Narrative Questions

Question 1

Explain the difference in profits between marginal and absorption costing profit calculations

Answer 1

When production exceeds sales, absorption costing systems report higher profits. Marginal costing systems yield higher profits when sales exceeds production. Nevertheless, total profits over the life of the business will be the same for both systems. Differences may arise merely in the profits attributed to each accounting period.

Question 2

What costs are assigned to the product in marginal costing?

Answer 2

With a marginal costing system, only variable manufacturing costs are assigned to the product; fixed manufacturing costs are regarded as period costs and written off in the profit and loss account.

Question 3

What are period costs?

Answer 3

Period costs are costs that are not included in the inventory valuation of goods and which are treated as expenses for the period in which they are incurred

Question 4

What are disadvantages to marginal costing?

Answer 4

• unrealistic assumption- assumption of sale price will remain the same at different levels of operation. In real life, they may change and give unrealistic results
• Under marginal costing, selling price is fixed on the basis of contribution. In case of cost plus contract, it is very difficult to fix price

Question 5

What are disadvantages of absorption costing?

Answer 5

• Absorption costing can cause a company’s profit level to appear better than it actually is during a given accounting period. This is because all fixed costs are not deducted from revenues unless all of the company’s manufactured products are sold. This can mislead company management and investors
• Absorption costing fails to provide as good an analysis of costs and volume as marginal costing does

Question 6

What are qualitative factors?

Answer 6

• good publicity
• sends positive signal to customers and employees possibility of extra work
• difficulty in getting paid
• risk of extra cost where normal capacity exceeded eg. Overtime costs, costs of extra maintenance, extra risk machine breakdown

Question 7

Identify the causes of labor, material, overhead and sales margin variances

Answer 7

Quantities cost variances arise because the actual quantity of resources consumed exceed actual usage. Examples include excess usage of materials and failure to maintain machinery in proper condition. Price variances arise when the actual prices paid for resources exceed the standard prices. Examples include the failure of the purchasing function to seek the most efficient sources of supply of the use of a different grade of labor from that incorporated in the standard costs.

Question 8

What are incremental budgets?

Answer 8

Incremental budgeting is an approach to budgeting in which existing operations and the current budgeted allowance for existing activities are taken as the starting point for preparing the next annual budget and are then adjusted for anticipated changes

Question 9

What are limitations of incremental budgeting?

Answer 9

Major disadvantage is that the majority of expenditure remains unchanged. Hence, past inefficiencies and waste inherent in the current way of doing things are perpetuated

Question 10

What is a marginal costing system?

Answer 10

A costing system that assigns only variable manufacturing costs, not fixed manufacturing costs, to products and includes them in the inventory valuation, also known as a variable costing system

Question 11

What are the classification of manufacturing activities for ABC systems?

Answer 11

1. Unit-level activity
2. Batch-level activity
3. Product-sustaining activity
4. Facility-sustaining activity

Question 12

What are characteristics of a company which would benefit from absorption costing?

Answer 12

1) low levels of competition
2) non-volume related indirect costs that are a low proportion of total indirect cost
3) low product diversity

Question 13

What are characteristics of a company which would benefit from ABC costing?

Answer 13

1) intensive competition
2) non-volume related indirect costs that are a high proportion of total indirect costs
3) high product diversity

Question 14

What organization is standard costing most suited to?

Answer 14

Standard costing is most suited to an organization whose activities consist of a series of common or repetitive operations where the input required to produce each unit of output can be specified

Question 15

What are the 3 types of standard costs?

Answer 15

• BASIC standards remain static from year to year.
• IDEAL standards assume nothing will go wrong and be 100% perfect all the time. Sometimes used, but despondency can set in.
• ATTAINABLE standards demand EFFICIENT, not perfect working and should be used according to theory.

Question 16

What happens before the budgeting process?

Answer 16

Before budgeting process, organization should prepare a long-term plan (strategic plan).

Question 17

What is a continuous or rolling budget?

Answer 17

A continuous or rolling budget is by preparing the budget for each quarter throughout the year, instead of the conventional preparation of the budget once per year. This encourages managers to constantly look ahead and review future plans, actual performance will be compared with a more realistic budget

Question 18

What does the budget committee consist of?

Answer 18

Consists of high-level executives who represent the major segments of the business
Their task is to ensure budgets are relatively and co-ordinated efficiently

Question 19

What is the sales budget?

Answer 19

• Shows the quantities of each product the company plans to sell and the intended selling price
• The sales budget is the foundation of all other budgets since all expenditure is dependent on sales volume

Question 20

What is the production budget?

Answer 20

Objective is to ensure that production is sufficient to meet sales demand and the economic inventory levels are maintained

Question 21

What does zero-based budgeting require?

Answer 21

• Requires that projected expenditure for existing activities should start firm base zero rather than last years budget
• Managers are required to justify all budgeted expenditure rather than just the changes from the previous year
• Focuses on programs or activities instead of functional department based on line items

Question 22

What is absorption costing in compliance with?

Answer 22

Absorption costing is in compliance with the UK GAAP and does a better job of accurately tracking profits compared to marginal costing

Question 23

What is the idea of lifestyle costing?

Answer 23

• The idea is to capture all product design and development costs over the life of a product
• Very useful for products with short life cycles- such as DVDs, films, electronic games etc.

Question 24

What happens to the products costs by the time it comes on the market? (Lifestyle Costing)

Answer 24

• For many products, at least 80% of a products costs are committed by the time it comes on the market
• That figure increases where we have high-tech short-life goods

Question 25

What are benefits of lifestyle costing?

Answer 25

• LCC helps us appraise profitability

- Helps to identify areas where we might cut costs before it is too late

Question 26

What are environments where Lifestyle costing is most appropriate?

Answer 26

• Construction Industry
• Working on a building project where you are looking to increase savings by comparing different design alternative (LCC accesses construction, maintaining and operating costs)

Question 27

In lean manufacturing approach what will greater emphasis be put on?

Answer 27

• Greater emphasis will be put on non-financial measures and the measurement of quality, delivery times, set-up times etc., rather than inefficiencies
• There will be less emphasis on labor efficiency and material price variances

Question 28

What are the 4 stages of lifestyle costing?

Answer 28

• introductory stage
• growth
• maturity
• decline stage

Question 29

What does Lifestyle costing help managers to understand?

Answer 29

LCC management helps management to understand the cost consequences of developing and making a product and to identify areas in which cost reduction efforts are likely to be more effective

Question 30

What is the purpose of variance analysis?

Answer 30

• A way to analyze a budget
• In repetitive environments, we set up standards for costs and sales to compare actual expenses to
• Most places use previous years as “standard”, however this doesn’t promote efficiency

Question 31

What are labor efficiency variances due to?

Answer 31

Labor efficiency variances arise due to use of inferior quality materials, different grades of labor, introduction of new equipment or tools and changes in the production process will all affect the efficiency of labor

Question 32

What are labor rate variances due to?

Answer 32

Labor rate variances are mostly due to wage rate standards not being kept in line with changes in actual wage rates and for this reason it is not normally controlled by department managers