Cost Management Session 5

Overview Theory Exercise: 2.26, 2.33, 2.41, 2.42,

Theory 3 Total Costs = Direct Costs + Indirect Costs cost that are directly related to production of the goods costs which cannot be directly assigned to a single product rather it has to be assigned in some proportion to all products Direct labour, direct materialBuilding rent, supervisory salaries

4 Opportunity Costs Sunk Costs Committed costs Variable costs Fixed costs Product cost vs period cost Cost behaviour means how a cost will react to changes in the level of business activity. – Total variable costs change when activity level changes. – Total fixed costs remain unchanged when activity level changes. Cost behaviour means how a cost will react to changes in the level of business activity. – Total variable costs change when activity level changes. – Total fixed costs remain unchanged when activity level changes.

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6 Prime cost Conversion cost 3 major categories of manufacturing costs

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Exercise 2.26 (pag.71) (a)Cost of raw material purchased during the year 8

9 Beginning raw- material inventory + Raw material purchased = Direct material used + Ending raw- material inventory 328,000 1,732, ,000 ??? Raw material purchased = 1,732, ,000 – 328,000= 1,770,000

10 (b)Cost of goods manufactured

11 Beginning finished-goods inventory + Cost of goods manufactured = Cost of goods sold + Ending finished-goods inventory 146,000 6,000, ,000 ????? Cost of goods manufactured = 6,000, ,000 – 146,000 = 6,004,000

12 (c) Total manufacturing costs

13 Beginning work –in-process Inventory + Total manufacturing costs = Cost of goods Manufactured + Ending work -in-process inventory 362,000 6,004, ,000 ??? Total manufacturing costs = 6,004, ,000 – 362,000 = 5,996,000

14 Exercise 2.33(pg 73) What is the difference in this year’s divisional operating profit if the new machine is rented and installed on 31 december of this year?

15 This year’s statement of income: Baseline (Status Quo)Rent Equipment Difference REVENUE €1,590,000 0 Operating costs: Variable (190,000) 0 Fixed (cash expenditures) (750,000)(750,000 0 Equipment depreciation (150,000) 0 Other depreciation (125,000)125,000) 0 Loss from equipment write-off Operating profit (before taxes) 0 € 375,000 (850,000) (475000) €850,000 lower

Next year’s statement of income 16

17 Baseline (Status Quo) Rent Equipment Difference REVENUE €1,590,000 €1,749,000€159,000 Operating costs: Equipment rental 0 (230,000)230,000 higher Variable (190,000) 0 Fixed (cash expenditures) (750,000)(712,500) 37,500 lower Equipment depreciation (150,000)0150,000 lower Other depreciation (125,000) 0 Operating profit (before taxes) € 375,000 €491,500 €116,500 higher

Would you rent the machine? Despite the effect on next year’s statement of income, the company should not rent the new machine because net cash inflow as a result of installing the new machine (€159,000 + €37,500) does not cover cash outflow for equipment rental. 18

Exercise 2.41(pg 77) 19 a. Variable manufacturing cost=manufacturing overhead + direct labour +direct material =CHF = CHF 80 b. Variable cost = all variable unit costs =CHF = CHF 85 c. Accrual cost per unit = fixed and variable manufacturing overhead + direct labour + direct material = CHF = CHF 95

20 d. Direct cost per unit = direct labour + direct material = CHF = CHF 50 e. Conversion cost per unit = direct labour + manufacturing overhead =CHF 10 + ( ) =CHF 55 f. Profit margin per unit =sales price – full cost = CHF 175 – 120 = CHF 55 g. Gross margin per unit = sales price – accrual cost = CHF 175 – 95 = CHF 80

21 h.As the number of units increases (reflected in the denominator), the fixed manufacturing cost per unit decreases

Exercise 42 (pg77) 22 a.Direct cost = direct material + direct labour Direct material =beginning inventory + purchases – ending inventory = €9,000 + €22,000 – €8,500 = €22,500 Direct labour is given as €14,000 Direct cost= €22,500 + €14,000= €36,500

23 b. Conversion cost = direct labour + manufacturing overhead Conversion cost = €14,000 + €20,000 = €34,000 c. Total manufacturing cost = direct material + direct labour + manufacturing overhead =€22,500 (from question a) + €14,000 + €20,000 = €56,500

24 d. Cost of goods manufactured = beginning WIP* + total manufacturing costs – ending WIP = beginning WIP + direct material + direct labour + manufacturing overhead – ending WIP =€4,500 + €22,500 + €14,000 + €20,000 – €3,000 =€4,500 + €56,500 (from req. c above) – €3,000 =€58,000 e. Cost of goods sold = cost of goods manufactured + beginning finished-goods inventory –Ending finished - goods inventory = €58,000 (from d above) + €13,500 – €18,000 = €53,500

Exercise (pg 508) Applying overhead using a predetermined rate 25

26 OB + TI – TO = CB CB=€5,000 + (€30,000 + €20,000 + €16,000) – €60,000 CB=€11,000 Factory overhead = 80% x €2,500 = €2,000 Total cost = direct material + direct labour + factory overhead €11,000 = direct material + €2,500 + €2,000 Direct material = €11,000 – €2,500 – €2,000 Direct material = €6,500

See you next week! 27