Cost Accounting Final Exam

CVP assumptions

1. Number of units sold is the only revenue driver and the only cost driver. Changes in the levels of revenues and costs arise only because of changes in the number of product or service units sold. 2. Total costs can be separated into fixed and variable costs. 3. Total revenues and total costs graphs are linear within a relevant range and time period 4. SP, VC per unit, and total FC within a relevant range and time period are constant.

Key Management Accounting Guidelines

1. cost-benefit approach: for resource allocation decisions 2. behavioral and technical considerations: motivation and appropriate information 3. different costs for different purposes •purposes: performance evaluation, external reporting, and internal decision making

Job Costing approach to assign costs to individual jobs

1. identify the Job that is the chosen cost object 2. identify the direct costs of the Job: direct materials and direct manufacturing labor 3. select cost-allocation bases to use for allocating indirect costs to the Job determine cost driver: setting up machines, moving materials, designing jobs 4. identify indirect costs associated with each cost-allocation base 5. compute the rate per unit of each cost-allocation base used to allocate indirect costs to the Job budgeted manuf OH rate=budgeted manuf OH costs/budgeted total quantity of cost-alloc base 6. compute the indirect costs allocated to the Job = actual quantity of each different allocation base * indirect cost rate for each allocation base 7. compute total cost of the Job = Direct Materials + Direct Manufacturing Labor + Manuf OH

Guidelines for refining a costing system

1.direct-cost tracing: identify as many direct costs as is economically feasible 2.indirect-cost pools: increase cost pools so each pool is homogeneous and each cost in the pool has a similar cause-and-effect relationship with a single cost driver 3.cost-allocation bases: use the cost driver (cause of indirect costs) as cost allocation base for each homogeneous indirect-cost pool (the effect)

Reasons for refining a costing system

1.increase in product diversity: growing demand for customized products has led to product diversity with the results that products and services demand differing quantities of resources 2.increase in indirect costs: product and process technology has decreased direct costs (especially direct labor) with a resulting increase in indirect costs 3.competition in product markets: markets are more competitive, forcing managers to obtain more accurate cost information for strategic decisions, such as pricing and product mix

Developing an operating budget

1.revenues budget = sales budget 2.production budget in units with projections about inventory levels 3.direct materials usage and direct materials purchases budgets; predict DM levels and prices 4.direct manufacturing labor cost budget; use labor standards to calculate direct labor cost 5.manufacturing overhead cost budget; calculate a predetermined overhead application rate; 6.ending inventories budget for materials and finished goods in units and $; WIP not budgeted 7.COGS budget = beg FG + CFGM - ending FG; CFGM = DM + DL + OH 8.nonmanufacturing cost budget for selling, general, and administrative costs, including R&D, design, marketing, and distribution costs 9.budgeted (pro forma) income statement uses revenue, COGS, nonmanufacturing cost budgets

CM ratio

= CM per unit / SP per unit

Revenues - COGS

= Gross Margin - Operating costs = Operating Income

Contribution Margin

= Total revenues - Total variable costs •CM indicates why operating income changes as the number of units sold changes = CM per unit * number of units sold

Manufacturing overhead control

= actual manufacturing overhead incurred

flexible-budget variance

= actual revenues or costs - corresponding flexible budget amounts are a better measure of operating performance than static-budget variances because they compare actual revenues to budgeted revenues and actual costs to budgeted costs for the same level of output variance analysis provides suggestions for further investigations rather than evaluating performance as good or bad

Opportunity Cost

= contribution to operating income that is foregone by not using a limited resource in its next-best alternative use •in an outsourcing decision the opportunity cost is the use of the resources currently consumed by the operation being considered for outsourcing •opportunity costs are not incorporated into the formal accounting records since those records are historical records and only consider alternatives that were actually selected •carrying costs of inventory are another example of opportunity costs •relevant cost of any alternative is the incremental cost of the alternative plus the opportunity cost of the profit forgone from choosing that alternative

Manufacturing Costs

= direct material + direct manufacturing labor + manufacturing overhead

Budgets

= financial expression of the goals for the upcoming period •an effective budget requires a well-thought-out strategy •planning tool that helps achieve coordination and communication, useful to evaluate performance and motivate employees •budget is a quantitative expression of a management's proposed plan for a specified period and an aid to coordinate what needs to be done to implement the plan •strategy specifies how an organization matches its own capabilities with the opportunities in the marketplace to accomplish its objectives •master budget = expresses management's operating and financial plans for a specified period (usually a fiscal year); series of budgets including a set of budgeted financial statements •budgeted financial statements = pro forma statements

sales-volume variance

= flex budget at actual output - static budget amounts

cost assignment

= includes cost tracing (for direct costs) and cost allocation (for indirect costs)

Absorption Costing

= inventory costing in which all variable manufacturing costs and all fixed manufacturing costs are inventoriable costs •inventory absorbs all manufacturing costs •ex: job costing studied in chapter 4 •all nonmanufacturing costs, whether variable or fixed, are period expenses •method required for GAAP for external reporting •absorption costing income statement classifies cost based on character (manuf, selling, adm) •absorption costing inc statement uses gross-margin format: Rev-COGS=GM-Op exp=Op inc •absorption costing distinguishes between manufacturing and nonmanufacturing costs

static budget

= master budget = based on planned output and prepared at the start of the period

Manufacturing overhead allocated (applied)

= overhead allocated to jobs; contra account

Outsourcing

= purchasing goods and services from outside vendors rather than producing the same goods or providing the same services within the organization (insourcing) •make-or-buy decisions: insource or outsource •most important factors: quality, dependability of suppliers, costs •incremental cost is the additional total cost incurred for an activity •differential cost is the difference in total cost between 2 alternatives •incremental revenue is the additional revenue gained from the sale of an additional unit or from the activity

contribution income statement

= revenues - variable costs = CM - fixed costs = op. income

CM per unit

= selling price per unit - variable cost per unit •$ amount recovered for each unit sold to cover fixed costs and then add to operating income •change in operating income for each additional unit sold

Breakeven Point

BE in units = FC / CM per unit BE revenues = BE in units * SP = FC / CM ratio To break even, contribution margin = FC and operating income = 0

Implementing ABC systems

Guidelines for refining a costing system: increasing direct-cost tracing, creating homogeneous indirect-cost pools, and identifying cost drivers (cost-allocation bases) with a cause-and-effect relationship with costs in the cost pool

Control accounts

Materials Inventory, WIP Inventory, FG Inventory, Manuf. Overhead •direct materials used and direct manufacturing labor are traced to jobs and become part of WIP Inventory on the balance sheet •manufacturing overhead costs are accumulated in a manufacturing overhead account and allocated to individual jobs when they become part of WIP Inventory on the balance sheet •as individual jobs are completed, WIP Inventory becomes FG Inventory on the balance sheet •when finished goods are sold, COGS is recognized in the income statement as an expense

Target Operating Income

Q in units = (FC + Target Operating Income) / CM per unit Desired revenue = (FC + Target Operating Income) / CM ratio

Direct Costs

cost related to a particular cost object and can be traced to it in an economically feasible way

Sunk costs

costs that have been incurred; past costs; costs cannot be changed; irrelevant costs

Fixed Overhead Cost Variances

flexible-budget amount for fixed costs is also the amount included in the static budget at the beginning of the period because fixed costs are not affected by changes in output

Variable overhead cost variances

variable OH flexible budget variance: efficiency variance and spending variance

Cost Driver

•a variable that has a cause-and-effect relationship between a change in the level of activity or volume and a change in the level of total costs over a given span of time •ex: miles driven is often a cost driver for distribution costs

Period costs

•all costs in the income statement other than COGS; treated as expenses when incurred •ex: marketing, distribution and customer service costs

Inventoriable costs

•all costs of a product that are considered as assets on the balance sheet when incurred •all manufacturing costs = inventoriable costs = product costs = DM + DL + factory OH •included in WIP and FG inventory; become COGS when product is sold

Indirect Costs

•any cost related to a particular cost object that cannot be traced to it •factory overhead = manufacturing overhead •cost allocation = assigning indirect costs to a cost object •ex: plant administration costs, lease cost, supplies

Variable overhead spending variance

•arises because the items that make up variable overhead cost more or less than was budgeted •causes: indirect materials quality, purchasing manager price negotiation skill, market supply

Timeline

•at beginning of year: determine budgeted manufacturing overhead rate based on predictions of annual manufacturing overhead costs and the annual quantity of the cost-allocation base •record Materials Inventory when purchased •record DM used and DL incurred as WIP Inventory when they are used •record indirect materials used as Manufacturing Overhead Control as they are used •record indirect labor as Manufacturing Overhead Control as they are incurred •record other actual overhead costs as Manufacturing Overhead Control as they are incurred •as jobs are completed, manufacturing overhead costs are allocated to WIP Inventory Control and added to individual jobs •as goods are completed, jobs are transferred from WIP to FG Inventory Control •when goods are sold, record COGS (expense) and revenue, decrease FG Inventory •at month-end, period costs are recorded as expenses in income statement •at year-end, under- or over-applied overhead is recorded as an adjustment

Flexible budget

•calculates budgeted revenues and budgeted costs based on actual output in the budget period •prepared at the end of the period after the actual output is known •hypothetical budget that would have been prepared at the start of the budget period if it had correctly forecast the actual output •allows management to compare actual results with budgeted results for that activity level

Cost classification

•choice of cost object: cost may be fixed or variable •time horizon: the longer the time frame, the more costs become variable •relevant range: cost behavior patterns are valid for linear cost functions within a given range

Job-Costing system

•cost object is a unit or multiple units of a distinct product or service called a job •job-costing systems accumulate costs separately for each product or service

ABC Activity-Based Costing

•costing system for companies that produce a variety of products •allocate costs based on the varying resource demands of each product •help companies make better decisions about pricing and product mix •assist companies in decisions about product design by providing more accurate information on how different products and services use resources •ABC systems identify activities as the cost objects

Cost Management

•describes the approaches and activities of managers to use resources to increase the value to customers and to achieve organizational goals •is not just about reducing costs, but involves revenue and profit planning as well

Variance

•difference between actual results and expected performance or budgeted performance •managers use management by exception to highlight areas not operating as expected

Management uses of variances

•evaluate performance after decisions are implemented  effectiveness = degree to which a predetermined objective or target is met  efficiency = relative amount of inputs used to achieve a given output level •trigger organizational learning  understand why variances arise, learn from them, and improve future performance •make continuous improvements  identify causes of variances, initiate corrective actions, evaluate results of actions •variances should not be interpreted in isolation •variances should be investigated when they are material

Cost

•every dollar in cost reduction = one more dollar in operating income; one more dollar of sales does not necessarily give the same results due to additional costs to generate those sales •actual cost = cost incurred = historical cost = past cost •budgeted cost = predicted cost = forecasted cost = future cost •relevant range = range of activity within which costs behave as predicted

Fixed Overhead flexible-budget variance

•fixed OH flex-budget variance = fixed OH spending variance •no fixed OH efficiency variance because fixed OH is unaffected by how efficiently the allocation basis is used to produce output •fixed OH spending variance = actual fixed OH costs - flex-budget fixed OH costs •causes: higher plant-leasing costs, higher plant and equipment depreciation, higher adm. cost

Planning fixed overhead costs

•fixed overhead: plant leasing costs, plant equipment depreciation, plant managers' salaries •major challenge: managers must choose the appropriate level of capacity or investment that will benefit the company in the long run •timing: most decisions on fixed costs are made by the beginning of the budget period •fixed costs provide capacity: the level of fixed costs must be determined well in advance of the budget period and those costs are frequently locked in for an extended time period and can have a long-term effect on company profitability

Financial Accounting

•focuses on reporting to external parties (investors, government agencies, banks, suppliers) •measures and records business transactions; provides financial statements based on GAAP •primarily reports on economic events •historical focus

Learning curve

•function that measures how labor-hours per unit decline as units of production increase •80% cumulative average-time learning curve: when the units produced doubles from X to 2X, cumulative average time per unit is 80% of cumulative average time per unit for X units •in setting prices, preparing budgets, and determining standards, a company needs to consider the learning curve effect; as production increases to meet demand, cost per unit decreases

Variable overhead efficiency variance

•measures the efficiency with which the cost-allocation base is used •causes: skill levels of workers, maintenance of machines, manufacturing process efficiency

Cost Accounting

•measures, analyzes, and reports financial and nonfinancial information relating to the costs of acquiring or using resources in an organization •provides information for management accounting and financial accounting

Managerial Accounting

•measures, analyzes, and reports financial and nonfinancial information that helps managers make decisions to fulfill the goals of an organization •focuses on internal reporting •not restricted by GAAP but are based on cost-benefit analysis •influences the behavior of managers and other employees •future oriented

Special Orders

•one-time-only special order decision is a one-time opportunity to sell a number of units at less than full cost when there is idle production capacity and the special orders have no long-run implications

Identifying Cost Drivers

•only a cause-and-effect relationship - not merely correlation - establishes an economically plausible relationship between the level of an activity and its costs •identifying cost drivers gives managers insights into ways to reduce costs and confidence that reducing the quantity of the cost drivers will lead to a decrease in costs •always use a long time horizon to identify cost drivers on the basis of data gathered over time •economically-plausible, cause-and-effect relationship may arise from:  physical relationship between the level of activity and costs: DM and units produced  contractual arrangement  knowledge of operations: products with many parts have higher ordering costs

Production-volume variance

•production-volume variance = denominator-level variance = arises only for fixed costs •production-volume variance is an indicator of the use of capacity •favorable production-volume var: company exceeded planned capacity; FOH is overallocated •unfavorable production-volume variance: unused capacity; FOH is underallocated •production-vol variance = budgeted fixed OH - fixed OH allocated based on units produced

Advantages of budgets

•promote coordination and communication; motivate managers and other employees •provide a framework for judging performance and facilitating learning

Relevant-cost analysis

•relevant costs = expected future costs that differ among the alternative courses of action •relevant revenues = expected future revenues that differ among the alternative actions •incorrect assumptions: all variable costs are relevant and all fixed costs are irrelevant •use total revenues and total costs (not unit revenue or unit cost)

Cost-volume-profit (CVP) analysis

•studies the behavior of total revenues, total costs, and operating income as changes occur in the units sold, the selling price, the variable cost per unit, or the fixed costs of a product.

Throughput Costing

•throughput costing = super-variable costing = extreme form of variable costing in which only direct material costs are inventoriable costs •all costs other than direct material costs are period expenses •throughput margin = revenues - all direct material COGS •throughput costing provides less incentive to produce for inventory than either variable costing or absorption costing •if production exceeds sales, throughput costing results in largest amount of expenses •throughput costing is a recent phenomenon and is not yet widely adopted

Challenges in administering budgets

•time-consuming process that involves all levels of management •management at all levels should understand and support the budget •budgets should not be administered rigidly; changing conditions call for changes in plans

Variable Costs

•total cost changes in proportion to changes in the related level of total activity or volume •defined for a specific activity and for a given time period •variable cost per unit is constant

Fixed Costs

•total fixed cost remains unchanged for a given time period regardless of activity level •defined for a specific activity and for a given time period •fixed cost per unit varies inversely with activity level or volume

Cost behaviors

•variable cost function: cost increases in total as the level of the cost driver increases b = slope coefficient = amount by which the cost increases as the cost driver increases •fixed cost function = cost does not change in response to changes in level of activity a = constant •mixed cost function = semivariable cost = cost that has both variable and fixed component •ex: car rental flat rate of $50 per day: fixed cost function per mile rate of $1.00 per mile: variable cost function $25 per day plus $.50 per mile: mixed cost function

Variable Costing

•variable costing = direct costing (misnomers) •variable costing = inventory costing in which all variable manufacturing costs (direct and indirect) are inventoriable costs; all fixed manufacturing costs are period expenses •all nonmanufacturing costs, whether variable or fixed, are period expenses •variable costing income statement classifies cost based on behavior •var costing inc statement uses contribution margin format: Rev - VC = CM - FC = Op Inc •variable costing distinguishes between variable and fixed costs

Planning variable overhead costs

•variable overhead: utilities, machine maintenance, engineering support, indirect materials •managers must focus on activities that create a superior product or service and eliminate activities that do not add value •timing: day-to-day operating decisions affect the level of variable costs incurred in the period