chap 002 cost concepts
TRANSCRIPT
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Managerial Accounting
and Cost Concepts
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Work of Management
Planning
Controlling
Directing and
Motivating
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Planning
Identifyalternatives.
Select alternative that doesthe best job of furtheringorganizations objectives.
Develop budgets to guideprogress toward theselected alternative.
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Directing and Motivating
Directing and motivating involves managingday-to-day activities to keep the organization runningsmoothly.
Employee work assignments. Routine problem solving.
Conflict resolution.
Effective communications.
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Controlling
The control function ensuresthat plans are being followed.
Feedback in the form of performance reportsthat compare actual results with the budgetare an essential part of the control function.
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Planning and Control Cycle
DecisionMaking
Formulating long-and short-term plans
(Planning)
Measuringperformance(Controlling)
Implementingplans (Directingand Motivating)
Comparing actualto planned
performance(Controlling)
Begin
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Learning Objective 1
Identify the majordifferences and similarities
between financial andmanagerial accounting.
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Comparison of Financial and ManagerialAccounting
Financial Accounting Managerial Accounting1. Users External persons who Managers who plan for
make financial decisions and control an organization
2. Time focus Historical perspective Future emphasis
3. Verifiability Emphasis on Emphasis on relevanceversus relevance verifiability for planning and control
4. Precision versus Emphasis on Emphasis on
timeliness precision timeliness
5. Subject Primary focus is on Focuses on segments
the whole organization of an organization
6. GAAP Must follow GAAP Need not follow GAAP
and prescribed formats or any prescribed format
7. Requirement Mandatory for Not
external reports Mandatory
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Learning Objective 2
Identify and give examplesof each of the three basic
manufacturing costcategories.
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The Product
DirectMaterials DirectLabor ManufacturingOverhead
Manufacturing Costs
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Direct Materials
Raw materials that become an integralpart of the product and that can beconveniently traced directly to it.
Example: A radio installed in an automobile
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Direct Labor
Those labor costs that can be easilytraced to individual units of product.
Example: Wages paid to automobile assembly workers
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Manufacturing costs that cannot be traceddirectly to specific units produced.
Manufacturing Overhead
Examples: Indirect materials and indirect labor
Wages paid to employeeswho are not directly
involved in productionwork.
Examples: maintenanceworkers, janitors and
security guards.
Materials used to supportthe production process.
Examples: lubricants andcleaning supplies used in theautomobile assembly plant.
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Nonmanufacturing Costs
SellingCosts
Costs necessary to
secure the order anddeliver the product.
AdministrativeCosts
All executive,
organizational, andclerical costs.
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Learning Objective 3
Distinguish betweenproduct costs and period
costs and give examplesof each.
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Product Costs Versus Period Costs
Product costs includedirect materials, direct
labor, and
manufacturingoverhead.
Period costs include allselling costs and
administrative costs.
Inventory Cost of Good Sold
BalanceSheet
IncomeStatement
Sale
Expense
IncomeStatement
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Quick Check
Which of the following costs would be considered aperiod rather than a product cost in a manufacturingcompany?
A. Manufacturing equipment depreciation.B. Property taxes on corporate headquarters.
C. Direct materials costs.
D. Electrical costs to light the production
facility.E. Sales commissions.
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Quick Check
Which of the following costs would be considered aperiod rather than a product cost in a manufacturingcompany?
A. Manufacturing equipment depreciation.B. Property taxes on corporate headquarters.
C. Direct materials costs.
D. Electrical costs to light the production
facility.E. Sales commissions.
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Classifications of Costs
DirectMaterial
DirectLabor
ManufacturingOverhead
PrimeCost
ConversionCost
Manufacturing costs are oftenclassified as follows:
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Comparing Merchandising andManufacturing Companies
Merchandisers . . .Buy finished
goods.
Sell finishedgoods.
Manufacturers . . .Buy raw materials.
Produce and sellfinished goods.
MegaLoMart
McGraw-Hill/Irwin
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Balance Sheet
MerchandiserCurrent assets
Cash
ReceivablesMerchandise Inventory
Manufacturer
Current Assets
Cash
Receivables Inventories
Raw Materials
Work in Process
Finished Goods
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MerchandiserCurrent assets
Cash
ReceivablesMerchandise Inventory
Manufacturer
Current Assets
Cash
Receivables Inventories
Raw Materials
Work in Process
Finished Goods
Balance Sheet
Partially completeproducts somematerial, labor, or
overhead has beenadded.
Completed productsawaiting sale.
Materials waiting to
be processed.
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Learning Objective 4
Prepare an incomestatement including
calculation of the cost ofgoods sold.
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The Income Statement
Cost of goods sold for manufacturers differs onlyslightly from cost of goods sold for merchandisers.
Manufacturing Company
Cost of goods sold:Beg. finished
goods inv. 14,200$
+ Cost of goods
manufactured 234,150
Goods available
for sale 248,350$- Ending
finished goods
inventory (12,100)
= Cost of goods
sold 236,250$
Merchandising Company
Cost of goods sold:Beg. merchandise
inventory 14,200$
+ Purchases 234,150
Goods available
for sale 248,350$
- Endingmerchandise
inventory (12,100)
= Cost of goods
sold 236,250$
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Basic Equation for Inventory Accounts
Beginningbalance
Additionsto inventory+ =
Endingbalance
Withdrawalsfrom
inventory
+
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Quick Check
If your inventory balance at the beginning of themonth was $1,000, you bought $100 during themonth, and sold $300 during the month, what wouldbe the balance at the end of the month?
A. $1,000.
B. $ 800.
C. $1,200.
D. $ 200.
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Quick Check
If your inventory balance at the beginning of themonth was $1,000, you bought $100 during themonth, and sold $300 during the month, what wouldbe the balance at the end of the month?
A. $1,000.
B. $ 800.
C. $1,200.
D. $ 200.
$1,000 + $100 = $1,100$1,100 - $300 = $800
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Learning Objective 5
Prepare a schedule of costof goods manufactured.
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Schedule of Cost of Goods Manufactured
Calculates the cost of rawmaterial, direct labor, andmanufacturing overhead
used in production.
Calculates the manufacturingcosts associated with goodsthat were finished during the
period.
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Manufacturing Work
Raw Materials Costs In Process
Beginning raw Direct materials
materials inventory
+ Raw materialspurchased
= Raw materials
available for use
in production
Ending raw materials
inventory= Raw materials used
in production
As items are removed from rawmaterials inventory and placed into
the production process, they arecalled direct materials.
Product Cost Flows
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Manufacturing Work
Raw Materials Costs In Process
Beginning raw Direct materials
materials inventory + Direct labor
+ Raw materials + Mfg. overheadpurchased = Total manufacturing
= Raw materials costs
available for use
in production
Ending raw materials
inventory= Raw materials used
in production
Conversioncosts are costs
incurred toconvert the
direct materialinto a finished
product.
Product Cost Flows
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Manufacturing Work
Raw Materials Costs In Process
Beginning raw Direct materials Beginning work in
materials inventory + Direct labor process inventory
+ Raw materials + Mfg. overhead + Total manufacturingpurchased = Total manufacturing costs
= Raw materials costs = Total work in
available for use process for the
in production period
Ending raw materials
inventory= Raw materials used
in production
Product Cost Flows
All manufacturing costs incurredduring the period are added to thebeginning balance of work in
process.
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Manufacturing Work
Raw Materials Costs In Process
Beginning raw Direct materials Beginning work in
materials inventory + Direct labor process inventory
+ Raw materials + Mfg. overhead + Total manufacturingpurchased = Total manufacturing costs
= Raw materials costs = Total work in
available for use process for the
in production period
Ending raw materials Ending work in
inventory process inventory= Raw materials used = Cost of goods
in production manufactured
Product Cost Flows
Costs associated with the goods thatare completed during the period are
transferred to finished goodsinventory.
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Work
In Process Finished Goods
Beginning work in Beginning finished
process inventory goods inventory+ Manufacturing costs + Cost of goods
for the period manufactured
= Total work in process = Cost of goods
for the period available for sale
Ending work in - Ending finished
process inventory goods inventory= Cost of goods Cost of goods
manufactured sold
Product Cost Flows
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Manufacturing Cost Flows
FinishedGoods
Cost of
GoodsSold
Selling andAdministrative
Period CostsSelling andAdministrative
ManufacturingOverhead
Work inProcess
Direct Labor
Balance SheetCosts Inventories
IncomeStatementExpenses
Material Purchases Raw Materials
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Quick Check
Beginning raw materials inventory was $32,000.During the month, $276,000 of raw material waspurchased. A count at the end of the month
revealed that $28,000 of raw material was stillpresent. What is the cost of direct materialused?
A. $276,000
B. $272,000C. $280,000
D. $ 2,000
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Quick Check
Beginning raw materials inventory was $32,000.During the month, $276,000 of raw material waspurchased. A count at the end of the month
revealed that $28,000 of raw material was stillpresent. What is the cost of direct materialused?
A. $276,000
B. $272,000C. $280,000
D. $ 2,000
Beg. raw materials 32,000$
+ Raw materials
purchased 276,000
= Raw materials available
for use in production 308,000$ Ending raw materials
inventory 28,000
= Raw materials used
in production 280,000$
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Quick Check
Direct materials used in production totaled$280,000. Direct labor was $375,000 andfactory overhead was $180,000. What were totalmanufacturing costs incurred for the month?
A. $555,000
B. $835,000
C. $655,000
D. Cannot be determined.
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Direct materials used in production totaled$280,000. Direct labor was $375,000 andfactory overhead was $180,000. What were totalmanufacturing costs incurred for the month?
A. $555,000
B. $835,000
C. $655,000
D. Cannot be determined.
Direct Materials 280,000$
+ Direct Labor 375,000+ Mfg. Overhead 180,000
= Mfg. Costs Incurred
for the Month 835,000$
Quick Check
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Quick Check
Beginning work in process was $125,000.Manufacturing costs incurred for the monthwere $835,000. There were $200,000 ofpartially finished goods remaining in work in
process inventory at the end of the month.What was the cost of goods manufacturedduring the month?
A. $1,160,000
B. $ 910,000C. $ 760,000D. Cannot be determined.
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Beginning work in process was $125,000.Manufacturing costs incurred for the monthwere $835,000. There were $200,000 ofpartially finished goods remaining in work in
process inventory at the end of the month.What was the cost of goods manufacturedduring the month?
A. $1,160,000
B. $ 910,000C. $ 760,000D. Cannot be determined.
Quick Check
Beginning work in
process inventory 125,000$
+ Mfg. costs incurred
for the period 835,000
= Total work in process
during the period 960,000$
Ending work in
process inventory 200,000
= Cost of goods
manufactured 760,000$
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Quick Check
Beginning finished goods inventory was$130,000. The cost of goods manufactured forthe month was $760,000. And the endingfinished goods inventory was $150,000. What
was the cost of goods sold for the month?A. $ 20,000.
B. $740,000.
C. $780,000.D. $760,000.
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Quick Check
Beginning finished goods inventory was$130,000. The cost of goods manufactured forthe month was $760,000. And the endingfinished goods inventory was $150,000. What
was the cost of goods sold for the month?A. $ 20,000.
B. $740,000.
C. $780,000.D. $760,000.
$130,000 + $760,000 = $890,000
$890,000 - $150,000 = $740,000
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Learning Objective 6
Understand thedifferences between
variable costs and fixedcosts.
Cost Classifications for Predicting Cost
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Cost Classifications for Predicting CostBehavior
How a cost will react tochanges in the level of
activity within therelevant range.
Total variable costschange when activitychanges.
Total fixed costsremainunchanged when activitychanges.
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Variable Cost
Yourtotal texting bill is based on howmany texts you send.
Number of Texts Sent
TotalTextingBill
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Variable Cost Per Unit
Number of Texts Sent
CostP
erTextSent
The cost per text sent is constant at
5 cents per text.
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Fixed Cost
Yourmonthly contract fee for your cell phone is fixedfor the number of monthly minutes in your contract.The monthly contract fee does not change based on
the number of calls you make.
Number of Minutes Used
Within Monthly Plan
MonthlyCellPhone
ContractFee
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Fixed Cost Per Unit
Number of Minutes Used
Within Monthly Plan
Month
lyCellPhon
e
Co
ntractFee
Within the monthly contract allotment, the averagefixed cost per cell phone call made decreases as
more calls are made.
Cost Classifications for Predicting Cost
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Cost Classifications for Predicting CostBehavior
Behavior of Cost (within the relevant range)
Cost In Total Per Unit
Variable Total variable cost changes Variable cost per unit remainsas activity level changes. the same over wide ranges
of activity.
Fixed Total fixed cost remains Average fixed cost per unit goes
the same even when the down as activity level goes up.
activity level changes.
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Quick Check
Which of the following costs would be variablewith respect to the number of cones sold at aBaskins & Robbins shop? (There may be more
than one correct answer.)A. The cost of lighting the store.
B. The wages of the store manager.
C. The cost of ice cream.
D. The cost of napkins for customers.
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Quick Check
Which of the following costs would be variablewith respect to the number of cones sold at aBaskins & Robbins shop? (There may be more
than one correct answer.)A. The cost of lighting the store.
B. The wages of the store manager.
C. The cost of ice cream.
D. The cost of napkins for customers.
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Learning Objective 7
Understand thedifferences between direct
and indirect costs.
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Assigning Costs to Cost Objects
Direct costs
Costs that can beeasily andconveniently traced
to a unit of productor other cost object.
Examples: directmaterial and direct
labor
Indirect costs
Costs that cannot beeasily andconveniently traced
to a unit of productor other cost object.
Example:manufacturing
overhead
McGraw-Hill/Irwin
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Learning Objective 8
Define and give examplesof cost classifications used
in making decisions:
differential costs,opportunity costs, andsunk costs.
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Every decision involves a choicebetween at least twoalternatives.
Only those costs and benefitsthat differ between alternativesare relevant in a decision. Allother costs and benefits canand should be ignored.
Cost Classifications for Decision Making
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Differential Cost and Revenue
Costs and revenues that differamong alternatives.
Example: You have a job paying $1,500 per month inyour hometown. You have a job offer in a neighboringcity that pays $2,000 per month. The commuting costto the city is $300 per month.
Differential revenue is:$2,000 $1,500 = $500
Differential cost is:$300
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Opportunity Cost
The potential benefit that is givenup when one alternative is selectedover another.
Example: If you werenot attending college,you could be earning$15,000 per year.Your opportunity costof attending college forone year is $15,000.
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Sunk Costs
Sunk costs have already been incurred and cannotbe changed now or in the future. These costs
should be ignored when making decisions.
Example: You bought an automobile that cost$10,000 two years ago. The $10,000 cost is sunkbecause whether you drive it, park it, trade it, or sellit, you cannot change the $10,000 cost.
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Quick Check
Suppose you are trying to decide whether todrive or take the train to Portland to attend aconcert. You have ample cash to do either, but
you dont want to waste money needlessly. Isthe cost of the train ticket relevant in thisdecision? In other words, should the cost of thetrain ticket affect the decision of whether you
drive or take the train to Portland?A. Yes, the cost of the train ticket is relevant.
B. No, the cost of the train ticket is not relevant.
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Quick Check
Suppose you are trying to decide whether todrive or take the train to Portland to attend aconcert. You have ample cash to do either, but
you dont want to waste money needlessly. Isthe cost of the train ticket relevant in thisdecision? In other words, should the cost of thetrain ticket affect the decision of whether you
drive or take the train to Portland?A. Yes, the cost of the train ticket is relevant.
B. No, the cost of the train ticket is not relevant.
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Quick Check
Suppose you are trying to decide whether todrive or take the train to Portland to attend aconcert. You have ample cash to do either, but
you dont want to waste money needlessly. Isthe annual cost of licensing your car relevant inthis decision?
A. Yes, the licensing cost is relevant.
B. No, the licensing cost is not relevant.
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Quick Check
Suppose you are trying to decide whether todrive or take the train to Portland to attend aconcert. You have ample cash to do either, but
you dont want to waste money needlessly. Isthe annual cost of licensing your car relevant inthis decision?
A. Yes, the licensing cost is relevant.
B. No, the licensing cost is not relevant.
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Quick Check
Suppose that your car could be sold now for$5,000. Is this a sunk cost?
A. Yes, it is a sunk cost.
B. No, it is not a sunk cost.
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Quick Check
Suppose that your car could be sold now for$5,000. Is this a sunk cost?
A. Yes, it is a sunk cost.
B. No, it is not a sunk cost.
Summary of the Types of Cost
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y ypClassifications
FinancialReporting
Predicting CostBehavior
Assigning Coststo Cost Objects
Making BusinessDecisions
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Further Classification of Labor Costs
Appendix 2A
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Learning Objective 9
(Appendix 2A)
Properly account for laborcosts associated with idle
time, overtime, and fringebenefits.
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Idle Time
The labor costs incurred
during idle time are ordinarilytreated as manufacturing
overhead.
MachineBreakdowns
MaterialShortages
PowerFailures
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Overtime
The overtime premiums for all factoryworkers are usually considered to be part
of manufacturing overhead.
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Labor Fringe Benefits
Fringe benefits include employer paidcosts for insurance programs, retirement
plans, supplemental unemployment
programs, Social Security, Medicare,workers compensation, andunemployment taxes.
Some companiesinclude all of these
costs inmanufacturing
overhead.
Other companies treatfringe benefit
expenses of directlaborers as additional
direct labor costs.
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Cost of Quality
Appendix 2B
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Learning Objective 10
(Appendix 2B)
Identify the four types ofquality costs and explain
how they interact.
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Quality of Conformance
When the overwhelming majority of productsproduced conform to design specifications
and are free from defects.
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Prevention and Appraisal Costs
PreventionCosts
Support activitieswhose purpose is toreduce the number of
defects
Appraisal CostsIncurred to identifydefective products
before the products areshipped to customers
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Internal and External Failure Costs
Internal FailureCosts
Incurred as a result ofidentifying defects
before they are shipped
External FailureCosts
Incurred as a result ofdefective productsbeing delivered to
customers
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Examples of Quality Costs
Prevention Costs Quality training Quality circles Statistical processcontrol activities
Appraisal Costs Testing and inspecting
incoming materials Final product testing Depreciation of testing
equipment
Internal Failure Costs Scrap Spoilage Rework
External Failure Costs
Cost of field servicing andhandling complaints
Warranty repairs Lost sales
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Distribution of Quality Costs
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Learning Objective 11
(Appendix 2B)
Prepare and interpret a
quality cost report.
Year 2 Year 1
Quality Cost ReportFor Years 1 and 2
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Quality costreports providean estimate of
the financialconsequences
of thecompanys
current defectrate.
Amount Percent* Amount Percent*
Prevention costs:
Systems development 400,000$ 0.80% 270,000$ 0.54%
Quality training 210,000 0.42% 130,000 0.26%
Supervision of prevention activities 70,000 0.14% 40,000 0.08%
Quality improvement 320,000 0.64% 210,000 0.42%Total prevention cost 1,000,000 2.00% 650,000 1.30%
Appraisal costs:
Inspection 600,000 1.20% 560,000 1.12%
Reliability testing 580,000 1.16% 420,000 0.84%
Supervis ion of testing and inspection 120,000 0.24% 80,000 0.16%
Depreciation of test equipment 200,000 0.40% 140,000 0.28%
Total appraisal cost 1,500,000 3.00% 1,200,000 2.40%
Internal failure costs:
Net cost of scrap 900,000 1.80% 750,000 1.50%
Rework labor and overhead 1,430,000 2.86% 810,000 1.62%
Downtime due to defects in quality 170,000 0.34% 100,000 0.20%
Disposal of defective products 500,000 1.00% 340,000 0.68%
Total internal failure cost 3,000,000 6.00% 2,000,000 4.00%
External failure costs:Warranty repairs 400,000 0.80% 900,000 1.80%
Warranty replacements 870,000 1.74% 2,300,000 4.60%
Allowances 130,000 0.26% 630,000 1.26%
Cost of field servicing 600,000 1.20% 1,320,000 2.64%
Total external failure cost 2,000,000 4.00% 5,150,000 10.30%
Total quality cost 7,500,000$ 15.00% 9,000,000$ 18.00%
* As a percentage of total sales. In each year sales totaled $50,000,000.
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Quality Cost Reports in Graphic Form
$10
9
8
7
6
5
4
3
2
1Appraisal
0Prevention Prevention
1 2
Year
QualityCost(inm
illions)
Appraisal
Internal
Failure
External
Failure
Internal
Failure
External
Failure
20
18
16
14
12
10
8
6
4
2Appraisal
0Prevention Prevention
1 2
Year
QualityCostasaPercen
tageofSales
Appraisal
Internal
Failure
External
Failure
Internal
Failure
External
Failure
Qualityreports
can also
beprepared
ingraphic
form.
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Uses of Quality Cost Information
Help managers see thefinancial significance of
defects.
Help managers identifythe relative importanceof the quality problems.
Help managers seewhether their quality
costs are poorlydistributed.
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Limitations of Quality Cost Information
Simply measuring and
reporting quality costproblems does not solve
quality problems.
Results usually lagbehind quality
improvement programs.
The most importantquality cost, lost sales, is
often omitted fromquality cost reports.
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ISO 9000 Standards
ISO 9000 standards have becomeinternational measures of quality.
To become ISO 9000 certified, acompany must demonstrate:
1. A quality control system is in use, and thesystem clearly defines an expected level ofquality.
2. The system is fully operational and is
backed up with detailed documentation ofquality control procedures.
3. The intended level of quality is beingachieved on a sustained basis.
E d f Ch 2
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End of Chapter 2