Costs

Introducing the topic Cutting costs to increase profits. Page 507 Answer all questions.

Cost Why should a business have accurate costing data? - To ensure you have accurate profit and loss information to make informed decisions. - So Marketing can formulate correct pricing decisions and strategies. - To ensure you keep costs under control, avoid cost blowouts. - Help setting budgets.

Costs of Production Allocating costs can be difficult at times especially if you have more than one product. These are the five main categories for cost allocation. - Direct Cost - Indirect Cost - Fixed Cost - Variable Cost - Marginal Cost

Direct Costs These costs can be clearly identified with each unit of production and can be allocated to a cost center. What would be a direct cost of making a Ham Burger? - The Meat Labor and materials are the most common direct costs for a manufacturer.

Indirect Costs Costs that cannot be identified with a unit of production or allocated to a cost center. These are normally considered overheads. What would be a indirect cost of a supermarket? Promotional Expenditure

Other Costs Costs can be classified as the following. Fixed Costs – these cost remain fixed regardless of the level of out put i.e. rent Variable Costs – this vary as the out put changes such as the electricity used to cook a fast food meal. Remember some costs can have a fixed and variable element i.e. salesman's wages + commission.

Other Costs Marginal Cost – these are the additional costs of producing one more unit of out put. Complete Activity 28.1 Q’s 1-4 page 509

Classifying Costs Activity 28.2 page 511 question 1 and 2

Classifying Costs This is difficult as sometimes a cost cannot always be allocated to a category. Wages will continue to be paid even if there is a lack of orders, so they can no longer be considered direct as they have become an overhead. Telephone charges could be allocated directly to a product if accurate records were kept.

Break Even Analysis The level of output at which total costs equal total revenue. Can be done in two ways. Graphical The Equation method Includes (FC, VC, TC, S)

THE BREAK EVEN CHART Cost and Sales Revenue ($) Units of output and sales 0 Sales Revenue Fixed Costs Variable Costs Total Costs Break Even PointFull Capacity Profit at full capacity

Margin of Safety The amount at which sales level exceeds the break even level of ouput. So if your break even point is 200 units and your company is producing 350 units currently your margin of safety is 150 units.

The Break Even Equation The equation is as follows: Break even level of output = fixed cost contribution per unit Contribution per unit = selling price less variable cost per unit. Work out the break even output on the following FC $300,000 CPU $75? = 4000 units to break even

Break Even Analysis Break even analysis is useful for many business applications as it can assist not only with understanding how much product you need to make to survive, but in other departmental decision making as you can show the impact on a new graph.

Activity 28.3 Break Even Chart page 512.

Break even analysis Marketing decision – increasing the price of your products, assuming sales level stays the same your break even point will become less. Operations decision – Buying a new equipment will lower variable costs.

BEA – usefulness Easy to construct Provides info on Break even point, safety margins and p + l levels at different output points. You can chart the impact of new decisions. Assist in making decisions.

Evaluation The assumption that all costs and revenues are represented by straight lines is unrealistic, also semi variable costs make the technique more complicated, and inventory levels are not taken into account it is assumed that all units are sold we know in practice this is unrealistic.