Exam 2 Flashcards
Process costing
- mass production of identical items
- cost for each production process (or department)
- ex: paint and chemical manufacturers, limestone quarry, cereal manufacturers, lumber mill
Job Costing
- unique custom products or small batches of different products
- total cost for that job
- ex: custom home builders, furniture manufacturer, hospitals, professional firms
flow of costs in a manufacturing company
raw materials, direct labor, manufacturing overhead -> work in process inventory -> finished goods inventory -> cost of goods sold (income statement)
everything else on the balance sheet
used to determine the cost of a job
job cost record
allocating manufacturing overhead
- MOH is an indirect cost
allocation
a way of dividing up the MOH and assigning it to the jobs
adjusting COGS
overallocated -> decrease COGS
underallocated -> increase COGS
Actual overhead (recording transactions)
Debit - Manufacturing Overhead
Credit - Accounts payable
Direct Materials and labor (recording transactions)
Debit - WIP
Credit - Wages Payable, inventory
Allocated Overhead (recording transactions)
Debit - WIP
Credit - MOH
recording journals (T)
Actual - Left
Allocate - Right
depreciation (recording transactions)
Debit - manufacturing overhead
Credit - accumulated depreciation
plantwide overhead allocation rate
- Based on estimates made at the beginning of the year
cost distortion
results in some products are overcosted and some are undercosted by the cost allocation system
refining cost system
As companies diversify their product lines and manufacturing processes, a single plantwide overhead rate may not be useful
departmental overhead rates
- Separate predetermined manufacturing overhead rates for each department
- useful when:
o Departments incur different amounts and types of MOH
o Different jobs or products use the department resources to a different extent
Activity based costing
- ABC
- focuses on activities instead of departments
ABC steps
1) Identify the primary activities and estimate a total cost pool for each
2) Select an allocation base for each activity
3) Calculate activity cost allocation rate
4) Allocate costs: Activity cost rate x Actual amount of activity allocation base
cost heirarchy
System used by companies to assist in establishing activity cost pools
unit level activities (cost heirarchy)
- activities and costs incurred for every unit
* Examples: inspecting and packaging each unit
batch level activities (cost heirarchy)
- activities and costs incurred for every batch, regardless of the number of units in the batch
- Example: machine set-up
product level activities (cost heirarchy)
- activities and costs incurred for a product, regardless of the number of units or batches of the product produced
- Examples: cost to research, develop, and market new products
facility level activities (cost heirarchy)
- activities and costs incurred regardless of volume of production
- Example: depreciation, insurance, property tax, and maintenance on the production plant
activity based management
- ABM
- Using ABC to make decisions to improve profitability
Cost of implementing ABC
- may be significant
- could be lower if accounting and information systems people develop a good system
Benefits of ABC are higher when
a company has high indirect costs and produces many different products that use differing amounts of resources
Warning signs that cost system is outdated
- Managers don’t understand costs
- Companies lose bids they expected to win
- Competitors price similar products much higher or lower
- Company has reengineered or diversified products and still using old system
Risk of cost distortion is high (ABC)
- Many different products using many different resources
- High indirect costs
- High volumes of some products, low volumes of others
value engineering (cutting ABC costs)
° Improve value-added activities
° Eliminate or Reduce non-value-activities
Value-Added Activities (cutting ABC costs)
customers are willing to pay for because these activates add value
Non-Value-Added Activities (cutting ABC costs)
- waste activities
- do not enhance the product
variable costs
- Total variable costs change in direct proportion to changes in volume
- Variable cost per unit remains constant
- y = vx
- starts at 0
fixed costs
- Total fixed costs remain constant with changes in volume
- Fixed costs per unit of activity varies inversely with changes in volume
- y = f
mixed costs
- Total mixed costs increase as volume increases (but not proportionately)
- Total mixed costs can be expressed as a combination of the variable and fixed cost equations:
- y = vx + f
relevant change
• The normal range of operating activity.
• Band of volume where
- Total fixed costs remain constant
- Variable costs per unit remain constant
- The cost equation remains valid
• Managers must be sure that planned activity is within the relative range
Committed Fixed Costs
- Fixed costs that cannot be changed in the short-term .
* Examples: depreciation, signed lease
Discretionary Fixed Costs
- Fixed costs that can be changed in the short-term.
* Examples: Advertising, training
account analysis
- Managers use judgment and experience
- Classify various accounts as mixed, variable, and fixed
- Subjective
scatter plots
- uses historical data to break mixed costs into fixed and variable components
- helps managers visualize the relationship between cost and volume
- where line through dots intersects y axis is fixed cost
high low method
- Also uses historical data, but only the highest and lowest activity points
- Use scatterplot to determine if a linear relationship exists; then, use high-low method to estimate the cost equation
- disadvantage: only uses two data points. doesnt account for outliers
regression
- most accurate, statistical fit of total cost line (best fit line)
- R^2
contribution margin income statement
organizes costs by behavior rather than function (GAAP)
contribution margin income statement equation
sales - variable costs ------------------------- Contribution margin - fixed costs ------------------------- operating income
Functional (GAAP) income statement equation
sales - COGS ------------------------- Gross margin - operating expenses ------------------------- operating income
traditional income statements organize costs by
function
purpose of classifying costs as variable or fixed
to allow management to better assess performance given a level of activity that differed from budget
cost volume profit analysis (CVP)
- powerful tool that helps managers make important business decisions
calculation margin per unit
once a company reaches breakeven each additional unit sold increases profitability by this amount
breakeven point
where operating income = 0
CM ratio deff
% of sales $ that is available to cover fixed costs and provide a profit
cushion
how far sales can decrease before incurring a loss
operating leverage def
- measures risk
- sensitivity of profits to change in sales volume
- higher when fixed costs are higher
CVP graph
breakeven point where revenue and cost intersect
companies with many different products
should use CM ratio and breakeven point in sales dollars rather than units
