COST ACCOUNTING

Unit 1 Cost Accounting and Information for Decision Makers

Learning Objectives: 1.Describe the way managers use accounting information to create value in organizations. 2.Distinguish between the uses and users of cost accounting and financial accounting information. 3.Explain how cost accounting information is used for decision- making and performance evaluation in organization. 4.Identify current trends in cost accounting.

The Consept of Value Chain We start our discussion with the concepts of value creation and the value chain because in cost accounting our goal is to assist managers in achieving the maximum value for their organizations. Measuring the effects of decisions on the value of the organization is one of the fundamental services of cost accounting. As providers of information (accountants) or as the users of information (managers), we have to understand how the information can and will be used to increase value. We can then come back to questions about how to design accounting systems that accomplish this goal. McGraw-Hill/IrwinCopyright ©2008 The McGraw-Hill Companies, Inc. All rights reserved.

Value Chain LO1Describe the way managers use accounting information to create value in organizations. The Value Chain describes a set of activities that transforms raw material and resources into the final goods and services which will be purchased by customers.

Value Chain In much of our discussion about cost accounting, we will be concerned with the part of the value chain that comprises the activities of a single organization (a firm, for example). However, an important objective of modern cost accounting is to ensure that the entire value chain is as efficient as possible. It is necessary for the firm to coordinate with vendors and suppliers and with distributors and customers to achieve this objective. McGraw-Hill/IrwinCopyright ©2008 The McGraw-Hill Companies, Inc. All rights reserved.

Analyzing Value Added Activities Evaluate each Activity Does it add value? Value Added – the customer perceives value has been added. Non Value Added – the customer does not perceive any added value.

Value Chain Activity Value Added Non Value Added R&D: Creating a new product  Design: Developing and engineering new products  Purchasing: Acquisition of goods and services for production  Production : Producing the product  Marketing: Informing customers about the product  Distribution: Delivering the product to customers  Service: Supporting customers using the product 

Accounting Systems LO2 Distinguish between the uses and users of cost accounting and financial accounting information. Accounting systems are designed to provide information to decision-makers. Financial Accounting System Provides information to external decision-makers Cost Accounting System Provides information to Internal decision-makers

Accounting System, continued… Financial accounting reports financial position and income according to GAAP (Generally Accepted Accounting Principles). Data should be comparable across firms. Cost accounting measures, records and reports information about costs. Data should be relevant for decisions in a particular firm.

Customers of Cost Accounting  Customers who purchase or use the commodity or service.  Managers making decisions within the firm.  Owners of the firm evaluating managers.

Managerial Decisions LO3 Explain how cost accounting information is used for decision making and performance evaluation in organization. KEY QUESTION: What adds value to the firm?

Carmen’s Cookies Should Carmen expand operations?  Are the benefits greater than the costs?  What are the differential revenues?  What are the differential costs?  What are the cost drivers?

Cost Benefit Analysis Consider both costs & benefits of a proposal. Are costs greater than the benefits? Benefits > Costs? Expand! Benefits < Costs? Don’t Expand!

Cost Drivers What drives cost?  Factors that cause or ‘drive’ cost.  These are estimates and require assumptions. What are Carmen’s cost drivers? Number of stores. Number of cookies.

Carmen’s Cost Drivers CostDriver Rent # of stores Insurance Labor # of cookies Ingredients

Differential Costs Costs that change in response to a particular course of action. Differential costs change (differ) between actions.

Differential Revenues Revenues that change in response to a particular course of action. Differential revenues change (differ) between actions.

Differential Costs, Revenues, and Profits Carmen’s Cookies Projected Income Statement for One Week (1)(2)(3) Status Quo Original Shop Sales Only Alternative Wholesale & Retail DistributionDifference Sales Revenue$ 6,300$ 8,505 a $ 2,205 Costs Food1,8002,700 b 900 Labor1,0001,500 b 500 Utilities b 200 Rent1, Other1,0001,200 c 200 Total Costs$ 5,450$ 7,250$ 1,800 Operating Profit$ 850$ 1,255$ 405 (a) 35 percent higher than status quo (b) 50 percent higher than status quo. (c) 20 percent higher than status quo.

Budget CARMEN’S COOKIES Budgeted Costs For the Month Ending April 30 Materials Flour $2,200 Eggs 4,700 Chocolate 1,900 Nuts 1,900 Other 2,200 Total Materials $12,900 Labor: Manager $3,000 Other 1,500 Total Labor 4,500 Utilities 1,800 Rent 5,000 Total Cookie Costs $24,200 Number of Cookies 32,000

Actual to Budget Comparisons CARMEN’S Cookies Actual vs Budgeted Costs For the Month Ending April 30 ActualBudget Difference (Variance) Number of Cookies Sold32, Costs: Food Flour$2,100$2,200$(100) Eggs 5,200 4, Chocolate 2,000 1, Nuts 2,000 1, Other 2, Total Food$13,500$12,900$ 600

Actual to Budget, Continued... ActualBudget Difference (Variance) Labor Manager$3,000 $ -0- Other 1, Total Labor$ 4,500 $ -0- Utilities 1, Rent 5, Total Cookie Costs$24,800$24,200 $600

Trends in Cost Accounting 1.ABC – Activity Based Costing 2.Performance Measurement 3.Benchmarking 4.JIT - Just In Time Inventory 5.CRM - Customer Relationship Management 6.Outsourcing 7.TQM - Total Quality Management 8.COQ – Cost of Quality 9. ERP - Enterprise Resource Planning. LO4 Identify current trends in cost accounting.

ABC: Activity Based Costing ABC assigns costs of activities needed to make a product, then sums the cost of those activities to compute the total cost of the product.

Performance Measurement Performance Measurement indicates how well a process is working.

Benchmarking  Benchmarking methods measure products, services, and activities against the best performance.  Benchmarking is an ongoing process resulting in continuous improvement.

JIT: Just In Time Inventory JIT is an inventory system designed to lower the cost of maintaining excess inventory. Units are produced or purchased ‘just in time’ for use, keeping inventories at a minimum.

CRM Customer Relationship Management CRM is a system that allows firms to target profitable customers by assessing customer revenues and costs. Some examples are: In Las Vegas, Harrah’s Entertainment provides “complimentary” services to some customers. In the airline industry, frequent flyers accumulate ‘points’ that can be redeemed for services. Many credit cards issue ‘points’ which can be traded for products or services.

Outsourcing Outsourcing occurs when a firm’s activities are performed by another organization or individual in the supply or distribution chain. Some examples are: Nikon relies on UPS for distribution. Several computer manufacturers use Intel chips in their final products.

TQM Total Quality Management TQM is a management method which focuses on excelling in all dimensions. The emphasis is placed on quality. Quality is defined by the customer.

COQ – Cost of Quality Cost of Quality is a system that identifies the cost of producing low quality items. Examples are:  Identifying the costs associated with producing defective units  Quantifying the cost of lost sales due to producing sub-standard products  Tracking the cost of returns due to a lack of quality

ERP Enterprise Resource Management Information technology linking various systems of the enterprise into a single comprehensive information system. Purchasing Human Resources Technology Production Finance Marketing

Key Financial Managers in an Organization Chief Financial Officer (CFO) Treasurer Controller Internal Auditor Cost Accountant Manages the entire accounting and finance functions Manages liquid assets Plans and designs information and incentive systems Ensures compliance with laws, regulations, and company policies and procedures Records, measures, estimates, and analyzes costs

Unit 1