chapter 1
Managerial Accounting and Cost Concepts
Chapter 1 Overview
Instructor: Heemin Lee
Course Code: ACC3200
Purpose of Cost Classification
Cost Classifications: Systematic identification of costs for different purposes.
Assigning Costs to Cost Objects
Cost Objects: Any item for which cost data are desired.
Examples: Products, customers, jobs, organizational subunits.
Direct Costs: Costs that can be easily and conveniently traced to a cost object.
Examples: Direct materials, direct labor.
Indirect Costs: Costs that cannot be easily traced to a cost object.
Example: Manufacturing overhead.
Common Cost: Indirect costs incurred to support multiple cost objects, cannot be traced to any one.
Accounting for Costs in Manufacturing Companies
Manufacturing Costs:
Direct Materials (DM)
Direct Labor (DL)
Manufacturing Overhead (MOH)
Non-Manufacturing Costs:
Selling Costs: Necessary for securing orders and delivering products.
Administrative Costs: General management costs not directly linked to manufacturing or selling.
Preparing Financial Statements
Product Costs: Inventoriable costs associated with product sale.
Period Costs: Expensed in the period incurred.
Predicting Cost Behavior with Changes in Activity
Variable Costs: Costs that are proportional to the level of activity.
Fixed Costs: Costs that remain constant in total regardless of activity level.
Mixed Costs: Contains both variable and fixed components.
Making Decisions
Differential Costs: Differences in costs between alternatives.
Sunk Costs: Past incurred costs that should be ignored in decision making.
Opportunity Costs: Foregone benefits from alternative choices.
Cost Classifications
Direct vs. Indirect Costs: The classification can vary depending on the cost object.
Direct Costs: Easily traced to cost object (e.g., direct materials like radio in an automobile, direct labor).
Indirect Costs: Not easily traced (e.g., manufacturing overhead, common costs).
Cost Classifications for Manufacturing Companies
Manufacturing Costs:
Direct Materials (DM): Raw materials forming integral part of a product.
Example: A radio in an automobile.
Non-included materials: Screws, glue, etc.
Direct Labor (DL): Labor costs traced to individual products.
Example: Wages to assembly line workers.
Not included labor: Factory supervisors, janitors, engineers, etc.
Manufacturing Overhead (MOH): All manufacturing costs excluding direct materials and labor.
Components:
Indirect materials (screws, glue).
Indirect labor (factory supervisors, security).
Other indirect resources (depreciation, utilities).
Non-manufacturing Costs
Selling Costs: Costs necessary for order fulfillment and product delivery.
Could be direct (sales commissions) or indirect (advertising).
Administrative Costs: General management costs.
Examples: Executive compensation, general accounting expenses.
Also termed as Selling, General, and Administrative costs (SG&A).
Cost Classifications for Financial Statements
Product Costs:
Include all costs in acquiring or making a product.
Attach to a unit of product as it remains in inventory:
Raw Materials: Materials for final product.
Work in Process: Partially finished products needing further work.
Finished Goods: Completed products not yet sold.
Transfer of Product Costs
Costs transition from Raw Materials to Work in Process when used in production.
Direct labor and MOH added to convert materials into finished goods.
Costs shift from Work in Process to Finished Goods once production is complete.
Upon sale, costs move from Finished Goods to Cost of Goods Sold.
Cost Behavior Analysis
Cost Behavior: Refers to how costs react to changes in activity levels.
Variable Costs: Total varies with activity; per unit remains constant.
Examples include publishing costs like paper and ink.
Fixed Costs: Stay constant in total regardless of activity; average fixed cost per unit decreases as activity rises.
Examples: Rent, salaries, insurance.
Relevant Range Concepts
Relevant Range: Activity range over which fixed costs remain constant.
Beyond this range, fixed costs adjust in a step manner.
Mixed Costs
Contain both variable and fixed elements.
Example: Utility costs with a fixed monthly charge and a variable per-kilowatt hour charge.
For a utility bill:
Formula:
Where, = total cost, = fixed cost, = variable cost per unit, and = activity level.
Example calculation with $40 fixed and $0.03 per kilowatt hour over 2000 kWh results in:
.
Decision Making and Cost Classifications
Decision-making revolves around identifying relevant and irrelevant costs:
Differential Costs: Relevant differences in cost between alternatives.
Example Scenario:
Hometown Job: $1500/month, Neighbor Job: $2000/month with $300 commuting:
Summary:
Revenue: +$500, Cost: +$300, Net Benefit: $1700.
Sunk Costs: Costs already incurred that should be disregarded i.e., not part of future decisions.
Example: Car cost of $10,000 two years prior.
Opportunity Costs: Lost benefits when choosing one alternative over another.
Example: Choosing shopping over earning $50 daily.
Quick Checks
Quick Check 1: Determine period vs. product cost:
Identify costs like depreciation and property taxes affecting financial statements.
Quick Check 2 & 3: Evaluate relevance of costs (e.g., train ticket and car licensing) in decision making.
Conclusion
Consolidate understanding of managerial accounting and cost concepts for practical application in both financial documentation and decision-making processes.