Download - Chapter 2 Cost Terminology and Behavior
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Chapter 2
Cost Terminology and
Cost Behaviors
Cost AccountingFoundations and Evolutions
Kinney, Prather, Raiborn
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Cost
Monetary measure of resources
given up to attain an objective
(such as acquiring a good
or delivering a service)
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Learning Objectives
• List the cost classifications and explain why the classifications are useful
• List product cost categories and their components
• Calculate the Cost of Goods Manufactured and explain how it is used in the Income Statement
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Cost Classifications
• Association with cost objectCost object is anything for which management wants to collect or accumulate costs
– Direct - traceable to a cost object– Indirect - not conveniently or practically
traceable to a cost object• treated as overhead
• allocated
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Cost Categories
• Association with cost object
• Reaction to changes in activity– Variable– Fixed– Mixed – Step
Relevant Range – normal operating range
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Variable Cost
Fixed Cost
Cost Reaction to Changes in Activity
Total
$
# of Units
$
# of Units
Within the relevant range
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Variable Cost
Fixed Cost
Cost Reaction to Changes in ActivityTotal Unit
$
# of Units
$
$
$
# of Units
# of Units # of Units
Within the relevant range
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Total and Unit Cost Behavior
Varies in direct proportion to
changes in activity
Remains constant throughout
the relevant range
Remains constant throughout the relevant range
Varies inversely with changes in
activity throughout the relevant range
VariableCost
FixedCost
Total Cost Unit Cost
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Step Cost
(Fixed)
Cost Reaction to Changes in Activity
$
Units
Within the relevant range
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Mixed Cost
Cost Reaction to Changes in Activity
$
Unitsfixed
Within the relevant range
variable
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Determining Cost Behavior
• Cost Predictor– Activity accompanied
by consistent, observable changes in a cost item
– Predicts but may not cause the cost to change
• Cost Driver– Activity that has a direct
cause-effect relationship on cost
– Directly causes the cost to change
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Cost Classifications• Association with cost object
• Reaction to changes in activity
• Classification on the financial statements– Unexpired– Expired– Product– Period
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Cost Classifications• Classification on the financial statements
– Unexpired – balance sheet assets– Expired – income statement expenses– Product – inventoriable costs
• Prime – direct material and direct labor
• Conversion – direct labor and overhead
– Period – expensed in period incurred
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Product Costs• Direct material
– Measurable part of a product
• Direct labor– Labor used to manufacture a product or
perform a service
• Overhead– Indirect production cost
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Product Costs
• First appear on the balance sheet in inventory accounts
• Transferred to the income statement when product is sold
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Period Costs• Selling and administrative costs
• Distribution costs– Cost to warehouse, transport, and/or deliver a
product or service– Major impact on managerial decision making
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Period Costs
• Appear on the income statement when incurred
• Expensed when incurred
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Purchaseraw materialsor supplies
Input
Product orService
Output
Conversion ProcessChange Inputs into Outputs
CONVERSION
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Low Degree of Conversion
• Department stores
• Gas stations
• Jewelry stores
• Travel agencies
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Moderate Degree of Conversion
• Florists
• Meat markets
• Oil-change businesses
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High Degree of Conversion
• Manufacturing
• Construction
• Agriculture
• Architecture
• Auditing
• Mining
• Printing
• Restaurants
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Product Cost - Direct• Direct Material
– Conveniently and economically traced
to cost object
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Product Cost - Direct• Direct Material
– Conveniently and economically traced
to cost object
• Direct Labor – to manufacture a product or perform a service – includes wages paid to direct labor employees,
production bonuses, payroll taxes– may include holiday and vacation pay,
insurance, retirement benefits
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Product Cost - Indirect
• Overhead - indirect production costs– Fringe benefits, if cannot be easily traced to
product– Overtime, if due to random scheduling– Cost of quality
• Prevention costs
• Appraisal costs
• Failure costs
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Product Cost Behavior
• Direct Material Variable
• Direct Labor Variable
• Overhead Variable, fixed, or mixed
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Overhead Cost AllocationAssign indirect costs to one
or more cost objects
• To determine full absorption cost (GAAP)
• To motivate management
• To compare alternative courses of action for planning, controlling, and decision making
Allocation process should be
rational and systematic
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Allocating OverheadActual Cost System
Product Cost
Direct Materials
Direct Labor
Overhead
Cost Used
Actual
Actual
Actual
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Allocating OverheadActual Cost System
• The Actual Cost System is not timely
• All costs must be known before calculating product cost
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Allocating OverheadActual vs. Normal
Product Cost
Direct Materials
Direct Labor
Overhead
Actual Cost System
Actual
Actual
Actual
Normal Cost System
Actual
Actual
Predetermined
Overhead Rate
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Predetermined Overhead Rate
• Allows overhead to be assigned during the period
• Compensates for fluctuations– that are not related to activity level– in activity level that do not affect fixed
overhead
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Flow of Product CostsRaw Materials Inventory
Accounts Payable
Work in Process InventoryRaw Materials Inventory
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Flow of Product Costs
Work in Process Inventory
Variable Overhead Control
Fixed Overhead Control
Finished Goods Inventory
Work in Process Inventory
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Flow of Product Costs
Accounts Receivable Sales
Cost of Goods Sold Finished Goods Inventory
Matches revenues and expenses on the income statement
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Statement of Cost of Goods Manufactured
• Beginning work in process $ 145,000– Raw materials used $284,000– Direct labor 436,000– Variable overhead 115,200– Fixed overhead 98,880
• Current period manufacturing costs 934,080
• Total costs to account for $1,079,080
• Ending work in process 20,880
• Cost of goods manufactured $1,058,200
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Statement of Cost of Goods Manufactured
Raw Materials Used
Beginning balance $ 73,000
Purchases of materials 280,000
Raw materials available $353,000
Ending balance 69,000
Total raw materials used $284,000
To Statement of Cost of Goods Manufactured
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Schedule of Cost of Goods Sold
Beginning Finished Good $ 87,400
Cost of Goods Manufactured 1,058,200
Cost of Goods Available for Sale $1,145,600
Ending Finished Goods 91,600
Cost of Goods Sold $1,054,000
From Schedule of Cost of Goods Manufactured
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Income Statement
• Revenue xxxx
• Cost of Goods Sold <1,054,000>
• Gross Profit xxxx
• Operating Expenses <xxxx>
• Operating Income xxxx
From Schedule of Cost of Goods Sold
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Questions
• What is the difference between a fixed and variable cost?
• What are the three components of product cost?
• What are the three inventory accounts for a manufacturing company?