chapter 32

Question 1

management accounting

Answer 1

the process of preparing reports and accounts that can be used by managers as a basis for making decisions about the future performance of the business

Question 2

cost accounting

Answer 2

a method of accounting where all the costs associated with a particular activity or product are collected together, classified and recorded

Question 3

how is data organized in management accounting

Answer 3

the organisation is gathering and analysing information that will be used as a basis for making decisions affecting the future performance and profitability of the firm.

Question 4

what information do manufacturing accounts provide

Answer 4

They provide us with information about prime cost, overheads and the cost of producing goods. This information is also used substantially in cost accounting to establish costs per unit and give information to managers to help them make informed decisions

Question 5

cost unit

Answer 5

the unit of output of a business to which costs can be charged, such as a computer for a computer manufacturer or an item of clothing for a dressmaker.

Question 6

what does direct costs include

Answer 6

direct materials (those materials from which goods are made, and carriage inwards paid on the materials)

direct labour (the wages of workers who actually make goods)

direct expenses (will vary with the number of products such as royalties and license fees).

Question 7

what do indirect costs include

Answer 7

indirect materials purchased for the factory, (e.g. cleaning materials, lubricating oil for any machinery)

indirect wages- the wages of all factory workers who do not actually make the finished goods (such as factory managers, supervisors, store staff and cleaners)

indirect expenses (will not vary with the number of products such as rent, heating and lighting, depreciation of machinery).

Question 8

direct materials

Answer 8

the resources used to make a product

Question 9

indirect materials

Answer 9

goods that, while part of the overall manufacturing process, are not integrated into the final product

Question 10

first in, first out (FIFO)

Answer 10

a method of inventory valuation that assumes that the first items to be purchased will be the first to be used in production and sold.

Question 11

average cost (AVCO)

Answer 11

a method of inventory valuation that uses a weighted average to calculate the value of inventory each time new inventory is purchased.

Question 12

weighted average cost of inventory formula

Answer 12

total cost of inventory/number of units of inventory

Question 13

perpetual inventory

Answer 13

a method of inventory valuation that maintains a continuous balance of inventory available after each financial transaction.

Question 14

Periodic inventory

Answer 14

a method of inventory valuation that only shows the balance of inventory at intervals, such as each week or each month.

Question 15

effect of method of inventory valuation on profits

Answer 15

FIFO and AVCO give different inventory valuation figures, therefore, the method chosen by a business will affect its financial statements. While the profits reported each period will be affected, the profit made over the whole life of a business is not changed by the choice of method of valuing inventory.

Question 16

advantages of FIFO

Answer 16

It is realistic. Materials are used in FIFO order and goods will be sold in that order, especially perishable goods.

Prices used are those that have actually been paid for goods.

Closing inventory is valued on current price levels.

It is relatively simple to calculate.

Question 17

disadvantages of FIFO

Answer 17

When prices are rising, the closing inventory in the financial accounts will be priced at the latest (higher) prices. This results in lowering cost of sales and increasing gross profit. This is not consistent with the concept of prudence, although is acceptable under IAS 2.

Identical items of inventory from batches bought at different times may be used for similar jobs, with the result that job A may be charged for the item at a different price from job B. Therefore, quotations for jobs when materials are based on FIFO may be unreliable.

Question 18

advantages of AVCO

Answer 18

The use of average prices avoids the inequality of identical items being charged to different jobs at different prices.

AVCO recognizes that identical items purchased at different times and prices have identical values.

Averaging costs may smooth variations in production costs, and comparisons between the results of different periods may be more meaningful.

Averaged prices used to value closing inventory may be fairly close to the latest prices.

Question 19

disadvantages of AVCO

Answer 19

the average price must be recalculated after every purchase of inventory

the average price does not represent any price actually paid for inventory

Question 20

Just in time (JIT)

Answer 20

a system of manufacturing that uses the principle that supplies should be received exactly when they are needed in the production process and do not need to be stored by the business beforehand.

Question 21

when does FIFO and AVCO method become unnecessary

Answer 21

If a business does not hold any materials from suppliers in storage, but instead always sends the materials directly to production as soon as they arrive, then the value of inventory of the raw materials or components purchased is zero. As a result, the FIFO and AVCO methods become unnecessary,

Question 22

why is FIFO and AVCO needed

Answer 22

When inventory is received from a supplier, it is kept temporarily in storage. The inventory will then be issued for use in production as and when it is needed. FIFO and AVCO methods of inventory valuation are typically used by manufacturers to value the raw materials and components that are held before being used in production.

Question 23

what happens when JIT inventory management is met

Answer 23

then the manufacturer holds no inventory of raw materials or components

Question 24

challenges of JIT

Answer 24

In particular, the business must be confident that its suppliers are completely reliable and will always deliver good quality raw materials and components on time. If this does not happen it will lead to a shortage of suppliers, which will stop production.

Question 25

benefits of JIT

Answer 25

Businesses that do use JIT successfully have lower levels of inventory. These businesses will then benefit from having less cash tied up in inventory and lower storage costs, and the inventory is less likely to be stolen or become damaged.

Question 26

piece rate

Answer 26

a wage rate paid to workers based on the number of units of output produced

Question 27

overtime payment

Answer 27

an amount paid to an employee for working longer than the time they are contracted to work

Question 28

bonus payment

Answer 28

the additional amount paid to an employee for reasons such as producing goods more quickly than the time allowed

Question 29

overtime premium

Answer 29

the additional amount given to employees for overtime working. some business treat it as as indirect labour
For example, if an employee is paid overtime at a rate of 50% above their normal hourly rate (or time and a half), the extra 50% is the overtime premium.

Question 30

direct labour cost

Answer 30

If the wages paid to employees can be linked directly to the cost unit then they are regarded as direct labour

Question 31

indirect labour cost

Answer 31

the cost of labor that is not directly related to the production of goods and the performance of services

Question 32

three ways in which a worker can be paid

Answer 32

an hourly rate
piece rate
a salary (the most common method for paying indirect labour)

Question 33

additional amount paid to employees

Answer 33

overtime payment or bonus payment

Question 34

problem with piece rate

Answer 34

A possible problem with piece rate is that work may be rushed, meaning the quality of the finished article may be an issue. Alternatively, workers may take longer than expected to complete the work, which may cause problems with a customer. Where the piece rate method is used, it is up to management to carefully consider both the time taken and the quality of work produced by the worker.