Management accounting

Cost classification
Product/service cost consists of:

- Material costs
- Labor costs
- Other expenses:
o Rent/interest rates
o Electricity/gas bill
o Depreciation

Direct cost vs. Indirect cost

Each cost component listed above is classified into 2 types: direct cost or indirect cost

Example of indirect costs:

- Material costs: cleaning material

- Labor costs: supervisor’s salary
- Other expenses: building insurance

Total cost
Total cost = direct cost + indirect cost

= direct cost + overhead

Direct material
Is any composition of a product, include:

- Component parts
- Semi-finished work: eg SFG moved from plant A to plant B to continue production is direct
material cost in plant B
- Primary packing materials

Direct labor
Pay (both normal time & overtime) of labors who spend time on production.

Trends in labor costs:

- Ratio of Labor costs to production cost decreases when use of machinery increases hence
depreciation increases
- Skillful labor costs & sub-contractors’ costs increases when labor costs decreases

Direct expenses (chargeable expenses)

Charged directly to production of a product, eg

- Hire of tools
- Repair of tools
Production Overhead (factory overhead)
Includes:

- Indirect materials costs: cannot be traced in FG

- Indirect labor costs
- Indirect expenses
o Rent, rates, insurance of factory
o Dep, fuel, power, maintenance of plant, machinery, buildings

Administration overhead
Eg:

- Dep of buildings, equipment

- Office salaries of directors, secretaries, accountants
- Rents, insurance, lighting, cleaning, telephone, …

Selling overhead
Eg:

- Catalogue/prices list printing

- Salesmen salaries
- Advertising, sales promotion, market research
- Rent, insurance of sales office, showroom
- Bad debts

Distribution overhead
Eg:

- Packing costs
- Salaries of packers, drivers, …
- Rent, insurance of warehouse

Costs by function
Traditional costing system, costs are classified as below:

- Production costs (manufacturing cost): cost associated with factory

- Admin costs: costs associated with general office department
- Marketing, selling & distribution costs: cost associated with marketing, sales, warehousing, and
transportation departments

Functional costs
Types of functional costs:

- Production costs:
o Involve from supply of material to completion of manufacture of FG that is ready to kept
warehouse
o Packing cost: only primary packing
- Admin costs
- Selling costs
 - Distribution costs
- Research costs
- Financing costs

Fixed costs & variable costs

- Fixed
- Variable
- Semi-fixed (or semi-variable): eg telephone cost is likely to increase when production volume
increases, but this cost include a fix percentage cost such as line rental

Production & non-production

Production costs are allocated to units of inventory while non-production costs are not.

Eg:

A business has following costs in a period

- Material costs: 600

- Labor costs: 1000
- Production overheads: 500
- Admin overheads: 700
- Inventory No.: 100

Unit inventory value = production costs/No. inventory = (600+1000+500)/100 = 21

 Gross profits & closing inventory calculated as below:

No. sold items: 50, selling price = 40

 Profit = (40-21)*50
 Closing inventory value = (100-50)*21

Other cost classifications

- Avoidable costs: can be avoided if business activity doesn’t exist
- Unavoidable costs: incurred whether or not business activity exists
- Controllable costs: influenced by management decision & action
- Uncontrollable costs: < > controllable costs
- Discretionary costs: likely to be made b/c of decision made during budgeting process, eg training
cost, RD cost…

Cost units, cost objects, responsibility centers

Cost centers
Like in SAP, is where to collect costs before allocate them

Cost units
Unit cost of a product/service

Cost objects
Cost object is anything for which cost measurement is desired
Cost of something  St = object

Eg: cost of a product/service, cost of operating a department

Profit centers
Like in SAP, accountable for costs & revenues

Revenue centers
Accountable for revenues only

Investment centers
Responsible for capital investment (possibly also for financing) & return in investment

Responsibility centers
Cost centers, profit centers, investment centers… are responsibility centers.

Cost behavior
Definition
Cost behavior is way in which costs vary depending on changes in output level.

Application
Application of studying cost behavior

- Budgeting
- Decision-making

Levels of activity
Eg:

- No. FG produced
- No. items sold
- Value of items sold

Cost behavior principle

Common principle: As output level rises, costs usually rise.

Cost behavior patterns

Fixed costs
Unaffected by increase in output

Fixed costs are period charges, so they depend on period rather than output.

Step costs
Fixed only for a particular level of activity.

Eg: cost of producing fewer 1000 units is different from cost of producing more 1000 units.

Graphic be like:
Variable costs
Vary proportionally to output level.

Linear variable costs

Non-linear variable costs

  Each unit of output causes a less proportional increase in these variable costs

 Each unit of output causes a more proportional increase in these variable costs

Semi-variable costs
Partly affected by changes in output level.

Determine elements of semi-variable costs

High-low method

Input data: records of costs & outputs in previous periods

Eg:

Formulas:

 Then calculate fixed cost

Material costs
Inventory classification
- Raw materials
- FGs
- Work in progress WIP
 - Spare parts/consumables

Inventory storage control

Material recording
In material ledger

Free inventory
Manager needs to know balance of free inventory

Formula:

free inv = materials in inv + materials on order from vendors – materials requisitioned but not yet issued

Inventory count
Physically count on continuous- or period-basis.

- Continuous counting: count a number of items on a rotating basis. Each item is checked at least
once a year.

Obsolete inv
Out of date, need to be written off & disposed.

Wastage
Inv that is wasted, eg broken

Slow-moving
Item that takes long time to use up

Inventory control levels

Inventory costs
Including

- Purchase costs
- Holding costs
- Ordering costs
- Costs of running out inventory

Holding costs

Holding = keeping stock

Holding costs include

- Storage costs & warehouse operations: cost of storing & paying staff in warehouse
- Interests: interest on capital used to hold inventories
- Insurance costs
- Risk of obsolescence
- Deterioration: item deteriorates (no longer can be used)

Obtaining inventories costs

 - Purchase cost: item price, admin salary, accountant salary
- Transport cost
- Production run cost (if not buy outside)

Cost of running out of inventories

Inventory control levels

Are calculated to determine optimal inventories in stock.

3 critical levels:

- Reorder level
- Minimum level
- Maximum level

Data input: historical inventory usage & delivery time

Reorder level
Formula

Reorder level = max inventory usage * max lead time

Lead time = period between placing an order and items available for use

 Materials need to be reordered when inventories reach this level

Minimum level
Warning level that stockout can occur

Formula:

Min level = reorder level – average usage * average lead time

Maximum level
Warning level that wasteful level can occur

Formula:

Max level = reorder level + reorder quantity – min usage * min lead time

Economic order quantity (EOQ)

The level of order quantity that minimizes inventory costs.

Very theoretical =))

Economic batch quantity (EBQ)

Alternative of EOQ

P128. F2
Labor costs
Production vs. productivity
- Improve production
o OT
o Sub-contracting work to outside firm
o Hiring extra staff
o Manage workforce
- Improve productivity
o Cancelling OT
o Laying off staff

Production volume ratio

Formula:

Eg:

Analyzing the production volume ratio in this following business:

Company budgets to make 25.000 units of output (in 4 hours each) in 100.000 hrs.

Actual output: 27.000, actual time taken: 120.000


Efficiency ratio = 4/(120/27) = 90%

Capacity ratio = 120/100 = 120%

Production volume ratio = 27*4/100 = 108%

 Production is more than budgeted output since increase in capacity offsets decrease in
efficiency.

Remuneration method
Method to determine:

- Cost of FG
- Morale & efficiency of employees

Not exclusively to production. Labor cost is calculated company-wide

Recording of labor costs
Data flows from:

- Personnel department: transfer/discharge employees

- Production planning: job/work
- Time keeping: time in job/work for each employees
- Wages department: wages info

Labor turnover
Costs caused by labor turnover:

- Replacement costs
- Preventative costs: costs to prevent employees from leaving

Overheads
Overheads include:

- Indirect materials
- Indirect labor
- Indirect expenses

Each is split into categories:

- Production
- Administration
- Selling & distribution

2 school of thought to deal with overheads:

- Marginal costing
- Absorption costing

Absorption costing
Overheads are distributed on a fair basis to total cost of production of each unit.

Non-manufacturing overheads
Allocation reason
External reporting: non-manufacturing overheads needn’t be allocated to product cost, rather they are
considered period costs.

Internal reporting:

- selling price is based on estimate

- (service companies) selling price is added with profit margin on actual cost
 Either needs figure of total cost per unit of output

Rule to allocate
Method 1
Use SKF as for manufacturing costs eg direct labor hours, direct machine hours…

Method 2

Use manufacturing costs as basis to allocate non-manufacturing overheads

Marginal costing
Only variable costs are added into production cost, while fixed costs are considered period expenses.

Marginal production cost includes:

- Direct material
- Direct labor
- Variable production overheads