MMAC - Management Accounting: Costing

Question 1

Name the 7 differences for Financial accounting that differs from Management Accounting?

Answer 1

1. ) It deals with historic information
2. ) Its based on historic cost
3. ) It provides information for external users
4. ) There are many rules surrounding how the accounts are produced
5. ) It only deals with internal information about the business
6. ) The information is for the entire business as a single entity
7. ) Financial accounts are prepared annually

Question 2

Name the 8 differences for Management Accounting that differs from Financial Accounting?

Answer 2

1. ) It deals with future information
2. ) It is based on various categories of cost
3. ) It provides information mainly to internal users
4. ) It may also be relied upon by third parties such as banks
5. ) There are no rules on how they are produced
6. ) It is likely to consider external information about competitors or the industry in general
7. ) The information can be broken down by division, by branch or individual product
8. ) Management Accounts can be prepared as often as managers feel necessary

Question 3

What are the 4 functions of Management Accounting?

Answer 3

1. ) Planning
2. ) Control
3. ) Decision making
4. ) Costing

Question 4

What is a Cost Centre?

Answer 4

A cost centre is a location in a business for which costs can be identified and gathered together.

Question 5

What is a Profit Centre?

Answer 5

A Profit Centre is where both costs and revenues can be identified.

Question 6

What is a Cost Unit?

Answer 6

A Cost Unit is the volume of output for which we would be interested in gathering costs together.

Question 7

What are the 5 reasons it is good to find out how much one unit will cost?

Answer 7

1. ) Set selling prices
2. ) Valuing items of inventory
3. ) Identify ways to reduce costs
4. ) Setting cost targets for production staff & managers
5. ) Using the cost targets set to review and improve actual performance

Question 8

What are the 3 ways to classify costs?

Answer 8

1. ) Their nature - Costs can be described as ‘direct’ or ‘indirect’
2. ) Their function - Costs can relate to production or non-production activities
3. ) Their behavior - Cost can be variable or fixed

Question 9

What are the 4 cost behaviours?

Answer 9

1. ) Fixed costs
2. ) Variable costs
3. ) Mixed costs
4. ) Stepped costs

Question 10

What is a fixed cost?

Answer 10

A fixed cost is where the cost stays the same no matter how many units are produced.

Question 11

What is a variable cost?

Answer 11

Variable costs increase/decrease in line with output or sales

Question 12

What are mixed costs?

Answer 12

A mix of fixed costs and variable costs

Question 13

What are stepped costs?

Answer 13

Semi-fixed costs are fixed costs within a boundary. When you get past the boundary, the costs will increase and stay the same until that boundary is reached.

Question 14

What is a direct cost?

Answer 14

A cost that is traceable to to 1 single unit of production. The total of direct costs is called prime costs.

Question 15

What is an indirect cost?

Answer 15

Costs that cannot be traced to 1 unit of production. They share many units of production.

Question 16

What are production costs?

Answer 16

Production costs are costs incurred in the process of producing units and would tend to be those costs incurred within the factory environment. This would include direct materials used to make physical units of production, wages of production staff, factory rent and electricity to run the machinery.

Question 17

What are non-production costs?

Answer 17

These are costs incurred in the business that are not specific to the production process in the factory. This would include selling & distribution costs, administration expenses and finance charges.

Question 18

What are the 4 steps to do high/low method?

Answer 18

Step 1 - Take the highest pair of data and the lowest pair of data and calculate the differences between them.

Step 2 - Use these differences to calculate the variable cost per unit by dividing the increase in cost by the increase in output:

Step 3 Identify the fixed cost using the equation:

Total cost = fixed cost + (variable cost per unit x volume of output)

Step 4 - Use knowledge of the cost behavior to predict the cost.

Question 19

What is the equation to work out the economic order quantity?

Answer 19

EOQ = √(2cd/h)

C = the fixed cost incurred every time an order is placed
D = the annual demand for the material being ordered
H = the cost of holding one unit for one year

Question 20

What is Break Even Point (BEP) in units?

Answer 20

BEP is how many units of a product must be sold to cover the fixed & variable costs of production

Question 21

What is Break-Even Revenue (BER)?

Answer 21

BER is the point at which revenue & total costs are the same, meaning the business is making neither profit or loss

Question 22

What is margin of safety and how is it calculated?

Answer 22

The margin of safety is the difference between the level of activity at which an organisation breaks even and its planned level of activity, that is, its target sales. It measures the amount by which planned sales can fall before the business starts to make a loss.

Margin of safety
= Target sales - Breakeven sales
Margin of safety percentage
= (Target sales - Breakeven sales) ÷ Target sales x 100

Question 23

How are the numbers of units required to generate a specific target profit calculated?

Answer 23

The breakeven point for an organisation is the point at which sales exactly match costs and is calculated as:

Fixed costs ÷ Contribution per unit

To calculate the unit sales required to generate a target profit, the target profit is added to the fixed costs and the total is divided by the contribution per unit:

(Fixed costs + Target profit) ÷ Contribution per unit.

Question 24

Cost classification.

How do different costs behave?

Answer 24

Fixed costs – do not vary with production

Variable costs – vary in direct proportion to the level of production

Semi-variable costs – include an element of both fixed and variable costs

Stepped costs – are fixed up to a certain level then increase once that level has been exceeded

Question 25

Internal Rate of Return (IRR).

What is it and how is it used?

Answer 25

IRR is the discount factor at which the Net Present Value (NPV) of the cash flows of a project is zero. Organisations will often set a minimum required IRR for projects to
achieve. If, when the cash flows of a project are discounted by the required IRR, this results in a positive NPV, the organisation will approve the project.

For example, if a business has a minimum required IRR of 15%, the cash flows of a project would be discounted at 15%. If a positive NPV is achieved, the IRR must therefore be greater than 15% and the business can approve the project.

Question 26

Overhead Recovery Rate (ORR) – machine hours

Answer 26

Overhead Recovery Rate per machine hour

= Budgeted overhead cost ÷ Budgeted machine hours

For every machine hour used on a product, job or service one hour of the ORR is added to the cost.

Question 27

Overhead Recovery Rate (ORR) – labour hours

Answer 27

Overhead Recovery Rate per labour hour

= Budgeted overhead cost ÷ Budgeted labour hours

For every hour of labour worked on a product, job or service one hour of the ORR is added to the cost.

Question 28

Overheads incurred and overheads recovered.

What‘s the difference?

Answer 28

Overheads incurred are the actual amount an organisation has paid for its overheads.

Overheads recovered are the total overheads that have been absorbed into the cost of a product, job or service using the overhead recovery rate (ORR).

Question 29

What’s included in prime cost, marginal cost and full absorption costs?

Answer 29

Prime cost is the total of all direct costs of production:
direct material and direct labour (and occasionally direct overheads).

Marginal cost is the total of all variable costs:
the prime cost plus variable production overheads.

Full absorption costs are the total production cost:
the marginal cost plus fixed production overheads.

Note: non-manufacturing costs, like selling and administration overheads, are not included in production costs

Question 30

What are the three elements of cost and how are they categorised as direct or indirect?

Answer 30

The elements of cost are materials, labour and overheads.

If a cost can be traced directly to a product it’s classified as a direct cost. Costs that cannot be traced directly to production are indirect costs.

For example, a production worker’s wages are a direct labour cost, whereas an accounts assistant’s wages are an indirect labour cost.

Question 31

How does activity based costing work?

Answer 31

Instead of recovering overhead costs on the basis of machine or labour hours, activity based costing (ABC) first allocates costs to the activity that’s the primary cause of the overhead, that is, the cost driver. The cost of each activity is then shared over the products that use the activity, based on the level of use.

Question 32

The economic order quantity. What is it?

Answer 32

The amount that should be ordered of a given item, which will minimise costs like ordering and storage. The calculation will take into account the demand for the product, as running out of goods also has a cost.

Question 33

Favourable variances. Why investigate them?

Answer 33

Favourable variances may balance other unfavourable variances, for example, a favourable variance on permanent staff costs may be causing an unfavourable variance on temporary staff costs. Favourable variances should be investigated to find out if they are temporary or permanent, will affect future budgeting and to see if any lessons can be learned

Question 34

What is Limiting Factor?

Answer 34

A limiting factor is anything that restricts an organisation’s ability to maximise its sales due to constraints in demand or the availability of production resources. Strategically, the most significant limiting factor for any organisation is money. But practically, day to day capacity constraints are usually the result of shortages in labour, machine hours or materials.