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					     IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




Basic Cost Concepts

         Chapter 3 (Blocher et al.)

         Objectives
          Understand the cost driver
         concepts
          Understand the cost concepts
         related to the use of cost information
         in planning and decision making
          Demonstrate how costs flow
         through accounts

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          IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




    General Course Info
            Part 1
  Basic Financial Accounting

            Part 2
Cost Behavior and Cost System

           Part 3
       Product Costing

            Part 4
          Budgeting
                                                                              2
                            IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




                      Cost Drivers

• Cost Behaviors: _______________________________
  ____________________________________________
• A critical first step in achieving a competitive advantage
  is to identify the _________________ in the firm or
  organization
      Units                                                         Machine
    produced                                                         hours
                        A cost driver is
                   any factor that has the
                    effect of changing the
                      level of total cost.
      Miles                                                           Labor                     3
      driven                                                          hours
                                IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT



                          Cost Drivers, Cost Pools, Cost
                          Objects

   A _______ is
  incurred when a
resource is used for
   some purpose.

                              Costs may be
                              collected into
                              groups called
                              __________



                                                     A __________ is any
                                                    product, service, or unit to
                                                   which costs are assigned for
See relationship in slide#6                        some management purpose.
                                                                                                    4
                            IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT



                   Cost Assignment / Cost Allocation:
                   Direct Cost / Indirect Cost

• ________________ is the process of assigning costs to cost
  pools or from cost pools to cost objects

• ________________ is the assignment of indirect costs to cost
  pools and cost objects

• ________________ can be conveniently and economically
  traced directly to a cost pool or a cost object

• ________________ has no convenient or economical way to
  trace from the cost to the cost pool or from the cost pool to the
  cost object

• Allocation bases are the cost drivers used to allocate costs

                                                                                                5
                     IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT



                 Costs, Cost Pools, Cost
                 Objects, and Cost Drivers
                               and


Electric Motor

  Materials
  Handling                Assembly                                Dishwasher

 Supervision

  Packing
  Materials                                                         Washing
                           Packing
                                                                    Machine
    Final
 Inspection                                                                 Exhibit 3.1
                                                                                      6

                                                                     Back to slide#4
           IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




        Classification of Costs

                                   Direct Material

                                   Direct Labor

                                   Manufacturing Overhead

COSTS

                                    Selling Expenses


                                    General & Administrative
                                    Expenses

                                                                               7
                              IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT



                        Direct / Indirect
                        Material Cost

_________________ include the cost of materials in the product and a
  reasonable allowance for scrap and defective units.

_________________ are materials used in manufacturing that are not
  physically part of the finished product.




SUGAR       FLOUR




                                                                                                  8
                       IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




                   Manufacturing Costs

1. Direct Material Costs

Include the acquisition costs of all
  materials that are physically
  identified as a part of the
  manufactured goods and that
  may be traced to the
  manufactured goods in an
  economically feasible way.
                                                                                           9
                         IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




                  Manufacturing Costs

2. Direct Labor Cost -

Include the wages of all labor that can
  be traced specifically and
  exclusively to the manufactured
  goods in an economically feasible
  way.



                                                                                            10
                           IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




                      Manufacturing Costs

 3. Manufacturing Overhead
• Or “Indirect manufacturing cost” or
  “factory overhead”

• Include all costs associated with the
  manufacturing process that cannot be
  traced to the manufactured goods in an
  economically feasible way.

• Can be further classified as:


                                                                                              11
                        IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




                   Non-Manufacturing Costs

Selling Expenses

  Expenses incurred from selling activities
  Categorized as period cost
  Ex: ______________________________

General and Administrative Expenses

 Expenses incurred from administrative activities
 Categorized as period cost
 Ex: ______________________________
                                                                                           12
                     IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




                   Production Cost

Material




           Labor                                         Production Cost




                        Manufacturing
                          Overhead


                                                                                        13
                                     IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT



                              Prime Costs and
                              Conversion Costs

•   All indirect costs are commonly combined into a single cost pool call factory
    overhead

•   Prime cost refers to direct materials and direct labor that are sometimes
    considered together

•   Conversion cost refers to direct labor and factory overhead combined into a
    single amount

•   Manufacturing costs are often combined as follows:
             Direct                     Direct                             Factory
            Materials                   Labor                             Overhead




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                                        IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




        Cost Concepts for
        Product and Service Costing
Product Cost                                    Period Cost
 Product costs for a manufacturing firm         Period costs are all nonproduct
   include only the costs necessary to               expenditures for managing the
   complete the product (direct
                                                     firm and selling the product
   materials, direct labor, and factory
   overhead)                                     Period costs are expenses
 Product inventory  an asset on their              because there is no expectation
   balance sheets                                    that they will produce future value
 It is considered an asset until the            Ex: selling, and administrative
   inventory is sold                                 costs that are necessary for the
 Once sold, the cost of the inventory is            management of the company but
   transferred to the income statement               are not involved directly or
   as cost of goods sold                             indirectly in the manufacturing
                                                     process                          15
                          IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT



                        Merchandising
                        Company
Merchandising Process                                         Income Statement

                                                                               Sales
                                                                                   -



                                                                                  =
                                                                         Gross Margin
                                                                                  -
                                                                    Selling Expenses
                                                                     G&A Expenses
                                                                                 =
                                                                   Operating Income
                                                                                             16
                           IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT



                        Manufacturing
                        Company
Manufacturing Process                                          Income Statement

                                                                                Sales
                                                                                    -
                 Work-in-Process       Finished Goods                  Cost of Goods Sold
                   Inventory              Inventory                       (Expenses)

                                                                                   =
                                                                          Gross Margin
                                                                                   -
             Product                                                 Selling Expenses
              Costs                       Period                      G&A Expenses
                                          Costs
                                                                                  =
                                                                    Operating Income
                                                                                              17
                                       IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




                             Types of Cost Drivers

•    Cost management requires a good understanding of how the total cost
     of a cost object changes as the cost drivers change

                                                Identified using activity analysis,
•    Four types of cost drivers are:            a detailed description of specific
1.   _______________                            activities performed in
                                                the firm’s operations.
2.   _______________
                                                Relationship between costs and
3.   _______________                            volume measures such as units
4.   _______________                            produced, direct labor hours,
                                                or quantity of materials used.
                                                      Involves strategic plans and decisions:
                                                      Scale, Experience, Technology,
                                                      Complexity
                                                     Short-term operational decisions:
                                                     Workforce involvement, Production
                                                     process design, Supplier          18
                                                     relationships
                             IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT



                       Variable and Fixed
                       Costs
• Determine how changes in cost driver levels affect
  variable and fixed costs

• Variable Costs
   – Cost that change in direct proportion to changes in cost driver


• Fixed Costs
   - Remain unchanged regardless of changes in cost-driver activity
      (in relevant range)



                                                                                                19
                                      IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




                              Relevant Range

The Relevant Range is the range of the cost driver:
1. in which the actual value of the cost driver is expected to fall and
2. for which the relations is assumed to be approximately linear

                                         Limit of cost-driver activity within
                                        which a specific relationship between
                                        costs and the cost driver is valid

                                        Fixed Costs   $16,000 –

                                                      $12,000 –
                                                                             Relevant Range
                                                       $8,000 –

                                                       $4,000
                                                                    –




                                                                                   –




                                                                                                      –
                                                                0   500   1,000 1,500     2,000     2,500
                                                                             Volume in Units             20
                                    IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT



                             Variable and Fixed Costs
                             Analysis

                                     If Cost-Driver Activity Level 
                                                   ()
   Type of Cost              Total Cost                         Cost per unit

   Fixed Costs
   Variable Costs


Example: StarBuds coffee house specializes in latte. The owner pays $1000 each
   month for store rent. The shop serves 2000 cups of latte each month on
   average. The costs for coffee bean and other raw material are predetermined
   at $1 per cup of latte.

If the predicted sale is 2500 cups for next month, comment on the changes in
                                                                                                       21
     related fixed & variable costs.
                                IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




                          Step-Cost



        Total cost increases to a
       new higher cost for the next
         higher range of activity.




Total cost remains




                                                                                         Cost
 constant within a
  narrow range of
      activity.
                                                       Activity
                                                                                                   22
                                       IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT




                             Classification of Costs
                             (Exercise 3-21, pg 80)


•     Classify each item as either PRODUCT COST or PERIOD COST
•     Classify all product costs as direct or indirect (assume that cost object = units of
      product manufactured)

1.    State income taxes
2.    Insurance on the manufacturing facilities
3.    Supplies used in manufacturing
4.    Wages for employees in the assembly department
5.    Wages for employees who deliver the product
6.    Material used in the production process
7.    Rent for the sales outlet
8.    Electricity for manufacturing equipment
9.    Depreciation expense on delivery trucks
10.   Factory supervisors’ salaries
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                               IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT


                       Cost Flows:
                       Manufacturing, Merchandising,
                       and Service Costing

• Materials inventory keeps the cost of the supply of materials used in
  the manufacturing process or to provide the service

• Work-in-Process inventory contains all costs put into the manufacture
  of products that are started but not complete at the financial statement
  date

• Finished goods inventory holds the cost of goods that are ready for
  sale

• Inventory Formula

    Beginning                                  Cost                       Ending
                     Cost         =                                +
    Inventory   +                           Transferred                  Inventory
                    Added
     Balance                                    Out                       Balance
                                                                                                  24
                                  IES 342 Industrial Cost Analysis & Control | Dr. Karndee Prichanont, SIIT



                           Income Statement for a
                           Manufacturing Firms
•   The manufacturing firm requires a two-part calculation for cost of goods
    sold:

•   the first part combines the cost flows affecting the Work-in-Process
    Inventory account to determine the amount of Cost of Goods Manufactured
     STATEMENT OF COST OF GOODS MANUFACTURED

•   the second part combines the cost flows for the Finished Goods Inventory
    account to determine the amount of the cost of the goods sold and net
    income  INCOME STATEMENT

Cost of Goods Manufactured is the cost of goods finished and transferred out
  of the Work-in-Process Inventory account this period

[See Exhibits 3.15a and 3.15b]


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