional Cost SystemDirect
MaterialCosts
DirectLabourCosts
OverheadCosts
DirectTrace
DirectTrace
Direct Labour Hour
Allocation
Products
ABC Cost System
DirectMaterialCosts
DirectLabourCosts
Overhead Costs
DirectTrace
DirectTrace
Products
Machiningactivitycosts
Assemblyactivitycosts
Inspectionactivitycosts
# of partsProcessing
Hours# of
inspections
Activity Based Costing
•Activity Based Costing- a system that first accumulates overhead costs for each of the activities of an organization, and then assigns the costs of activities to the products, services, or other cost objects that caused that activity
Steps in ABC Costing
Step 1 Determine cost objectives, key activity centres, resources, and related cost drivers
Step 2 Develop a process-based map representing the flow of activities, resources, and their relationships
Step 3 Collect relevant data concerning costs and the physical flow of cost-driver units among resources and activities
Step 4 Calculate and interpret the new ABC information
Activity-Based Costing
Product Line A1,000 MHs25 setups
Product Line B1,750 MHs70 setups
Product Line C1,050 MHs130 setups
$251,739Setup Costs225 setups
$1,118.84 per setup
$835,830Molding process
3,800 machine hours$219.96 per machine hour
Traceable costsPhysical flowof cost driver
units
Cost objectsPhysical flowof cost driver
for each object
Molding Department Activity CentreTraceable overhead cost = $1,087,569
Activity-Based Costing (ABC)
Direct material $1,050,000 $575,000 $240,000Direct labour 346,480 303,170 124,730Overhead:Setup $1,118.84 25 27,971 70 78,319 130 145,449Molding $219.96 1,000 219,960 1,750 384,930 1,050 230,958Total costs $1,644,411 $1,341,419 $741,137Production volume 1,000,000 500,000 150,000
Product Line A Product Line B Product Line C
Cost per Driver Driver Driver Driver Units Cost Units Cost Units Cost
Cost per unit $1.64 $2.68 $4.94
Traditional and ABC Costing Systems
Traditional System
Allocation Based on DL
Product A $486,608Product B 425,782Product C 175,179
$1,087,569
ABC Costing System
Allocation Based on MH and SU
Product A $247,931Product B 463,249Product C 376,407
$1,087,569
Product A45%
Product B39%
Product C16%
Product A23%
Product B42%
Product C35%
EXAMPLE:ABC Toy manufacturing company – makes Dolls and Cars3 main activities that comprise Overhead Costs consist of:
Dolls Cars
# of units 200 400
Surface Area 540 870
Minutes of Testing
40 90
If DM costs are 50,000 for dolls and 70,000 for cars, and DL is 25,000 and 40,000 respectively, what is the total cost per unit if I produce 100,000 units of each
Activity Cost Driver Cost of Activity
Assembling Units # of units $15
Painting Surface area $10/cm squared
Quality Assurance Minutes of testing $16/minute
Cost Management SystemsCost Management System• identifies how management’s decisions affect costs
Activity-Based Management (ABM)• distinguish between value-added and non-value-added costs• reduce or eliminate non-value-added costs. i.e. costs that
can be eliminated without affecting the value of the product to the customer.
Just-In-Time (JIT Systems)• focus on eliminating waste and improving quality• purchase material and produce products when needed
▫ focus on quality▫ shorter production cycle times▫ smooth the flow of production▫ adopt more flexibility with facilities and employees
Which of the following is NOT an acceptable type of cost allocationA) Allocation of costs to the appropriate
organizational unitB) Allocation of Costs of a particular
organizational unit to products/servicesC) Reallocation of costs from production
departments to service departmentsD) Rellocation of costs from service
departments to production departments
Chapter 6Job Order Costing and Accounting for Overhead
Product CostingJob Order
Allocates costs to products
that are readily identifiable
Common in construction,print shops, unique goods
Accumulate costs forspecific jobs
Produce for sale
Process Costing
Average costs over large number of nearly identical units
Common in chemical, textiles, lumber, glass, food processing
Accumulate costs by departments
Produce for inventory
Job-Order Costing
Job Cost SheetJob #963 12 units
Direct materials $460.00Direct labour 267.50Applied factory overhead 180.00Total cost $907.50Unit cost ($907.50 / 12 )
$75.625OverheadApplication
Rate
LabourTime
Ticket
Direct MaterialRequisition
Sheet
Job-Costing Cost Flows• Apply material, labour and overhead costs to work in process • As goods are produced, costs flow to finished goods inventory • When sold, costs shift to cost of goods sold
DirectMaterial
Inventory
BuyMaterial
Work inProcess
Inventory
FinishedGoods
Inventory
Cost ofGoods Sold
Use
Material
Labour Costs
OverheadCosts
Production Sales
OverheadControl Account Over / under
applied overhead
(at year end)
Accounting for Factory Overhead
Overhead Application (Overhead Absorption) • Allocation of overhead costs to products
Budgeted Factory Overhead Rate• Calculated at the beginning of the year and
used to apply overhead to products throughout the year
this is known as a ‘normalized’ overhead rate or ‘normal’ costing approach --> i.e. one average overhead rate is consistently used throughout the year
Accounting for Factory Overhead
Budgeted Factory Overhead Rate:
Six Steps in Applying Overhead1. Choose a cost driver for overhead2. Prepare a budget for yearly overhead costs (est’d. total
$’s) and yearly volume of the chosen cost driver (est’d. total qty.)
3. Calculate the Budgeted Factory Overhead Rate = Budgeted yearly overhead ($’s)
Budgeted yearly cost driver volume (qty.)4. Obtain data on the actual cost driver volume used by the
job5. Apply overhead to jobs: (actual cost driver volume used x
budgeted factory overhead rate) 6. At year end, account for difference between actual
overhead costs and applied overhead costs
Over / Under Application of Overhead
Actual overhead• a mixed cost function with variable and fixed costs• Y = F + VXApplied overhead• a variable cost function• Applied overhead = actual driver x overhead rate
• Overapplied: Applied > Actual • Underapplied: Applied < Actual • Dispose of over/under applied
overhead at year end
$
Volume
Applied Overhead
Actual Overhead
Volume
Volume
$
$
Fixed Manufacturing Overhead & Absorption Costing• Firms use a overhead rate to smooth the application of
overhead to work in process and determine "full" product costs
Budgeted overhead =Budgeted total factory overhead $’sapplication rate Budgeted total units of cost driver
• difference between actual and applied fixed overhead relates to:• spending more or less than expected• producing more or less than expected
ActualFixed
Overhead
Budgeted FixedOverhead
Rate x Budgeted Volume
Applied FixedOverhead
Rate x Actual Volume
Fixed Overhead Spending Variance Production-Volume Variance
Over / Under Applied Overhead
Disposition of Underapplied and Overapplied Overhead•Immediate Write Off
▫Use when you have low EI▫Apply directly to COGS and NI
•Proration among Inventories▫Prorates over/under applied overhead
among WIP, finished goods, and COGS▫Used when inventory valuations would be
materially affected
Overhead M/CBudgeted direct-labour hours 50,000
Actual direct-labour hours 70,000
Budgeted factory overhead $250,000
Actual factory overhead $315,000
Cost driver Direct-labour hours
What is the budgeted factory overhead rate?A. $6.00B. $5.50C. $5.00D. $3.50
What is the amount of over/under applied overhead?A. $35,000 under appliedB. $35,000 over appliedC. $65,000 under applied
D.$65,000 over applied
In the immediate write-off approach, over applied overhead is regarded asA. A decrease in current incomeB. A decrease in cost of goods soldC. An addition to the cost of inventoryD. A reduction in inventory
Chapter 7Process-Costing Systems
Process Costing
• Accumulate costs by departments and allocate costs to
products based on broad, average costs
• Process costing systems are usually simpler and less
expensive than job-order costing systems
Process Costing - Overview
DirectMaterial
DirectMaterialTransferred-In
Costs
Conversion Costs Conversion Costs
Cooking Department Freezing Department
Direct materials• Materials applied to the production process at specific points in
time Conversion costs• Labour and overhead costs which are assumed to be applied
uniformly throughout the production process Transferred-In costs• Value of materials and conversion costs carried forward to
subsequent departments
To FinishedGoods Inventory
PECUA
•Step 1: Calculate number of physical units•Step 2: Calculate output in terms of
equivalent units•Step 3: Calculate total Costs•Step 4: Calculate Unit Costs•Step 5: Apply unit costs to units
completed and to units in the WIP inventory
Equivalent Units
•Basic unit of measurement to convert work on
•"units started in previous period" and "units not completed" to equivalent whole units
•Example: 100 units 40% complete = 40 units 100% complete
Example: ABC Produces Back packs. They purchase polyester as DM for the Stitching department. Once the back packs are done at the stitching department, they go to the finishing department, where the zippers and extra features are added.
-Stitching department produced 50,000 units
-DM costs were 100,000
-DL costs were 12,000
-Factory Overhead was 18,000
Flow of Production Physical Units Direct Materials Conversion Costs
Started and completed 40,000 40,000 40,000
WIP, ending inventory 10,000 10,000 10,000*65% =6,500
Units account for 50,000
Work done to date 50,000 46,500
Work in Process – Forming
1. Direct Materials $100,0002. Direct Labor 12,0003. Factory OH 18,000Costs to Account For 130,000
Balance 24,225
4. Transferred to Finishing 105,800
Backflush Costing• As companies achieve JIT inventory control and Total Quality
Management, less cost is carried in inventory• Less attention is given to systems which sequentially track the
flow of product costs from material inventory to work in process and finished goods
• Use backflush costing when Levels of inventory are minimal Production process / technology is relatively stable Standard costs/unit are clear
• When finished goods inventory is minimal, it is possible to eliminate this account and transfer costs directly to cost of goods sold
MaterialsAccount
Cost ofGoods Sold
Finished GoodsInventory
Conversion CostsAccount
The System that applies costs to like products that are usually mass produced in a continuous fashion through a series of production processes is known as:
A) JIT CostingB) Job Order CostingC) Process CostingD) Variable Costing
Chapter 8
Relevant Information and Decision Making:
Marketing Decisions
Relevant Costs and Revenues
Meet 2 criteria. They are:(1) predicted future costs or future
revenues that
(2) differ among the alternatives being considered
Avoidable and Unavoidable CostsAvoidable Costs:
Costs that will not continue if an ongoing operation is changed or deleted
These costs are relevant. (are affected by a decision)
Unavoidable Costs: Costs that continue even if an operation is
halted Include many common costs: - costs of
facilities and services that are shared by users (e.g. building depreciation, heating/air conditioning, general management expenses)
These costs are not relevant. (not affected by a decision)
Optimal Use of Limited Resources• when something constrains or limits operations (e.g. labour hours, machine hours, raw material, space)• determine contribution margin per the limiting factor• allocate usage to maximum profit
Plain Fancy
• Contribution margin per unit $4.00 $9.00• Units of production per hour 3 1• Contribution margin per hour $12.00 $9.00
• allocate capacity to “Plain” up to expected demand, and then allocate remaining capacity to “Fancy”
Mark-Up and MarginMark-up:
% increase based on a cost or costs Margin:
Profit or Contribution % based on sales $’s or revenue
Example: Sales $100,000 Costs 80,000 Profit $ 20,000
Mark-up is ($100,000 - 80,000)/ $80,000 = 25%
Profit Margin is $20,000/ $100,000 = 20%
Target Pricing &Target CostingTraditional Approach• Determine costs and add on a mark-up to set selling
prices
Target Costing and Target Pricing• First determine the price at which the product will
sell• Then design a product to be produced at a low
enough cost to provide an adequate profit margin over target cost
+Costs
Mark-Up = Price
TargetPrice
Target Costs
_ Margin =
Maximizing Total ContributionMarginal Cost: The additional cost of producing
and selling one more unit
Marginal Revenue: The additional revenue from the sale of one more unit
The question is: How many items to produce? The decision point is where Marginal Cost = Marginal Revenue
As long as marginal cost < marginal revenue, additional production is profitable
Recommended