Managerial Accounting

Review Session: key terms and concepts

Classifications of Costs

DirectMaterials

DirectMaterials

DirectLaborDirectLabor

ManufacturingOverhead

ManufacturingOverhead

PrimeCost

ConversionCost

Manufacturing costs are oftencombined as follows:

Quick Check

Which of the following costs would be considered manufacturing overhead at Boeing? (More than one answer may be correct.)

A. Depreciation on factory forklift trucks.

B. Sales commissions.

C. The cost of a flight recorder in a Boeing 767.

D. The wages of a production shift supervisor.

Quick Check

Which of the following costs would be considered manufacturing overhead at Boeing? (More than one answer may be correct.)

A. Depreciation on factory forklift trucks.

B. Sales commissions.

C. The cost of a flight recorder in a Boeing 767.

D. The wages of a production shift supervisor.

Product Costs Versus Period Costs

Product costs include direct materials, direct labor, and manufacturing overhead.

Period costs are not included in product costs.

They are expensed on the income statement.

Inventory Cost of Good Sold

BalanceSheet

IncomeStatement

Sale

Expense

IncomeStatement

Quick Check

Which of the following costs would be considered a period rather than a product cost in a manufacturing company?

A. Manufacturing equipment depreciation.

B. Property taxes on corporate headquarters.

C. Direct materials costs.

D. Electrical costs to light the production facility.

Quick Check

Which of the following costs would be considered a period rather than a product cost in a manufacturing company?

A. Manufacturing equipment depreciation.

B. Property taxes on corporate headquarters.

C. Direct materials costs.

D. Electrical costs to light the production facility.

Cost Classifications for Predicting Cost Behavior

How a cost will react to changes in the level of

business activity.

– Total variable costs change when activity changes.

– Total fixed costs remain unchanged when activity changes.

How a cost will react to changes in the level of

business activity.

– Total variable costs change when activity changes.

– Total fixed costs remain unchanged when activity changes.

Cost Classifications for Predicting Cost Behavior

Behavior of Cost (within the relevant range)

Cost In Total Per Unit

Variable Total variable cost changes Variable cost per unit remainsas activity level changes. the same over wide ranges

of activity.

Fixed Total fixed cost remains Fixed cost per unit goesthe same even when the down as activity level goes up. activity level changes.

Opportunity Costs

The potential benefit that is given up when one alternative is selected over another.Example: If you werenot attending college,you could be earning$15,000 per year. Your opportunity costof attending college for one year is $15,000.

Sunk Costs

Sunk costs cannot be changed by any decision. They are not differential costs and should be

ignored when making decisions.

Example: You bought an automobile that cost $10,000 two years ago. The $10,000 cost is sunk because whether you drive it, park it, trade it, or sell it, you cannot change the $10,000 cost.

Types of Costing Systems Used to Determine Product Costs

ProcessCosting

Job-orderCosting

Many different products are produced each period.

Products are manufactured to order.

Cost are traced or allocated to jobs.

Cost records must be maintained for each distinct product or job.

Chapter 4

Types of Costing Systems Used to Determine Product Costs

ProcessCosting

Job-orderCosting

Typical job order cost applications: Special-order printing Building construction

Also used in the service industry Hospitals Law firms

Estimated total manufacturingoverhead cost for the coming period

Estimated total units in theallocation base for the coming period

POHR =

The predetermined overhead rate (POHR) used to apply overhead to jobs is determined

before the period begins.

Application of Manufacturing Overhead

Ideally, the allocation base is a cost driver that causes overhead.

Application of Manufacturing Overhead

Overhead applied = POHR × Actual activity

Actual amount of the cost driver such as units produced, direct labor hours, or machine hours.

Incurred during the period.

Based on estimates, and determined before the

period begins.

Raw MaterialsMaterial

Purchases

Direct Materials

Direct Materials

Mfg. Overhead

Indirect Materials

Job-Order System Cost FlowsWork in Process(Job Cost Sheet)

Indirect Materials

Actual Applied

Job-Order System Cost Flows

Direct Labor

Mfg. Overhead

Salaries and Wages Payable

Work in Process(Job Cost Sheet)

Direct

Materials

OverheadApplied to

Work inProcess

IndirectLabor

Direct Labor

Overhead Applied

IndirectLabor

Indirect Materials

Actual AppliedIf actual and applied

manufacturing overheadare not equal, a year-end adjustment is required.

If actual and applied manufacturing overheadare not equal, a year-end adjustment is required.

Cost ofGoodsMfd.

Finished Goods

Cost ofGoodsSold

Cost ofGoodsMfd.

Cost of Goods Sold

Cost ofGoodsSold

Job-Order System Cost FlowsWork in Process(Job Cost Sheet)

Direct

MaterialsDirect Labor

Overhead Applied

Assigning Costs UsingWeighted-Average Costing

Now let’s examine the five-step process.

Beginning Inventory250 units

1,000 unitsstarted

EndingInventory150 units

1,250 units1,100 unitscompleted

BeginningWork in Process

250 Units100% Complete

EndingWork in Process

150 Units100% Complete

1,000 Units Started

850 Units Startedand Completed

Weighted Average Example

MaterialsMaterials

1,100 Units Completed

150 Equivalent Units 150 × 100%

1,250 Equivalent units of production

BeginningWork in Process250 Units

80% Complete

EndingWork in Process

150 Units33 1/3% Complete

1,000 Units Started

850 Units Startedand Completed

Weighted Average Example

ConversionConversion

1,100 Units Completed

50 Equivalent Units150 × .333%

1,150 Equivalent units of production

Work to Complete Process

20%

250 Units

CVP: The Profit Equation

(P × X) - [(V × X) + F]=

(P – V)X – F=

Finding Target Volumes

TargetVolume(units)

=Fixed costs + Target profit

Contribution margin per unit

Break-Even in Units

Let’s use the Hap Bikes information again.

Total Per Unit PercentSales (500 bikes) 250,000$ 500$ 100%Less: variable expenses 150,000 300 60%Contribution margin 100,000$ 200$ 40%

Less: fixed expenses 80,000 Net income 20,000$

Contribution margin ratio

Using CVP to Analyze Different Cost Structures

High Variable Company %

Hi Fixed Company %

(50,000 units) (50,000 units)Sales 500,000$ 100% 500,000$ 100%Variable costs 400,000 80% 100,000 20%Contribution margin 100,000 20% 400,000 80%Fixed costs 40,000 8% 340,000 68%Operating profit 60,000$ 12% 60,000$ 12%

Break-even units 20,000 42,500 Contribution margin per unit 2.00$ 8.00$

Margin of Safety

• Excess of projected (or actual) sales over the break-even volume.

• The amount by which sales can fall before the company is in the loss area of the break-even graph.

Sales Break-even Sales Break-even volume sales volumevolume sales volume = = Margin of SafetyMargin of Safety––

Identifying Relevant Costs

Costs that can be eliminated (in whole or in part) Costs that can be eliminated (in whole or in part) by choosing one alternative overby choosing one alternative over another areanother are avoidableavoidable costs. Avoidable costs are relevant costs. Avoidable costs are relevant

costs.costs.

Unavoidable costs are never relevant and include:Unavoidable costs are never relevant and include:Sunk costs.Sunk costs.Future costs thatFuture costs that do not differdo not differ between the between the

alternatives.alternatives.

Costs that can be eliminated (in whole or in part) Costs that can be eliminated (in whole or in part) by choosing one alternative overby choosing one alternative over another areanother are avoidableavoidable costs. Avoidable costs are relevant costs. Avoidable costs are relevant

costs.costs.

Unavoidable costs are never relevant and include:Unavoidable costs are never relevant and include:Sunk costs.Sunk costs.Future costs thatFuture costs that do not differdo not differ between the between the

alternatives.alternatives.

Quick Check

Colonial Heritage makes reproduction Colonial Heritage makes reproduction colonial furniture from select hardwoods.colonial furniture from select hardwoods.

The company’s supplier of hardwood will only be able to The company’s supplier of hardwood will only be able to supply 2,000 board feet this month. Is this enough supply 2,000 board feet this month. Is this enough hardwood to satisfy demand?hardwood to satisfy demand?a. Yesa. Yesb. Nob. No

Chairs Tables Selling price per unit $80 $400 Variable cost per unit $30 $200 Board feet per unit 2 10 Monthly demand 600 100

Quick Check

The company’s supplier of hardwood will only be able to The company’s supplier of hardwood will only be able to supply 2,000 board feet this month. What plan would supply 2,000 board feet this month. What plan would maximize profits?maximize profits?a. 500 chairs and 100 tablesa. 500 chairs and 100 tablesb. 600 chairs and 80 tablesb. 600 chairs and 80 tablesc. 500 chairs and 80 tablesc. 500 chairs and 80 tablesd. 600 chairs and 100 tablesd. 600 chairs and 100 tables

Chairs Tables Selling price per unit $80 $400 Variable cost per unit $30 $200 Board feet per unit 2 10 Monthly demand 600 100