Summary Chapter 2: An Introduction to Cost Terms and Purposes Variable cost a cost that varies with direct production the amount increase when production volume grows and declines when production volume shrinks Fixed cost a cost that is fixed (do not change) the amount depends on the accounting period (Month, quarter, year) rather than the number of unit produced. Costs and costs terminology Actual cost: cost that we actually incurred during a period of time. Budget cost: cost, which is predicted or forecasted cost (future cost). Cost object: describe something to which costs are assigned. Product line, geographic territories, customers, departments or anything else for which management would like to quantify. Example: apple (IPhone, IPad, Mac) a cost that might be assigned (cost measurement is desired). Aya object bade ehsbo ade bkalefne cost object. Difference between direct and indirect costs. Direct cost are costs that can be directly related to the production of goods and services. To a particular cost object can be traced (product, service, or unit).by example: for a company that produces furniture, the funds that are spent on wood, paint, varnish the labor cost for hiring a craftsman will be direct costs. This is because these costs can be directly associated with the production of the furniture. Indirect cost related to the particular cost object but cannot be traced to ma certain cost object (not focused on just one product or service) example: utility bills, rent, insurance, accounting expenses. Maintenance common cost. Method of allocation (How can I allocate an indirect cost to a particular cost object) based on uses of this cost per object Factors Affecting Direct/Indirect Cost Classifications Several factors affect whether a cost is classified as direct or indirect: The materiality of the cost in question. The smaller the amount of a cost—that is, the more immaterial the cost is—the less likely it is economically feasible to trace it to a particular cost object. 0.5$ small amount it does not worse to be allocated 3ala specific product Salary 45.000$ big amount so I should find a way to allocated. Available information-gathering technology. Any product that include some technological improvements, research and development. I should know that this product have a certain technological cost noting by the way kel ma ykun technological advance aktar kel ma ken less costly. You are able to increase production in lower cost Design of operations. Explain variable costs and fixed costs Variable cost a variable cost changes in total in proportion to changes in the related level of total activity or volume of output produced. By example: direct material, direct labor Fixed cost a fixed cost remains unchanged in total for a given time period, despite wide changes in the related level of total activity or volume of output produce Variable cost increase with high production Decrease with less production Fixed cost does not change in high or less production Total Costs and Unit Costs Total Variable Cost = Number of Units Produced x Variable Cost Per Unit Total Cost = Total Fixed cost + Total variable cost (TC = TFC + TVC) Unit cost or ( Average Cost ) = Average Fixed Cost ( AFC ) = Average Variable Cost (AVC) = production increase or decrease Average total cost (ATC) = AFC + AVC Example: in the book Page 59-60 Total cost = $40.000.000 Total Quantity = 500.000 Units 𝑻𝒐𝒕𝒂𝒍 𝒄𝒐𝒔𝒕(𝑻𝑪) 𝑻𝒐𝒕𝒂𝒍 𝑸𝒖𝒔𝒏𝒕𝒊𝒕𝒚(𝑻𝑸) 𝑻𝒐𝒕𝒂𝒍 𝐹𝑖𝑥𝑒𝑑 𝑪𝒐𝒔𝒕(𝑻𝑭𝑪) Quantity increase ,AFC decrease ,vice versa 𝑻𝒐𝒕𝒂𝒍 𝑸𝒖𝒔𝒏𝒕𝒊𝒕𝒚(𝑻𝑸) 𝑻𝒐𝒕𝒂𝒍 𝑽𝒂𝒓𝒊𝒂𝒃𝒍𝒆 𝐶𝒐𝒔𝒕(𝑻𝑽𝑪) 𝑻𝒐𝒕𝒂𝒍 𝑸𝒖𝒔𝒏𝒕𝒊𝒕𝒚(𝑻𝑸) will always remain the same no matter if Unit cost = 40.000.000 500.000 = $80 Sales = 480.000 Cost of Good Sold = Total Quantity Sold * Unit Cost = 480.000 * 80 = 38.400.000 Ending inventory balance = (Beginning Inventory – Cost of Goods Sold) * 80 = $1.600.000 Ending Inventory (EI) = Beginning Inventory (BI) + purchases - Cost of Goods Sold (COGS) Business Sectors, Types of Inventory, Inventiorable Costs, and Period Costs Manufacturing-, Merchandising-, and Service-Sector Companies 1. Manufacturing-sector companies purchase materials and components and convert them into various finished goods. Includes types of inventory Raw material. Work in process , Finished Good “Ending Product” 2. Merchandising-sector companies purchase and then sell tangible products without changing their basic form. Only purchase fixed or finished goods “Retail Store “ 3. Service-sector companies provide services (intangible products)—for example, legal advice or audits—to their customers. Hotel , transportation companies as Middle east airlines Types of Inventory 1. Direct materials inventory. Direct materials in stock that will be used in the manufacturing process (for example, computer chips and components needed to manufacture cellular phones). 2. Work-in-process inventory. Goods partially worked on but not completed (for example, cellular phones at various stages of completion in the manufacturing process). This is also called work in progress. 3. Finished goods inventory. Goods (for example, cellular phones) completed but not sold. Inventoriable costs Inventoriable costs is the cost of inventories that is capitalized as current assets in the balance sheet Manufacturing include all manufacturing cots like direct material , direct labor , direct overhead Merchandising include all costs incurred until you ger the inventory ready for sale like purchase price , freight , charges , taxes… Service-sector companies have no inventorial costs. Period Costs Period costs is a cost that is expenses as incurred like marketing expense, selling expense… Manufacturing-Sector Example DM Used = BDM + New Purchase of DM – EDM Direct Material used Beginning direct material Ending direct material TMC = DM Used + DL + OHC Total Manufacturing Cost Direct labor Overhead cost Gross margin = Revenues - Cost of goods sold (Income Statement ) Total Operating income (TOI) = Gross margin (GM OR GP) – Total operating costs (expenses) (OE) Finished good = Beginning inventory + Cost of new manufacturing inventory- Ending finished inventory Prime Costs and Conversion Costs Are all direct Prime costs = Direct material costs + Direct manufacturing labor costs manufacturing costs. Represent all manufacturing costs incurred to convert direct materials Conversion costs = Direct manufacturing labor costs + Manufacturing overhead costs into finished goods. MC = DM+DL+MOH CC = DL + MOH MC = DM + CC Direct Labor Include the cost of labors that re directly related to the production process Indirect Labor Cost include cost of labors that are not directly related to the manufacturing process. 2-26 Total costs and unit costs. The Big Event (TBE) recently started a business organizing food and music at weddings and other large events. In order to better understand the profitability of the business, the owner has asked you for an analysis of costs—what costs are fixed, what costs are variable, and so on, for each event. You have the following cost information: Music costs: $10,000 per event Fixed cost Catering costs: Food: $65 per guest Variable Cost Setup/cleanup: $15 per guest Variable Cost Fixed fee: $4,000 per event Fixed Cost The Big Event has allowed the caterer, who is also new in business, to place business cards on each table as a form of advertising. This has proved quite effective, and the caterer gives TBE a discount of $5 per guest in exchange for allowing the caterer to advertise. Required: 1. Draw a graph depicting fixed costs, variable costs, and total costs for each event versus the number of guests. Total cost = TFC + TVC Its start from the TFC and it will increase with your TVC Total fixed cost = 10.000+4.000=14.000 Total variable cost (varies with the number of guest) it will start from zero and it goes up. As the number of guest increase this total variable cost increase 2. Suppose 150 persons attend the next event. What is TBE’s total net cost and the cost per attendee? Discount $5 Variable cost per guest = (65-5) +15 = $75 TVC = number of guests × variable cost per guest = 150 × 75 =$ 11.250 TC = TFC + TVC =14.000+11.250 = $25.250 25.250 150 persons Cost per attendee = 150 = $168.33 For 150 attendees the total cost will be $25,250, and the cost per attendee will be $168.33. 3. Suppose instead that 200 persons attend. What is TBE’s total net cost and the cost per attendee? Variable cost per guest = (65-5) +15 = $75 TVC = number of guests × variable cost per guest = 200 × 75 =$ 15.000 TC = TFC + TVC =14.000+15.000= $29.000 29.000 200 persons Cost per attendee = = $145 200 For 200 attendees, the total cost will be $29,000, and the cost per attendee will be $145. 4. How should TBE charge customers for its services? Explain briefly. Cost per attendee + markup Profit margin TBE should charge customers based on the number of guests. As the number of guests increase, TBE could offer price discounts because its fixed costs would be spread over a larger number of guests.