Chapter 2: Managerial Cost Concepts and Cost Behaviour Analysis

Question 1

Define the three classes of manufacturing costs.

Answer 1

The three classes of manufacturing costs are direct materials, direct labor, and manufacturing overhead.

Question 2

Differentiate between product costs and period costs.

Answer 2

Product costs are incurred at the production facility and include direct materials, direct labor, and manufacturing overhead.

Period costs are not directly tied to production and are expensed in the period in which they are incurred.

Question 3

What are direct materials?

Answer 3

Direct materials are raw materials that are physically and directly associated with the finished product during the manufacturing process and can be easily traced to it.

Question 4

What are indirect materials?

Answer 4

Indirect materials are raw materials that cannot be easily traced to the finished product due to their small size in terms of cost or because they do not physically become part of the finished product.

Question 5

Define direct labor.

Answer 5

Direct labor consists of work that can be physically and directly associated with converting raw materials into finished goods, such as the work of employees on the assembly line.

Question 6

What is indirect labor?

Answer 6

Indirect labor refers to work that has no physical association with the finished product or is administrative in nature, such as the work of maintenance staff or supervisors.

Question 7

What is manufacturing overhead?

Answer 7

Manufacturing overhead includes all costs that are indirectly associated with the manufacture of the finished product, such as indirect materials, indirect labor, depreciation, and facility costs.

Question 8

How has automation impacted manufacturing costs?

Answer 8

Automation has decreased the proportion of direct labor costs, leading to an increase in manufacturing overhead due to the costs of maintaining and operating automated equipment.

Question 9

What challenge does allocating manufacturing overhead present?

Answer 9

Allocating manufacturing overhead to specific products presents challenges because it requires determining how much of indirect costs, like salaries and utility costs, are attributable to the production of each product.

Question 10

What are prime costs?

Answer 10

Prime costs are the sum of direct materials and direct labor costs, which are all direct manufacturing costs.

Question 11

What are conversion costs?

Answer 11

Conversion costs are the sum of direct labor costs and manufacturing overhead, representing the costs of converting raw materials into a finished product.

Question 12

How are product costs different from period costs?

Answer 12

Product costs are incurred at the production facility and are inventoriable, including direct materials, direct labor, and manufacturing overhead.

Period costs are non-manufacturing costs expensed in the period they are incurred, such as selling and administrative expenses.

Question 13

What costs constitute manufacturing overhead?

Answer 13

Manufacturing overhead includes indirect materials, indirect labor, depreciation on factory buildings and machines, insurance, property taxes, and maintenance of factory facilities.

Question 14

How does automation affect labor costs?

Answer 14

Automation typically reduces direct labor costs by replacing certain manual tasks with machines, which may increase manufacturing overhead due to the costs of the technology.

Question 15

Why is distinguishing between product and period costs important?

Answer 15

It is important for accurate financial reporting and managerial decision-making, ensuring that costs are accounted for in the correct period and that inventory is valued properly.

Question 16

What are variable costs?

Answer 16

Variable costs are costs that vary in total directly and proportionally with changes in the activity level. They remain constant per unit at every level of activity.

Question 17

Provide examples of variable costs.

Answer 17

Examples include direct materials, direct labor for a manufacturer, sales commissions, and fuel for an airline or trucking company.

Question 18

What are fixed costs?

Answer 18

Fixed costs are costs that remain the same in total within the relevant range regardless of changes in the activity level.

Question 19

Give examples of fixed costs.

Answer 19

Fixed costs can include property taxes, insurance, rent, and depreciation on buildings and equipment.

Question 20

How do variable costs per unit behave?

Answer 20

Variable costs per unit remain constant regardless of the number of units produced within the relevant range.

Question 21

How do fixed costs per unit behave?

Answer 21

Fixed costs per unit decrease as the activity level increases, due to the fixed total cost being spread over more units.

Question 22

What is the relevant range?

Answer 22

The relevant range is the level of activity within which the assumptions about variable and fixed cost behavior are valid.

Question 23

How does the relevant range affect cost behavior?

Answer 23

Cost behavior assumptions are only accurate within the relevant range; outside of this range, costs may not behave as expected.

Question 24

What is the importance of understanding the relevant range in cost analysis?

Answer 24

Understanding the relevant range is important for making accurate cost predictions and budgeting decisions, ensuring that cost behaviors are correctly anticipated for the expected level of activity.

Question 25

How can a company’s management use cost behavior analysis?

Answer 25

Management can use cost behavior analysis to plan, direct, control operations, and make informed decisions based on how costs will respond to changes in business activity levels.

Question 26

What are mixed costs?

Answer 26

Mixed costs are costs that have both a variable cost component and a fixed cost component, changing in total but not proportionately with changes in the activity level.

Question 27

Can you provide an example of a mixed cost?

Answer 27

A classic example of a mixed cost is the rental of a U-Haul truck, which charges a fixed cost for having the truck available and a variable cost per kilometer driven.

Question 28

How is the fixed cost component of a mixed cost described?

Answer 28

The fixed cost component is the cost of having the component available, such as a flat service charge.

Question 29

How is the variable cost component of a mixed cost described?

Answer 29

The variable cost component is the cost that varies with the actual use of the component, such as a charge per unit of consumption.

Question 30

What would be the total cost of renting a U-Haul truck for one day if the fixed cost is $50 and the variable cost is $0.25 per kilometer for 300 kilometers?

Answer 30

The total cost would be the fixed cost plus the variable cost multiplied by the number of kilometers, which is $50 + ($0.25 * 300) = $125.

Question 31

What is the high-low method used for?

Answer 31

The high-low method is used to determine the variable and fixed components of mixed costs.

Question 32

How do you calculate the variable cost per unit using the high-low method?

Answer 32

Variable cost per unit is calculated by dividing the change in total costs at the high and low activity levels by the change in activity levels.

Question 33

How do you determine the fixed cost using the high-low method?

Answer 33

The fixed cost is determined by subtracting the total variable cost at either the high or the low activity level from the total cost at that activity level.

Question 34

What does the high-low method generally produce?

Answer 34

The high-low method generally produces a reasonable estimate for analysis but does not produce a precise regression measurement of the mixed costs.

Question 35

In the Metro Transit Company example, what are the variable and fixed costs determined by the high-low method?

Answer 35

The variable cost is $0.55 per kilometre driven, and the fixed cost is $8,000 per month.

Question 36

What are the main sections where financial statements of manufacturers differ from merchandisers?

Answer 36

The balance sheet’s inventory accounts and the cost of goods sold section in the income statement.

Question 37

What types of inventory accounts are listed on a manufacturer’s balance sheet?

Answer 37

Raw materials, work in process, and finished goods inventory.

Question 38

What does the balance sheet help managers determine in manufacturing?

Answer 38

Whether sufficient inventory exists to meet forecast demand.

Question 39

How do merchandisers and manufacturers differ in calculating cost of goods sold?

Answer 39

Merchandisers add beginning merchandise inventory to cost of goods purchased and subtract ending merchandise inventory.

Manufacturers add beginning finished goods inventory to cost of goods manufactured and subtract ending finished goods inventory.

Question 40

What is the purpose of the cost of goods manufactured schedule?

Answer 40

It details several accounts involved in determining the cost of goods manufactured for a manufacturer.

Question 41

What are beginning work in process costs based on?

Answer 41

Manufacturing costs incurred in the prior period.

Question 42

What two cost amounts are used to calculate the cost of goods manufactured?

Answer 42

The cost of the beginning work in process and the total manufacturing cost for the current period.

Question 43

How is the cost of goods manufactured determined?

Answer 43

By adding the total cost of work in process for the year to the beginning work in process inventory and then subtracting the ending work in process inventory.

Question 44

Does the “total manufacturing costs for the current year” include the “beginning work in process inventory”?

Answer 44

No, it does not include it.

Question 45

What decision does the cost of goods manufactured schedule help managers make?

Answer 45

It helps determine if the company is maintaining control over the costs of production.

Question 46

What is the advantage of the high-low method?

Answer 46

t is easy to apply and provides a cost formula that is a good fit for the data set used.

Question 47

What is a limitation of the high-low method?

Answer 47

It employs only two data points from the data set and ignores the rest, which can be misleading if those points are not representative.

Question 48

How is the variable cost per unit calculated using the high-low method?

Answer 48

By dividing the difference in total costs by the difference in activity level (kilometres driven).

Question 49

What does regression analysis provide in estimating costs?

Answer 49

A more representative cost formula by employing information from all data points.

Question 50

What are some limitations of regression analysis?

Answer 50

It assumes a linear relationship between variables, can be influenced by outliers, and requires a large number of data points for accuracy.

Question 51

How is regression analysis performed for cost estimation?

Answer 51

The formula is:

Total maintenance costs=Fixed Costs+(Variable Costs per Unit×Quantity)

Where:

Fixed Costs are represented by the Intercept, which is the point where the line of the cost function crosses the y-axis on a graph.

Variable Costs per Unit are represented by the Slope of the regression line, which indicates the change in total cost for each unit increase in the independent variable (in this case, the quantity).