COMM 112 Notes Chapter 1 & 2
COMM 112 Notes Chapter 1 & 2 Managerial accounting: is the provision of accounting information for a company’s internal users (internal focused, no mandatory rules, subjective information possible, emphasis on the future0 Cost object: any item such as a product, customer, department, project, geographic region, plant and so on, for which a cost are measured and assigned Cost classification – a coast is a payment of cash or the commitment to pay cash ion the future for the purpose of generating revenues Direct costs are those coasts that can be easily and accurately traced to a cost object Fixed cost is a cost that does not increase in total as output increase and does not decrease in total as output decreases Indirect cost are costs that cannot be easily and accurately traced to a cost object Variable cost is a cost that does not increase in total as output increase and does not decreases in total as output decreases Product cost are those cost, both direct and indirect or producing a product in a manufacturing firm or of acquiring a product in a merchandising firm and preparing it for sale Direct materials are those material that are a part of the final product and can be directly traced to the goods bring produced Direct labour is the labour that can be directly traced to the goods being produced Manufacturing overhead: all product costs other than direct materials and direct labour are put into a category call manufacturing overhead Note: always take into consideration the time period and use time in order to determine the overall cost for the raw material, goods over the given accounting period -
In addition to calculate the prime cost and conversion cost, you must take the total cost and divide it by either overhead or labour cost in each scenario
Direct labour cost and direct materials cost is how much is cost the organization to purchase the raw materials and how much labour is needed to create the product
The overhead cost is the cost other than the direct materials and direct labour cost that are incurred in the manufacturing process The statement of cost of goods manufactured is prepared using the following step: Step 1 – determine the cost of direct material used Step 2- Determine the total manufacturing costs incurred Step 3 – Determine the cost of goods manufactured The cost of finished goods available for sale is determined by adding the beginning finished goods inventory to the cost of goods manufactured during the period. The cost of goods sold is determined by subtracting the ending finished goods inventory from the cost of finished goods available for sale Beginning inventory of materials + purchases – Direct material used in production = Ending inventory of materials Total product cost = direct mat. + Direct labour + manufacturing OH Unit product cost = total product cost / number of units Prime cost = DM + DL Conversion cost = DL + Manufacturing OH
Chapter 3 – Cost behavior Cost behavior – is the general term for describing whether a cost changes when the level of output changes. (fixed cost do not change, variable cost change with material cost , and # of units produced) Cost driver: a causal measurement that causes costs to change. Identifying and managing cost drivers helps managers better predict and control costs Relevant range: is the range of output over which the assumed cost relationship is valid for the normal operations of a firm. This limits the cost relationship to the range of operations that the firm normally expects to occur.
* fixed costs are costs that in total are constant within the relevant range as the level of output varies (discretionary fixed costs can be changed or avoided relatively easily at management discretion) Variable costs are defined as costs that in total vary in direct proportion to changes in output within the relevant range Total variable costs = variable rate * amount of output Note: As a result managers will analyze aspects of FC and VC in order to determine where the main cost drivers . this will permit them to truly determine methods in which they will be able to be more efficient and to cut costs of production Mixed costs: are costs that have both fixed and variable components. (must break down this cost to the FC and the VC / unit Total cost = total fixed cost + (variable rate * # of units produced) Dependent variable: a variable whose value depends on the value of another variable Independent variable: is a variable that measures output and that explains changes in the cost or other dependent variables Step cost – displays a constant level of cost for a range of output and then jumps to a higher level of cost at some point, where it remains for a similar range of output High Low method Is a method of separating mixed costs into fixed and variable components by using just the high low data points. Step 1 – find the high point and the low point for a given data set (high point is defined as the point with the highest activity or output level) Step 2 – using high low points calculate the variable rate Variable rate = (high point cost – low point cost) / (high point output – low point output) Step 3 – calculate the fixed cost using the variable rate (using either high or low point) Fixed costs = total cost at high point – (variable rate * output high point) Fixed costs – total cost at low point – (variable rate *output low point) Step 4 – form the cost formula for materials handling based on the high low method Total cost = fixed cost + (variable rate * output level)
Chapter 4 – CVP analysis: A managerial planning tool Cost volume profit – analysis estimates how changes in costs (variable and fixed), sales volume, and price affect a company’s profit. CVP is a powerful tool for planning and decision-making. BEP – the point where total revenue equals total costs Contribution margin income statement – the focus is as a firm as a whole, therefore the cost refer to all costs of the company. The income statement format that is based on the separation of costs into fixed and variable components is called the contribution margin income statement Contribution margin: is defined as the excess of sales over variable costs CM = sales – variable cost Contribution margin ratio: is the proportion of each sales dollar available to cover fixed costs and provide profit CM % = CM /sales Change in income operations = change in sales $ * CM % Unit contribution margin – how much each individuals unit will ass to the overall profitability of the organization Unit CM = sales price per unit – VC / unit Change in income from operations = change in sales unit * unit CM BEP units - how many units needed to be sold in order to earn 0 profit(this occurs when fixed cost equals contribution margin, then operating income is $0) Operating income = sales –total variable expense –total fixed expense BEP ( units) = FC / (Price per unit –VC per unit) BEP ($) = FC / CM In other words it’s the FC divided by the contribution margin Note: of you want a target income, you must add desired value to the FC, this will indicate to managers how many units must be sold in order to achieve a certain profit level Operating income = sales – TFC – TVC
Profit volume graph: visually portrays the relationship between profits and units old. In the graph operating income is the dependent variable, and units is the independent variable. Cost volume profit graph – depicts the relationship among cost, volume, and profits by plotting the total revenue line and the total cost line on a graph. The area below BEP is lost and above is profit. This permits managers to analyze their financial position. Total revenue Total cost
BEP
Multiple product analysis Cost volume profit analysis is fairly simple in the single product setting. However, most firms produce and sell a number of products or services. Direct fixed expense – those fixed costs that can be traced to each segment and would be avoided if the segment die not exists Common fixed expense – fixed costs that are not traceable to the segments and would remain even if one of the segments were eliminated Method 1 – apply analysis separately to each product line. It is possible to obtain individual break-even points when income is defined as product margin. Method 2 – Sales mix Sales mix is measured in units old; it is a ratio of many products of each line need to be produced in order to break even. Margin of safety – is the excess of budgeted or actual sales over break-even sales. The margin of safety indicates the possible decrease in sales that may occur before an operating loss results MS $ = sales in $ - BEP $ MS u = sales in units – BEP units
Operating leverage – is the use of fixed costs to extract higher percentage changes in profits as sales activity changes Degree of operating leverage = CM / operating income % Change in operating income = DOL * % change in sales
Chapter 5 – Job order costing Job order costing – costs are assigned and accumulated by job Process costing vs . Job-order costing Job order costing - Wide variety of distinct products - Cost accumulated by job - Unit cost computed by dividing total job costs by units produced on that job
Process costing - Homogeneous products - Cost accumulated by process or department - Units cost computed by dividing process costs of the period by the units produced in the period
Actual costing – required the firm to use the actual cost of all direct materials, direct labour, and overhead, used in production to determine unit cost. Normal costing – required firms to assign actual costs of direct materials and direct labour to units produced and to apply overhead to units based on a predetermined estimate. System – determines unit cost by adding actual direct materials, actual direct labour, and estimated overhead. Note: Oh estimated by approximating the years actual OH at the beginning f the ear and then using a predetermined rate throughout the year. Normal costing and estimating overhead Step 1 – Calculating the predetermined OH rate Is calculated at the beginning of the year by dividing the total estimated annual overhead by the total estimated level of associated activity or cost driver. OH rate = estimated annual OH / estimated annual activity level Step 2 – Applying the OH to production Applied overhead is found by multiplying the predetermined overhead rate by the actual use of the associated activity for the period
Step 3 – Reconciling applied OH with actual OH or allocating applied OH to WIP and finished goods ending inventories Two types of OH actual overhead and applied overhead Actual overhead – costs are tracked throughout the year in the OH account Applied overhead – computed throughout the year and is added to actual dm and dl to get total product cost At the end of the accounting period it is time to reconcile any difference between actual and applied OH and to correct eh cost of goods sold account to reflect actual overhead spending Note: It is impossible to perfectly estimate future overhead costs and production activity Plant wide OH rate: a single OH rate calculated by using all estimated OH for a factory divided by the estimated activity level across the entire factory Department OH rate: simply estimated overhead for a department divided by the estimated activity level for that same department. Cost flow: describes the way costs are accounted for from the point at which they are incurred to the point at which they are recognized as an expense on the income statement Chapter 6 – Process Costing Process costing - A costing system that accumulates production costs by process or by department for a given period of time Sequential processing: requires that units pass through one process before they can be worked on in later processes Parallel processing: another processing pattern that requires two or more sequential processes to produce a finished good. Equivalent units of production by definition , EWIP is not complete. Thus, a unit complete and transferred out during the period is not identical to one in EWIP inventory, and the cost attached to the two units should not be the same. In computing the unit cost, the output of the period must be defined. Weighted average costing method – treats beginning inventory costs and the accompanying equivalent output as if they belong to the current period. This is done for costs by adding the manufacturing cost in BWIP.
FIFO costing method – separated work and costs of the equivalent units in beginning inventory from work and costs of the equivalent units produced during the current period. Preparing a production report Step 1 - Physical flow analysis Trace physical units of production Physical flow schedule, provided an analysis of the physical flow of units Step 2 - Calculation of equivalent units Use the percentages of how many units complete, and started in order to compute the equivalent units for the accounting period Step 3 - Computation of unit cost Step 4 - Valuation of inventories (goods transferred out and EWIP) Step 5 - Cost reconciliation Check to see if the cost to accout for are exactly assigned to inventories Goods transferred out + EWIP = BWIP + cost incurred during the period Multiple Departments When dealing with multiple departments, some goods will be transferred from one department to another. This means, some units will not be complete therefore, there are conversion cost. Thus the department receiving transferred in goods, would have three input categories: one for the transferred-in materials in, one for materials added, and one for conversion costs.
Chapter 8 – Activity base costing and management ABC costing- a system that 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 those activities Unit level activities – activities that are performed each time a unit is produced Note: ABC costing permits managers to truly identify where the cost drivers are, and will permit them to identify how to save capital for future endeavors * ABC - Products are charged for the costs of capacity they use – not for the costs of capacity they don’t use. Unused capacity costs are treated as period expenses.
Steps for Implementing ABC Identify and define activities, activity cost pools and activity measures. Assign overhead costs to activity cost pools. Calculate activity rates. Assign overhead costs to cost objects using the activity rates and activity measures. Prepare management reports. Chapter 8 – Absorption and Variable costing, and inventory management Absorption costing- assings all manufacturing costs to the product. Direct materials, direct labour, variable overhead, and fixed overhead define the cost of a product. Variable costing- assign only variable manufacturing costs to the product; these costs include direct materials, direct labour, and variable overhead. Fixed overhead is treated as a period expense and is excluded from the product cost. Product cost under absortion and variable costing Absorption costing DM DL Variable OH Fixed OH
Variable costing unit cost DM DL Variable OH
Variable income - an income that depends on the amount of products or services delivered during a period. As opposed to fixed income, which is received on a regular periodic basis and is a constant amount. 1. Production > sales – absorption income > Variable income 2. Production < sales – absorption income < Variable income 3. Production = sales – absorption income = variable income The advantages of variable costing and the contribution approach include: The data required for CVP analysis can be taken directly from a contribution format income statement. • Profits move in the same direction as sales, assuming other things remain the same. • Managers often assume that unit product costs are variable. Under variable costing, this assumption is true. • Fixed costs appear explicitly on a contribution format income statement; thus the impact of fixed costs on profits is emphasized. • Variable costing data make it easier to estimate the profitability of products, customers, and other business segments.
• •
Variable costing ties in with cost control methods, such as standard costs and flexible budgeting. Variable costing net operating income is closer to net cash flow than absorption costing net operating income.
Chapter 9 – Budgeting, Production, Cash, and Master Budget Budgets- are financial plans for the future and are a key component of planning. They identify objectives and the actions needed to achieve them. Advantages of budgeting 1. if forces managers to plan 2. it provides information that can be used to improve decision making 3. it provides a standard for performance and coordination 4. it improves communication and coordination Master budget – the comprehensive financial plan for the organization as a whole Operating budget – describe the income generating activities of a firm: sales, production and finished goods Financial budgets – detail the inflows and outflows of cash and the overall financial position Preparing the operating budget I.
Sales budget – is approved by the budget committee and describes expected sales in units and dollars. The sales forecast is just the initial estimate, and the budget committee often adjusts it.
II.
Production Budget – tells how many units must be produced to meet sales needs and to satisfy ending inventory requirements. Units to produced = expected unit sales + units in desired ending inventory (EI) – Units in beginning inventory (BI)
III.
Direct material purchases budget – tells the amount and cost of raw materials to be purchased in each time period; it depends on the expected use of materials in production and the raw materials inventory needs of the firm Purchases = direct materials need for production + direct materials in desired ending inventory – direct materials in beginning inventory
IV.
V.
VI.
VII. VIII.
Direct labour budget – shows the total direct labour hours and direct labour cost needed for the number of units in the production budget. As with direct materials, the budgeted hours of direct labour are determined by the relationship between labour and output Overhead budget – shows the expected cost of all production costs other than direct materials and direct labour. Many companies use direct labour hours as the driver for overhead. Ending finished goods inventory budget- supplies information needed for the balance sheet and also serves as an important input for the preparation of the cost of goods sold budget. Cost of goods sold budget – reveals the expected cost of the goods to be sold. Selling and administrative expenses budget – outlines planned expenditures for non-manufacturing activities.
Note: operating income is not equivalent to the net income of a firm. To yield net income, interest expense and taxes must be subtracted from operating income. Preparing the financial budget A. The cash budget includes cash receipts, disbursements, any excess or deffiency of cash, and financing (basically cash inflows – cash outflows) B. The budget balance sheet C. The budget for capital expenditure
Chapter 10 – Standard costing: A managerial control tool To determine the unit standard cost for a particular input, two decisions must be made: 1. The amount of input that should be used per unit of output 2. The amount that should be paid for the quantity of the inpiut to be used Ideal standards – demand maximum efficiency and can be achieved only if everything operates perfectly Currently attainable standards - can be achieved under efficient operating conditions Standards product costs Standard quantity of materials allowed (SQ) – the quantity of materials that should have been used to produce the actual output (unit material * actual output)
Standard hours allowed (SH) – the direct labour hours that should have been used to produce the actual output (unit labour standard * actual output) Variance analysis Total budget variance – the difference between the actual cost of the input and its planned cost. Total variance = actual cost – Planned cost = (AP * AQ) – (SP * SQ) Price variance – the difference between actual and standard price of an input multiplies by the number of inputs used: (AP – SP) * AQ. Usage efficiency variance – the difference between the actual and standard quantity of inputs multiplied by the standard unit price of the input (AP – SQ) * SP. Unfavorable variances – occur whenever actual prices or actual usage of inputs are greater than standard prices or standard usage. Favorable variance – occur whenever actual prices or actual usage of inputs are lower than standard prices or standards usage. Price variance = (AQ * AP) – (AQ * SP) = (AP – SP) * AQ Usage variance = (AQ * SP) – (SQ * SP) = (AQ –SQ) * SP Total variance = (AQ * AP) – (SQ * SP) Materials price variance - measures the difference between what should have been paid for raw materials and what was actually paid for raw materials and what was actually paid MPV =(AP * AQ) – (SP * AQ) Material usage variance – measures the difference between the direct materials actually used and the direct materials that should have been used for the actual output MUV = (SP*AQ) – (SP * SQ) or MUV = (AQ – SQ) * SP Direct labour variance- computes the difference between what was paid to direct laborers and what should have been paid LRV = ( AR * AH) – (SR * AH) or LRV = (AR – SR) * AH Labour efficiency variance – measures the difference between the labour hours that were actually used and the labour hours that should have been used
LEV = (AH * SR) – (SH * SR) or LEV = (Ah – SH) * SR Chapter 11 – Flexible budgets and Overhead Analysis Performance report- compares actual cost with budgeted costs Static budget – is a budget for a particular level of activity usually prepared at the beginning of the period Flexible budgets – enables a firm to compute expected costs for a range of activity levels 1. Before the fact: this type helps managers deal with uncertainty by allowing them to see the expected outcomes for a range of activity levels 2. After the fact: this type is used to compute what costs should have been for the actual level of activity. The difference between the actual amount and the flexible budget amount is the flexible budget variance. Total variable overhead variance Actual variable over head rate (AVOR) = actual variable overhead / actual hours Measures the aggregate effect of difference between the actual variable overhead rate Variable overhead spending variance = (AVOR * AH) – (SVOR * AH) = (AVOR – SVOR) * AH Note : SVOR is the standard variable overhead rate Variable overhead efficiency variance = (AH –SH) * SVOR Fixed overhead Analysis Fixed overhead costs are capacity costs that are acquired in advance of usage. Total fixed overhead variances Applied fixed overhead = SFOR * SH Total variance = actual fixed overhead – Applies fixed overhead FOH spending variance = AFOH - BFOH
Volume variance = budgeted fixed overhead – applied fixed overhead = Budgeted fixed overhead – (SH* SFOR) Activity- based budgeting
In addition to calculate the prime cost and conversion cost, you must take the total cost and divide it by either overhead or labour cost in each scenario
Direct labour cost and direct materials cost is how much is cost the organization to purchase the raw materials and how much labour is needed to create the product
The overhead cost is the cost other than the direct materials and direct labour cost that are incurred in the manufacturing process The statement of cost of goods manufactured is prepared using the following step: Step 1 – determine the cost of direct material used Step 2- Determine the total manufacturing costs incurred Step 3 – Determine the cost of goods manufactured The cost of finished goods available for sale is determined by adding the beginning finished goods inventory to the cost of goods manufactured during the period. The cost of goods sold is determined by subtracting the ending finished goods inventory from the cost of finished goods available for sale Beginning inventory of materials + purchases – Direct material used in production = Ending inventory of materials Total product cost = direct mat. + Direct labour + manufacturing OH Unit product cost = total product cost / number of units Prime cost = DM + DL Conversion cost = DL + Manufacturing OH
Chapter 3 – Cost behavior Cost behavior – is the general term for describing whether a cost changes when the level of output changes. (fixed cost do not change, variable cost change with material cost , and # of units produced) Cost driver: a causal measurement that causes costs to change. Identifying and managing cost drivers helps managers better predict and control costs Relevant range: is the range of output over which the assumed cost relationship is valid for the normal operations of a firm. This limits the cost relationship to the range of operations that the firm normally expects to occur.
* fixed costs are costs that in total are constant within the relevant range as the level of output varies (discretionary fixed costs can be changed or avoided relatively easily at management discretion) Variable costs are defined as costs that in total vary in direct proportion to changes in output within the relevant range Total variable costs = variable rate * amount of output Note: As a result managers will analyze aspects of FC and VC in order to determine where the main cost drivers . this will permit them to truly determine methods in which they will be able to be more efficient and to cut costs of production Mixed costs: are costs that have both fixed and variable components. (must break down this cost to the FC and the VC / unit Total cost = total fixed cost + (variable rate * # of units produced) Dependent variable: a variable whose value depends on the value of another variable Independent variable: is a variable that measures output and that explains changes in the cost or other dependent variables Step cost – displays a constant level of cost for a range of output and then jumps to a higher level of cost at some point, where it remains for a similar range of output High Low method Is a method of separating mixed costs into fixed and variable components by using just the high low data points. Step 1 – find the high point and the low point for a given data set (high point is defined as the point with the highest activity or output level) Step 2 – using high low points calculate the variable rate Variable rate = (high point cost – low point cost) / (high point output – low point output) Step 3 – calculate the fixed cost using the variable rate (using either high or low point) Fixed costs = total cost at high point – (variable rate * output high point) Fixed costs – total cost at low point – (variable rate *output low point) Step 4 – form the cost formula for materials handling based on the high low method Total cost = fixed cost + (variable rate * output level)
Chapter 4 – CVP analysis: A managerial planning tool Cost volume profit – analysis estimates how changes in costs (variable and fixed), sales volume, and price affect a company’s profit. CVP is a powerful tool for planning and decision-making. BEP – the point where total revenue equals total costs Contribution margin income statement – the focus is as a firm as a whole, therefore the cost refer to all costs of the company. The income statement format that is based on the separation of costs into fixed and variable components is called the contribution margin income statement Contribution margin: is defined as the excess of sales over variable costs CM = sales – variable cost Contribution margin ratio: is the proportion of each sales dollar available to cover fixed costs and provide profit CM % = CM /sales Change in income operations = change in sales $ * CM % Unit contribution margin – how much each individuals unit will ass to the overall profitability of the organization Unit CM = sales price per unit – VC / unit Change in income from operations = change in sales unit * unit CM BEP units - how many units needed to be sold in order to earn 0 profit(this occurs when fixed cost equals contribution margin, then operating income is $0) Operating income = sales –total variable expense –total fixed expense BEP ( units) = FC / (Price per unit –VC per unit) BEP ($) = FC / CM In other words it’s the FC divided by the contribution margin Note: of you want a target income, you must add desired value to the FC, this will indicate to managers how many units must be sold in order to achieve a certain profit level Operating income = sales – TFC – TVC
Profit volume graph: visually portrays the relationship between profits and units old. In the graph operating income is the dependent variable, and units is the independent variable. Cost volume profit graph – depicts the relationship among cost, volume, and profits by plotting the total revenue line and the total cost line on a graph. The area below BEP is lost and above is profit. This permits managers to analyze their financial position. Total revenue Total cost
BEP
Multiple product analysis Cost volume profit analysis is fairly simple in the single product setting. However, most firms produce and sell a number of products or services. Direct fixed expense – those fixed costs that can be traced to each segment and would be avoided if the segment die not exists Common fixed expense – fixed costs that are not traceable to the segments and would remain even if one of the segments were eliminated Method 1 – apply analysis separately to each product line. It is possible to obtain individual break-even points when income is defined as product margin. Method 2 – Sales mix Sales mix is measured in units old; it is a ratio of many products of each line need to be produced in order to break even. Margin of safety – is the excess of budgeted or actual sales over break-even sales. The margin of safety indicates the possible decrease in sales that may occur before an operating loss results MS $ = sales in $ - BEP $ MS u = sales in units – BEP units
Operating leverage – is the use of fixed costs to extract higher percentage changes in profits as sales activity changes Degree of operating leverage = CM / operating income % Change in operating income = DOL * % change in sales
Chapter 5 – Job order costing Job order costing – costs are assigned and accumulated by job Process costing vs . Job-order costing Job order costing - Wide variety of distinct products - Cost accumulated by job - Unit cost computed by dividing total job costs by units produced on that job
Process costing - Homogeneous products - Cost accumulated by process or department - Units cost computed by dividing process costs of the period by the units produced in the period
Actual costing – required the firm to use the actual cost of all direct materials, direct labour, and overhead, used in production to determine unit cost. Normal costing – required firms to assign actual costs of direct materials and direct labour to units produced and to apply overhead to units based on a predetermined estimate. System – determines unit cost by adding actual direct materials, actual direct labour, and estimated overhead. Note: Oh estimated by approximating the years actual OH at the beginning f the ear and then using a predetermined rate throughout the year. Normal costing and estimating overhead Step 1 – Calculating the predetermined OH rate Is calculated at the beginning of the year by dividing the total estimated annual overhead by the total estimated level of associated activity or cost driver. OH rate = estimated annual OH / estimated annual activity level Step 2 – Applying the OH to production Applied overhead is found by multiplying the predetermined overhead rate by the actual use of the associated activity for the period
Step 3 – Reconciling applied OH with actual OH or allocating applied OH to WIP and finished goods ending inventories Two types of OH actual overhead and applied overhead Actual overhead – costs are tracked throughout the year in the OH account Applied overhead – computed throughout the year and is added to actual dm and dl to get total product cost At the end of the accounting period it is time to reconcile any difference between actual and applied OH and to correct eh cost of goods sold account to reflect actual overhead spending Note: It is impossible to perfectly estimate future overhead costs and production activity Plant wide OH rate: a single OH rate calculated by using all estimated OH for a factory divided by the estimated activity level across the entire factory Department OH rate: simply estimated overhead for a department divided by the estimated activity level for that same department. Cost flow: describes the way costs are accounted for from the point at which they are incurred to the point at which they are recognized as an expense on the income statement Chapter 6 – Process Costing Process costing - A costing system that accumulates production costs by process or by department for a given period of time Sequential processing: requires that units pass through one process before they can be worked on in later processes Parallel processing: another processing pattern that requires two or more sequential processes to produce a finished good. Equivalent units of production by definition , EWIP is not complete. Thus, a unit complete and transferred out during the period is not identical to one in EWIP inventory, and the cost attached to the two units should not be the same. In computing the unit cost, the output of the period must be defined. Weighted average costing method – treats beginning inventory costs and the accompanying equivalent output as if they belong to the current period. This is done for costs by adding the manufacturing cost in BWIP.
FIFO costing method – separated work and costs of the equivalent units in beginning inventory from work and costs of the equivalent units produced during the current period. Preparing a production report Step 1 - Physical flow analysis Trace physical units of production Physical flow schedule, provided an analysis of the physical flow of units Step 2 - Calculation of equivalent units Use the percentages of how many units complete, and started in order to compute the equivalent units for the accounting period Step 3 - Computation of unit cost Step 4 - Valuation of inventories (goods transferred out and EWIP) Step 5 - Cost reconciliation Check to see if the cost to accout for are exactly assigned to inventories Goods transferred out + EWIP = BWIP + cost incurred during the period Multiple Departments When dealing with multiple departments, some goods will be transferred from one department to another. This means, some units will not be complete therefore, there are conversion cost. Thus the department receiving transferred in goods, would have three input categories: one for the transferred-in materials in, one for materials added, and one for conversion costs.
Chapter 8 – Activity base costing and management ABC costing- a system that 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 those activities Unit level activities – activities that are performed each time a unit is produced Note: ABC costing permits managers to truly identify where the cost drivers are, and will permit them to identify how to save capital for future endeavors * ABC - Products are charged for the costs of capacity they use – not for the costs of capacity they don’t use. Unused capacity costs are treated as period expenses.
Steps for Implementing ABC Identify and define activities, activity cost pools and activity measures. Assign overhead costs to activity cost pools. Calculate activity rates. Assign overhead costs to cost objects using the activity rates and activity measures. Prepare management reports. Chapter 8 – Absorption and Variable costing, and inventory management Absorption costing- assings all manufacturing costs to the product. Direct materials, direct labour, variable overhead, and fixed overhead define the cost of a product. Variable costing- assign only variable manufacturing costs to the product; these costs include direct materials, direct labour, and variable overhead. Fixed overhead is treated as a period expense and is excluded from the product cost. Product cost under absortion and variable costing Absorption costing DM DL Variable OH Fixed OH
Variable costing unit cost DM DL Variable OH
Variable income - an income that depends on the amount of products or services delivered during a period. As opposed to fixed income, which is received on a regular periodic basis and is a constant amount. 1. Production > sales – absorption income > Variable income 2. Production < sales – absorption income < Variable income 3. Production = sales – absorption income = variable income The advantages of variable costing and the contribution approach include: The data required for CVP analysis can be taken directly from a contribution format income statement. • Profits move in the same direction as sales, assuming other things remain the same. • Managers often assume that unit product costs are variable. Under variable costing, this assumption is true. • Fixed costs appear explicitly on a contribution format income statement; thus the impact of fixed costs on profits is emphasized. • Variable costing data make it easier to estimate the profitability of products, customers, and other business segments.
• •
Variable costing ties in with cost control methods, such as standard costs and flexible budgeting. Variable costing net operating income is closer to net cash flow than absorption costing net operating income.
Chapter 9 – Budgeting, Production, Cash, and Master Budget Budgets- are financial plans for the future and are a key component of planning. They identify objectives and the actions needed to achieve them. Advantages of budgeting 1. if forces managers to plan 2. it provides information that can be used to improve decision making 3. it provides a standard for performance and coordination 4. it improves communication and coordination Master budget – the comprehensive financial plan for the organization as a whole Operating budget – describe the income generating activities of a firm: sales, production and finished goods Financial budgets – detail the inflows and outflows of cash and the overall financial position Preparing the operating budget I.
Sales budget – is approved by the budget committee and describes expected sales in units and dollars. The sales forecast is just the initial estimate, and the budget committee often adjusts it.
II.
Production Budget – tells how many units must be produced to meet sales needs and to satisfy ending inventory requirements. Units to produced = expected unit sales + units in desired ending inventory (EI) – Units in beginning inventory (BI)
III.
Direct material purchases budget – tells the amount and cost of raw materials to be purchased in each time period; it depends on the expected use of materials in production and the raw materials inventory needs of the firm Purchases = direct materials need for production + direct materials in desired ending inventory – direct materials in beginning inventory
IV.
V.
VI.
VII. VIII.
Direct labour budget – shows the total direct labour hours and direct labour cost needed for the number of units in the production budget. As with direct materials, the budgeted hours of direct labour are determined by the relationship between labour and output Overhead budget – shows the expected cost of all production costs other than direct materials and direct labour. Many companies use direct labour hours as the driver for overhead. Ending finished goods inventory budget- supplies information needed for the balance sheet and also serves as an important input for the preparation of the cost of goods sold budget. Cost of goods sold budget – reveals the expected cost of the goods to be sold. Selling and administrative expenses budget – outlines planned expenditures for non-manufacturing activities.
Note: operating income is not equivalent to the net income of a firm. To yield net income, interest expense and taxes must be subtracted from operating income. Preparing the financial budget A. The cash budget includes cash receipts, disbursements, any excess or deffiency of cash, and financing (basically cash inflows – cash outflows) B. The budget balance sheet C. The budget for capital expenditure
Chapter 10 – Standard costing: A managerial control tool To determine the unit standard cost for a particular input, two decisions must be made: 1. The amount of input that should be used per unit of output 2. The amount that should be paid for the quantity of the inpiut to be used Ideal standards – demand maximum efficiency and can be achieved only if everything operates perfectly Currently attainable standards - can be achieved under efficient operating conditions Standards product costs Standard quantity of materials allowed (SQ) – the quantity of materials that should have been used to produce the actual output (unit material * actual output)
Standard hours allowed (SH) – the direct labour hours that should have been used to produce the actual output (unit labour standard * actual output) Variance analysis Total budget variance – the difference between the actual cost of the input and its planned cost. Total variance = actual cost – Planned cost = (AP * AQ) – (SP * SQ) Price variance – the difference between actual and standard price of an input multiplies by the number of inputs used: (AP – SP) * AQ. Usage efficiency variance – the difference between the actual and standard quantity of inputs multiplied by the standard unit price of the input (AP – SQ) * SP. Unfavorable variances – occur whenever actual prices or actual usage of inputs are greater than standard prices or standard usage. Favorable variance – occur whenever actual prices or actual usage of inputs are lower than standard prices or standards usage. Price variance = (AQ * AP) – (AQ * SP) = (AP – SP) * AQ Usage variance = (AQ * SP) – (SQ * SP) = (AQ –SQ) * SP Total variance = (AQ * AP) – (SQ * SP) Materials price variance - measures the difference between what should have been paid for raw materials and what was actually paid for raw materials and what was actually paid MPV =(AP * AQ) – (SP * AQ) Material usage variance – measures the difference between the direct materials actually used and the direct materials that should have been used for the actual output MUV = (SP*AQ) – (SP * SQ) or MUV = (AQ – SQ) * SP Direct labour variance- computes the difference between what was paid to direct laborers and what should have been paid LRV = ( AR * AH) – (SR * AH) or LRV = (AR – SR) * AH Labour efficiency variance – measures the difference between the labour hours that were actually used and the labour hours that should have been used
LEV = (AH * SR) – (SH * SR) or LEV = (Ah – SH) * SR Chapter 11 – Flexible budgets and Overhead Analysis Performance report- compares actual cost with budgeted costs Static budget – is a budget for a particular level of activity usually prepared at the beginning of the period Flexible budgets – enables a firm to compute expected costs for a range of activity levels 1. Before the fact: this type helps managers deal with uncertainty by allowing them to see the expected outcomes for a range of activity levels 2. After the fact: this type is used to compute what costs should have been for the actual level of activity. The difference between the actual amount and the flexible budget amount is the flexible budget variance. Total variable overhead variance Actual variable over head rate (AVOR) = actual variable overhead / actual hours Measures the aggregate effect of difference between the actual variable overhead rate Variable overhead spending variance = (AVOR * AH) – (SVOR * AH) = (AVOR – SVOR) * AH Note : SVOR is the standard variable overhead rate Variable overhead efficiency variance = (AH –SH) * SVOR Fixed overhead Analysis Fixed overhead costs are capacity costs that are acquired in advance of usage. Total fixed overhead variances Applied fixed overhead = SFOR * SH Total variance = actual fixed overhead – Applies fixed overhead FOH spending variance = AFOH - BFOH
Volume variance = budgeted fixed overhead – applied fixed overhead = Budgeted fixed overhead – (SH* SFOR) Activity- based budgeting
