Copyright ©2008 Prentice Hall. All rights reserved 2-1 Building Blocks of Managerial Accounting Chapter 2

Copyright ©2008 Prentice Hall. All rights reserved 2-2 Objective 1 Distinguish among service, merchandising, and manufacturing companies

Copyright ©2008 Prentice Hall. All rights reserved 2-3 Service Companies Sell services No inventory or cost of goods sold accounts Labor costs – incurred to develop new services, advertise, provide customer service

Copyright ©2008 Prentice Hall. All rights reserved 2-4 Merchandising Companies Purchase inventory from suppliers; resell to customers Retailers and wholesalers One inventory account – includes all costs to acquire and get inventory ready for sale Labor costs – identify new products and locations for stores, advertising, selling, customer service

Copyright ©2008 Prentice Hall. All rights reserved 2-5 Manufacturing Companies Use labor, plant, and equipment to convert raw materials into finished products Three inventory accounts:  Raw Materials inventory  Work in process inventory  Finished goods inventory

Copyright ©2008 Prentice Hall. All rights reserved 2-6 Objective 2 Describe the value chain and its elements

Copyright ©2008 Prentice Hall. All rights reserved 2-7 Value Chain Activities that add value to products and services R&DDesign Production/ Purchases MarketingDistribution Customer Service

Copyright ©2008 Prentice Hall. All rights reserved 2-8 Objective 3 Distinguish between direct and indirect costs

Copyright ©2008 Prentice Hall. All rights reserved 2-9 Cost Object Anything for which managers want a separate measurement of cost  Direct cost – can be traced directly to cost object  Indirect cost – cannot be traced directly to cost object

Copyright ©2008 Prentice Hall. All rights reserved 2-10 Objective 4 Identify the inventoriable product costs and period costs of merchandising and manufacturing firms

Copyright ©2008 Prentice Hall. All rights reserved 2-11 Inventoriable Product Costs Inventoriable product costs – costs incurred during production or purchases stage of value chain

Copyright ©2008 Prentice Hall. All rights reserved 2-12 Inventoriable Product Costs: Incurred During Production or Purchases Stage of Value Chain R&DDesign Marketing Distribution Customer Service Production/ Purchases Inventoriable Product Costs

Copyright ©2008 Prentice Hall. All rights reserved 2-13 Period Costs: All Costs Incurred in the Other Stages of the Value Chain Marketing Distribution Customer Service Period Costs

Copyright ©2008 Prentice Hall. All rights reserved 2-14 Merchandising Company Product Costs Purchase price plus cost of getting merchandise ready for sale

Copyright ©2008 Prentice Hall. All rights reserved 2-15 Manufacturing Company’s Inventoriable Product Costs Direct materials Direct labor Manufacturing overhead Direct Costs Indirect Costs

Copyright ©2008 Prentice Hall. All rights reserved 2-16 Manufacturing Overhead Indirect costs related to manufacturing operations Generally all manufacturing costs that are not direct costs  Indirect materials  Indirect labor

Copyright ©2008 Prentice Hall. All rights reserved 2-17 Prime and Conversion Costs Direct Materials Direct Labor Manufacturing Overhead Prime Costs Conversion Costs

Copyright ©2008 Prentice Hall. All rights reserved 2-18 Direct and Indirect Labor Compensation Salaries & wages Fringe benefits Payroll taxes

Copyright ©2008 Prentice Hall. All rights reserved 2-19 Service Company All costs are period costs Operating income = Service revenue – operating expenses

Copyright ©2008 Prentice Hall. All rights reserved 2-20 Objective 5 Prepare the financial statements for service, merchandising, and manufacturing companies

Copyright ©2008 Prentice Hall. All rights reserved Product costs 2008 Income Statement Inventory sold in 2008 Cost of goods sold Inventory 2008 Balance Sheet 2009 Income Statement Inventory sold in 2009

Copyright ©2008 Prentice Hall. All rights reserved 2-22 Merchandising Company: Income Statement Sales - Cost of goods sold Gross profit - Operating expenses Operating income

Copyright ©2008 Prentice Hall. All rights reserved 2-23 Merchandising Company: Cost of Goods Sold Calculation Cost of goods sold: Beginning inventory + Purchases + Freight-in Cost of goods available for sale - Ending inventory Cost of goods sold

Copyright ©2008 Prentice Hall. All rights reserved 2-24 Manufacturing Companies: Income Statement Sales - Cost of goods sold Gross profit - Operating expenses Operating income

Copyright ©2008 Prentice Hall. All rights reserved 2-25 Manufacturing Company: Calculating Cost of Goods Sold Cost of goods sold: Beginning finished goods inventory + Cost of goods manufactured Cost of goods available for sale - Ending finished goods inventory Cost of goods sold

Copyright ©2008 Prentice Hall. All rights reserved 2-26 Manufacturing Company: Calculating Cost of Goods Manufactured Cost of goods manufactured: Beginning work in process inventory + Direct materials used + Direct labor + Manufacturing overhead Total manufacturing costs to account for - Ending work in process inventory Cost of goods manufactured

Copyright ©2008 Prentice Hall. All rights reserved 2-27 Manufacturing Company: Direct Materials Calculation Direct materials used: Beginning materials inventory + Purchases of direct materials + Freight in Materials available for use - Ending materials inventory Direct materials used

Copyright ©2008 Prentice Hall. All rights reserved 2-28 Product and Period Costs Type of Company Inventoriable Product Costs Period Costs Service Company NoneAll costs along the value chain Merchandising Company Purchases plus cost of freight All costs except purchases Manufacturing Company Direct Materials, Labor and MFG OH All costs except production Accounting Treatment Inventory, then expense Always Expense

Copyright ©2008 Prentice Hall. All rights reserved 2-29 Manufacturing Companies’ Inventory Accounts Materials Inventory Beginning inventory Purchases & freight Ending inventory Materials used

Copyright ©2008 Prentice Hall. All rights reserved 2-30 Manufacturing Companies’ Inventory Accounts Work in Process Inventory Materials used Direct labor Manufacturing overhead Beginning inventory Ending inventory Cost of goods manufactured

Copyright ©2008 Prentice Hall. All rights reserved 2-31 Manufacturing Companies’ Inventory Accounts Finished Goods Inventory Beginning inventory Ending inventory Cost of goods sold Cost of goods manufactured Income Statement

Copyright ©2008 Prentice Hall. All rights reserved 2-32 E2-23 a. __________ can be traced to cost objects. b. ____________ are expensed when incurred. c. _____ are the combination of direct materials and direct labor. d.Compensation includes wages, salaries, and _________________. Direct costs Period costs fringe benefits What is the term applied to the total of direct material and direct labor?

Copyright ©2008 Prentice Hall. All rights reserved 2-33 E2-23 e. ________________________ are treated as _______until sold. f. ________________________ include costs from only the production or purchases element of the value chain. g. _____________are allocated to cost objects. h. Both direct and indirect costs are ______ to ________________. Inventoriable product costs Indirect costs assigned cost objects What section of the Balance Sheet does the Inventory account live in?

Copyright ©2008 Prentice Hall. All rights reserved 2-34 E2-23 i.__________________ include costs from every element of the value chain. j.__________________ are the combination of direct labor and manufacturing overhead. k._________________________ are expensed as __________________when sold. Full product costs Inventoriable product costs cost of goods sold What is the name of the activity that involves turning raw materials into finished goods?

Copyright ©2008 Prentice Hall. All rights reserved 2-35 E2-23 l. Manufacturing overhead includes all ______________ of production. indirect costs

Copyright ©2008 Prentice Hall. All rights reserved 2-36 Objective 6 Describe costs that are relevant and irrelevant for decision making

Copyright ©2008 Prentice Hall. All rights reserved 2-37 Controllable vs Uncontrollable Costs Controllable – management can influence or change cost Uncontrollable – management cannot change or influence cost in the short-run

Copyright ©2008 Prentice Hall. All rights reserved 2-38 Relevant and Irrelevant Costs Relevant – costs that differ between alternatives  Differential costs Irrelevant – costs that do not differ  Sunk costs

Copyright ©2008 Prentice Hall. All rights reserved 2-39 Objective 7 Classify costs as fixed or variable and calculate total and average costs at different volumes

Copyright ©2008 Prentice Hall. All rights reserved 2-40 Cost Behavior Variable costs – change in total in direct proportion to changes in volume Fixed costs – stay constant in total over a wide range of activity levels

Copyright ©2008 Prentice Hall. All rights reserved 2-41 Total Variable Costs Assume we pay 5% sales commissions on all sales. The cost of sales commissions increases proportionately with increases in sales.

Copyright ©2008 Prentice Hall. All rights reserved 2-42 Total Fixed Costs: Stay Constant in Total Over a Wide Range of Activity Levels

Copyright ©2008 Prentice Hall. All rights reserved 2-43 Total Cost Total fixed costs + (Variable cost per unit x number of units) = Total Cost Example: If Fixed Costs are $20,000,000 and Variable Costs are $5,000 per vehicle, and there are 10,000 vehicles, then: Total Cost= $20,000,000 + ($5,000 x 10,000) or $70,000,000

Copyright ©2008 Prentice Hall. All rights reserved 2-44 Average Cost Total cost ÷ number of units = Average cost Example: $70,000,000 (Total Cost)_ = $7,000 per vehicle 10,000 vehicles

Copyright ©2008 Prentice Hall. All rights reserved 2-45 Marginal Cost Cost of making one more unit  Example – fixed costs will not change when one more unit is manufactured, so therefore the marginal cost of a unit is simply its variable cost

Copyright ©2008 Prentice Hall. All rights reserved 2-46 E2-32 a.Managers cannot influence __________ _____ in the short-run. b.Total _____________ decrease when production volume decreases. c.For decision-making purposes, costs that do not differ between alternatives are ________________. d.Costs that have already been incurred are called ____________. uncontrollable costs irrelevant costs sunk costs This type of cost changes as another cost changes.

Copyright ©2008 Prentice Hall. All rights reserved 2-47 E2-32 e.Total ___________ stay constant over a wide range of production volume. f.The _______________ is the difference in cost between two alternative courses of action. g.The product’s ____________ is the cost of making one more unit. differential cost marginal cost This type of cost does not change with changes in other costs.

Copyright ©2008 Prentice Hall. All rights reserved 2-48 E2-32 h.A product’s ____________ and ____________, not the product’s ___________, should used to forecast total costs at different production volumes. fixed costs variable costs average cost

Copyright ©2008 Prentice Hall. All rights reserved 2-49 End of Chapter 2