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Accounting
• Financial (GB201)
• Users of information are external
• Managerial (GB202)"Cost Accounting"
• Users of information are internal
Period Costs
• General, Selling, and Administration costs (G, S, & A)
• All costs outside of Production Costs
Value Chain
• Research and Development
• Obtain Materials
• Manufacturing
• Marketing
• Delivery
Value-added activities
• Includes steps involved in the actual processing of goods or services
Production Cost
• If not sold then it is an inventory and is an Asset
• If it is sold it is a Cost of goods sold and is an Expense
Fixed Cost
• Set costs that do not change with quantity
• Higher the quantity = less cost per unit
• i.e Rent
Chapter 2:
Cost Behavior
• Fixed Cost
• Total
Will remain the same depending on quantity
• Per Unit
Changes inversely as output changes
Inverse relationship
• Operation Leverage
• How managers magnify small changes in revenue into dramatic
changes in profitability
Uses fixed cost as a lever
• (alternative measure - base measure) / base measure = % change
• Variable Cost
• Total
Varies with level of output
Changes proportionally as output changes
• As sales increase there is no magnification in profitability only a
direct correlation
• Contribution margin
Subtract variable costs from revenue
Represents the amount available to cover fixed expenses and
thereafter to provide company profits
Operation leverage using contribution margin
• Magnitude of operating leverage = contribution margin / net income
• Shows percent change in revenue as profitability increases
• Operating Leverage x change in sales = change in net income
• Mixed Cost
• Includes both fixed and variable components
• Total cost = fixed cost + (variable cost per unit x number of units)
Relevant range
• Range of activity over fixed and variable costs are valid
High-low method
• How to separate mixed cost from variable cost
• Assemble sales volume and cost history for an existing store
• Select the high and low points in the data set
• Determine the estimated variable cost per unit
• Variable cost per unit = difference in total cost / difference in volume
• Determine the estimated total fixed cost
• Fixed cost + Variable cost = total cost
R2 statistic
• Represents the percentage of change in the dependent variable (total
cost) that is explained by a change in the independent variable (units
sold).
Chapter 3:
Break-even point
• where profit equals zero (= fixed costs/ Contribution margin per unit)
• Multiply by sales price per unit to obtain the dollar amount
• Total fixed cost + total variable cots = break even point
Contribution Margin Ratio
• Contribution margin / revenue
Equation Method (most important approach)
• Fixed Cost / Contribution Margin Ratio
• Sales revenue- Variable costs - Fixed costs = Profit (Net Income)
Pricing Strategies
• Cost plus pricing - sets the selling price at cost plus a markup equal
to a percentage of the cost
• Prestige pricing - sets the selling price at a premium under the
assumption that customers will pay more because of its prestigious
brand name, media attention, etc
• Target pricing - sets the selling price by determining the price at
which a product that will satisfy market demands will sell and then
developing that product at a cost that results in a profit
Cost-Volume-Profit (CVP) Graph - break even chart
Margin of Safety - measures the cushion between budgeted sales and the break
even point
• Margin of Safety= (budgeted sales -break even sales)/budgeted sales
Sensitivity analysis - Spreadsheet tool used to answer "what if" questions to assess
the sensitivity of profits to simultaneous changes in fixed cost, variable cost, and
sales volume
GB202 (Behavior)
Chapter 4:
Cost accumulation
• Cost of product
• Cost of advertising and promotion
• Cost of labor
Cost objects
• Primary cost object is cost of promotion
Cost driver
• How many units
• How many advertisements
• How many labor hours
Cost tracing
• Assigning costs to the departments(cost objects)
Direct Costs
• Can be traced to cost objects in a cost-effective manner
• Direct Materials
• Receipts, statements can tell us how much raw materials were purchased
• Direct Labor
• Payroll can tell us how much people worked and how much they will be
paid
Indirect Costs
• Cannot be traced to objects in a cost-effective manner
• Cannot be accurate until end of the production cycle
• Must ESTIMATE
Common costs
• Support multiple cost objects, but cannot be directly traced to any specific
objects
Controllable costs
• Costs that can be influenced by a manager's decisions and actions
Cost allocation
• Dividing a total cost into parts and assigning the parts to designated cost
objects
Volume measures are good cost drivers for allocating variable costs
• Supplies such as glue, staples (variable costs) depend on how many desks
there are
• The most accurate allocations of indirect costs may actually require using
multiple cost drivers
• Such as units, labor hours, direct material costs
In class
Direct Costs
• Can be traced to cost objects in a cost-effective manner
• Direct Materials
• Receipts, statements can tell us how much raw materials were
purchased
• Direct Labor
• Payroll can tell us how much people worked and how much they will
be paid
Indirect Costs
• Cannot be traced to objects in a cost-effective manner
• Cannot be accurate until end of the production cycle
• Must ESTIMATE
Common costs
• Support multiple cost objects, but cannot be directly traced to any specific
objects
Controllable costs
• Costs that can be influenced by a manager's decisions and actions
Cost allocation
• Dividing a total cost into parts and assigning the parts to designated cost
objects
Volume measures are good cost drivers for allocating variable costs
• Supplies such as glue, staples (variable costs) depend on how many desks
there are
• The most accurate allocations of indirect costs may actually require using
multiple cost drivers
• Such as units, labor hours, direct material costs
Chapter 5:
Types of decisions
• Special offers
• Outsourcing ( Make or Buy Decisions)
• How reliable is the supplier
• Opportunity costs for vacancy
• Questionable quality of the product
• Old vs. New Equipment
• Continuing to use the equipment
may cause resale value will decrease
Longer we keep the equipment more repairs
• Operating costs will increase
• Buying new equipment
Salvage value will be higher
Decrease in operating costs
• Segment Elimination
• If we eliminate a product line
The contribution margin will be lost
Then fixed costs will be distributed among other projects
Cost hierarchy for Avoidable costs
• Unit-Level Costs
• Avoiding costs of materials and labor
• A product that is produced one at a time
• Batch-Level Costs
• Setup Costs
• Inspection costs
• Product-Level Costs
• Legal costs
Ie to publish a book
• Engineering costs
• Facility-Level Costs
• Depreciation of factories machines
• utilities
• Not relevant for decision making
• Very difficult to get rid of
• i.e. shutting down the company
Chapter 7:
Planning cycle
Plan ->Do -> Check against your plan -> Act (performance review)
3 Categories of Planning
• Strategic Planning
○ Long-term decisions such as defining the scope of the business,
determining which products to develop or discontinue, and identifying the
most profitable market niche
○ Top level management budgeting
○ Long term planning (more then a year)
○ Participative Budgeting
• When you start from the bottom
These employees know the costs better then top level
management
○ Top level management might create an Ideal Budget
• Realistic Budget
When the employees set a budget that is suitable for the job
• Slack Budget
When the company puts the budget too high and it is easy for
employees
Employees will take breaks and be non productive
• Capital Budgeting
○ Pay-Back Period
• Analyse each project and determine how long they will earn their
capital back
• Pick the project that will pay back the fastest (Bird in Hand theory)
○ Net Present Value
• Discount all future cash in flows to "today's money"
• Highest npv is the one that the company will pick
○ Accounting Rate of Return
• Accounting analysis
• Looking for highest net income
○ Profitability Index
Advantages of Budgeting
• Planning
• Goals of the company
• Budgeting formalizes and documents managerial plans in order to
clearly communicate objectives to superiors and subordinates.
• Coordination
• Different departments cooperate to promote overall good
• Budgeting process forcers coordination among departments to
promote decisions in the best interests of the company as a whole
• Enhances Performance Measurements
• Comparing budgeted expectations to actual performance
• Enhance Corrective Actions
• Provides advance notice of potential shortages, bottlenecks, or other
weaknesses in operating plans
• Advises managers of potential problems in time for them to carefully
devise effective solutions
Purchases Budget
Budgeted Sales (COGS) xxx
+Desired Ending Inventory xxx
Total inventory Needed xxx
-Beginning Inventory (xxx)
Required Purchases XXX
Cash Budget
• Alerts management to anticipated cash shortages or excess cash balances
• Divided into three sections
• Cash receipts section
Beginning cash balance
Add cash receipts (sales budget)
• Cash payments section
Cash payments from inventory purchases
For S&A expense
For interest Expense
For purches of store fixtures
• Financing section
Surplus (shortage)
Borrowing (Repayment)
Chapter 8:
Flexible budget
• Extension of the master budget discussed previously
• Show expected revenues and costs at a variety of volume levels
Variances
• Difference between standard and actual amounts
• Can be favorable or unfavorable
• Actual sales revenue is greater then expected sales revenue = favorable
• Actual sales revenue is less then expected sales revenue = unfavorable
• Actual costs exceed standard costs = unfavorable
• Actual costs are less than standard costs = favorable
Sales volume variance
• Difference between the static budget and a flexible budget based on actual
volume
Variable cost volume variances
• Differences between the static and flexible budget amounts
Spending variances
• Differences between budgeted fixed costs and actual fixed costs
• i.e. an unexpected raise
Fixed cost volume variance
• Used to monitor the effects of volume on fixed cost per unit
Flexible budget variances
• Differences between the flexible budget figures and the actual results
Management by exception
• Managers should concentrate on areas not performing as expected
• Management should attend to the exceptions
• Using standard costing shows differences between actual and standard costs
• Focus attention on the items that show significant variances
Standard
• Represents the amount that a price, cost, or quantity should be under certain
anticipated circumstances
• Uses historical data is a good start to establish standards
Ideal standards
• Represent flawless performances
• What costs should be under the best possible circumstances
• Do not allow for normal materials waste and spoilage or ordinary labor
inefficiencies caused by machine downtime, cleanups, breaks, or personal
needs
• Meeting these standards are beyond the capabilities of most, if not all,
employees
• Can help strive for better performance or discourage
Practical standards
• Reasonable effort; they are attainable for most employees
• Allows for normal levels of inefficiency in materials and labor usage
• Promotes a feeling of accomplishment and produces meaningful variances
Lax standards
• Easily attainable goals
• Achieve with minimal effort
• Do not motivate; can lead to boredom and lackluster performance
• Variances lose meaning
Material variances
• Could influence management decisions
• Establish materiality guidelines for selecting variances to analyze
• Frequency
• Frequent and large variations
• Capacity to control
• Whether management action can influence the variance
• Concentrate on controllable variances
• characteristics
• Closely analyzed
• Can invite management abuse
I.e. delays for maintenance
Budget slack
• Difference between inflated and realistic standards
• When management tries to gain praise by manipulating the standard budget
Price Variance = |actual price - standard price| x actual quantity
Usage Variance = |actual quantity - standard quantity| x standard price
Performance Evaluation
Static Budget
• Master Budget
• Based on one level of activity
Flexible Budget
• Based on more then one level of activity
• Cost based