Ch 02: Managerial Accounting and Cost Concepts
Managerial-KU
Introduction:
1. Many different kind of organization affect our daily lives, like…….
[Manufacturing – retailers – services- Nonprofit organization – government]
2. All of these organization have:
a. A set of Goals or objectives
b. Managers strive to achieve these goals
c. To achieve these goals :
 Managers need information. ( Comes from accounting system)
 And the day to day work of the management which are: Planning
1. Identify alternatives.
2. Select the best alternative
3. Develop budgets for the selected alternative.
 Directing and motivating
1. Employee work assignments.
2. Routine problem solving.
 Controlling
1. The control function ensures that plans are being followed.
2. Controlling is the process of comparing actual results with the budget.
3. Feedbacks in the form of performance reports are an essential part of
the control function
3. Accounting System:
Is a part of the organization's management information system, which accumulate date for
use in both financial and managerial accounting
4. Types of accounting:
a. Financial Accounting
b. Managerial Accounting
Page 1 of 11
By: Ehab Abdou (97672930)
Ch 02: Managerial Accounting and Cost Concepts
Managerial-KU
MANAGERIAL VERSUS FINANCIAL ACCOUNTING:
Users
Reports
Time focus
Verifiability
versus
Relevance
Precision
versus
Timeliness
Subject
GAAP
Requirement
Financial accounting
Managerial
External Persons Who make financial
decisions
Financial Statement
 Income statement
 Retained Earning statement
 Balance sheet
 Statement of cash flow
Historical Perspective
Managers (internal) who plan
for and control an organization
Cost Reports
 Cost of Goods Sold
 Cost of Goods Available
 Cost of Goods Manufactured
Emphasis on Verifiability
Future emphasis
Emphasis on relevance for
planning and control
Emphasis on Precision
Emphasis on Timeliness
Primary focus is on the whole
organization
Must follow GAAP and prescribed
formats
Mandatory for external reports
Focus on segments of an
organization
Need not follow GAAP or any
prescribed format
Not Mandatory
5. Preparing of Cost Reports:
To prepare the cost reports we have first to understand what meant by cost.
Cost: is a sacrifice made by recourses to achieve a particular purpose.
Costs can be classified in a number of ways—depending on the purpose of the
classification1- Product and period : (Preparing external financial reports.
2- Manufacturing and Non-manufacturing : (Assigning costs to cost objects ).
3- Direct and indirect : ( the relationship between costs and Products)
4- Material, labor and overhead : ( Preparing Cost Budget )
5- Variable and Fixed : ( the relationship between costs and activity )
6- Controllable and Non-controllable : ( Making business Decisions )
Now let's look at various calcification of cots.
Page 2 of 11
By: Ehab Abdou (97672930)
Ch 02: Managerial Accounting and Cost Concepts
Managerial-KU
Cost Classifications: (General Cost Classifications)
1
Product Costs
3
2
Manufacturing
Direct Material (V)
Cost of goods sold
Inventory
Direct
Prime Cost
Direct Labour (V)
Conversion Cost
Indirect
Overhead (V,F,M)
Indirect Material
Period Costs
Non - Manufacturing
Marketing (selling)
Administrative
Page 3 of 11
Indirect Labour
Other MOH
Rental of Factory.
Depreciation on Plant, Equipment.
Utilities, Factory
Supplies, Factory
Insurance on Factory
By: Ehab Abdou (97672930)
Ch 02: Managerial Accounting and Cost Concepts
Managerial-KU
Cost Classifications: ( 4 types of cost classifications )
1. Product and period Costs.
Product costs include all the costs that are involved in acquiring or making a product,
Product costs are also known as Inventorable costs.
Period costs include all selling costs and administrative costs, These costs are expensed on
the income statement in the period incurred.
2. Manufacturing and Non-Manufacturing Costs.
Manufacturing costs: includes
a. Direct Material.
Raw materials that become an integral part of the product and that can be conveniently
traced directly to it.
Examples
the aircraft engines on a Boeing 777,
the Intel processing chip in a personal computer,
the blank video cassette in a pre-recorded video,
and a radio in an automobile.
b.
Direct Labor.
Those labor costs that can be easily traced to individual units of product.
Examples
Wages paid to automobile assembly workers
c.
Manufactory overhead
includes all manufacturing costs except direct materials and direct labor, These costs
cannot be easily traced to specific units (also called indirect manufacturing cost, factory
overhead, and factory burden).
 Indirect Materials.
Materials used to support the production process.
Examples
lubricants and cleaning supplies used in the automobile assembly plant.
 Indirect Labor.
Wages paid to employees who are not directly involved in production work.
Examples
maintenance workers, janitors and security guards.
 Other manufactory overhead.
maintenance and repairs on production equipment, heat and light, property taxes,
depreciation and insurance on manufacturing facilities, etc.
Non-Manufacturing costs: includes
a. Selling Costs.
include all costs necessary to secure customer orders and get the finished product into
the hands of the customer
Examples of selling costs include advertising, shipping, sales travel, sales commissions,
sales salaries, and costs of finished goods warehouses.
Page 4 of 11
By: Ehab Abdou (97672930)
Ch 02: Managerial Accounting and Cost Concepts
b.
Managerial-KU
Administrative Costs.
include all executive, organizational, and clerical costs associated with the general
management of an organization.
Examples of administrative costs include executive compensation, general accounting,
secretarial, public relations, and similar costs involved in the overall general
administration of the organization as a whole.
3. Cost Classification for decision making:
1. Opportunity Cost.
Is the potential benefit given up when one alternative is selected over another.
2. Differential Cost (Incremental Cost)
A difference in Cost between alternatives.
3. Sunk Cost.
Is a cost that has already been incurred and cannot be changed by any decision made
now or in the future.
4. Variable and Fixed Costs. (for predicting cost behavior)
A Variable cost
Varies in direct proportion to changes in the level of activity. For example, if you don’t have
a texting plan on your cell phone, text messaging costs 5 cents per text. Your total texting
bill increases with the number of texts you send.
Activity
(Messages)
100
200
300
Cost Per
Message
5 Cents
5 Cents
5 Cents
Total Cost of
Messages
500 Cents
1000 Cents
1500 Cents
A Fixed cost
is constant within the relevant range. In other words, fixed costs do not change for changes
in activity that fall within the “relevant range"
For example, your monthly contract fee for your cell phone is a fixed amount for a certain
number of minutes. The monthly contract fee does not change based on the number of calls
you make.
Relevant range:
The range of activity within which assumptions about variable and fixed cost behavior is
valid.
Note:
if you go over your monthly minutes allotment, you have exceed the relevant range for your
monthly contract and will be charged above and beyond your monthly contract fee.
Activity
(Minutes)
10
20
50
Page 5 of 11
Cost Per
Minute
$10
$05
$02
Total Cost of
Calls
$100
$100
$100
By: Ehab Abdou (97672930)
Ch 02: Managerial Accounting and Cost Concepts
Managerial-KU
Types of fixed costs:
a. Committed fixed cost.
Investments in facilities, equipment, and basic organizational structure that can’t be
significantly reduced without making fundamental changes.
b. Discretionary fixed cost
Those fixed costs that arise from annual decision by management to spend on certain
fixed cost item, such as advertising and research.
Cost
Variable
Fixed
Summary of Variable and Fixed cost Behavior
In Total
Per Unit
Total variable cost changes as
Variable cost per unit remains the same
activity level changes
over wide range of activity
Remains the same, within relevant Fixed cost per unit goes down as activity
Range
level goes up
A Mixed cost (Semivariable cost)
A cost that contains both variable and fixed cost element
Cost Reports
1- Income Statement
Sales revenue
(-) Cost of goods sold
(=) Gross margin
(-) Selling and administrative
*****
(****)
****
(****)
(=) Income before taxes
****
(-) Income tax expense
(***)
(=) Net Income (or net loss)
*****
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2-Cost of Goods Sold Statement
Cost of Beginning finished-goods Inventory
***
(+) Cost of goods manufactured
***
(=) Cost of goods available for sale
****
(-) Cost of ending finished-goods inventory
(***)
Cost of Goods Sold
*****
By: Ehab Abdou (97672930)
Ch 02: Managerial Accounting and Cost Concepts
Managerial-KU
3- Cost of Goods Manufactured Statement
Direct Material
Beginning raw-material inventory
***
(+) purchases of raw material
***
(=) Raw material available for use
****
(-) Ending raw-material inventory
(***)
(=) Raw material used = (Direct Material)
****
Add: direct Labour
****
Add: Manufacturing Overhead
Indirect material
***
Indirect labour
***
Depreciation on factory
***
Depreciation on equipment
***
Manufacturing utilities
***
Insurance, factory
= Total Manufacturing Overhead
***
…………
****
Total manufacturing costs
…………
*****
Add: Beginning of the period work-in-process inventory
…………
****
Deduct: Ending of period work in process inventory
…………
(****)
Cost of Goods Manufactured
………… ******
Types of Income Statement
Traditional Format
Sales
(-) Cost of Goods Sold
(=) Gross Margin (Profit)
(-) Selling and Administrative Exp.
(=) Net Operating Income
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Contribution Format
10,000
2,000
8,000
3,500
4,500
Sales
(-) Variable expenses
Cost of Goods Sold
Variable Selling
Variable administrative
(=) Contribution Margin
(-) Fixed expenses
Fixed Selling
Fixed administrative
(=) Net Operating Income
10,000
2,000
500
1,500
1,000
500
4,000
6,000
1,500
4,500
By: Ehab Abdou (97672930)
Ch 02: Managerial Accounting and Cost Concepts
Managerial-KU
Understanding Cost Behavior ??

Cost behavior refers to: How cost will react or changes as a change in the
level of Activity.
 Understanding cost behavior helps managers in Predicting Costs under
various levels of activity. How??
Let us Look at the following example.
Nour Company Produce 4,000 units at a total cost of $10,000.
Segregation of Mixed Costs:
Managers can use a variety of method to estimate the fixed and variable
components of a mixed cost such as:
12345-
Account analysis approach
Engineering approach
Scattergraph plot
High low method
Least squares regression
Page 8 of 11
By: Ehab Abdou (97672930)
Ch 02: Managerial Accounting and Cost Concepts
Managerial-KU
High Low Method:
Is a cost-estimation method in which a cost line is fit using exactly two data points –
the high and low activity levels
Exercise:
Nourhan Inc. has provided the following data concerning its maintenance costs:
March ....................
April ......................
May........................
June........................
July ........................
August ...................
September ..............
October ..................
November ..............
Machine-Hours Maintenance Cost
4,440
$50,950
4,431
$50,877
4,412
$50,696
4,460
$51,113
4,414
$50,711
4,433
$50,900
4,443
$50,976
4,415
$50,730
4,425
$50,530
Management believes that maintenance cost is a mixed cost that depends on
machine-hours.
Required:
A) Estimate the variable cost per machine-hour and the fixed cost per
month using the high-low method.
B) Estimate the cost formula for maintenance cost.
C) Assume that the company plans to Work 5,000 Hours during December
, How much Maintenance Cost will be?
Solution:
A) Estimate the variable cost per machine-hour and the fixed cost per month using
the high-low method.
1- Selecting the High and Low activity and its related Costs:
2- Computing the Variable Cost per units [ Slop ] or [ b ].
$51,113−$50,696
𝐶𝑜𝑠𝑡−𝐿𝑜𝑤 𝐶𝑜𝑠𝑡
b= 𝐻𝑖𝑔ℎ𝐻𝑖𝑔ℎ
= 4,460−4,412 = $8.678
𝐴𝑐𝑡𝑖𝑣𝑖𝑡𝑦−𝐿𝑜𝑤 𝐴𝑐𝑡𝑖𝑣𝑖𝑡𝑦
3- Computing the fixed cost [a].
a
= Y – bX
= $51,113 – ( $8.678 ×4,460 ) = $12,409
Page 9 of 11
By: Ehab Abdou (97672930)
Ch 02: Managerial Accounting and Cost Concepts
Managerial-KU
B) Estimate the cost formula for maintenance cost.
Y=a+bX
Y = $12,409 + $8.678 X
C) Assume that the company plans to Work 5,000 Hours during December , How
much Maintenance Cost will be?
Y = $12,409 + ( $8.678 X 5,000 hours ) = $55,799
Multiple choices:
1- The variable costs per unit are $4 when a company produced 10,000 units of production .
what are the variable costs per unit when 8,000 units are produced ?
a. $ 4.00
b. $ 4.50
c. $ 5.00
d. $ 5.50
e. Some other amount
2- The fixed costs per unit are $10 when a company produced 10,000 units of product , what
are the fixed costs per unit when 12,500 units are produced ?
a. $ 4.00
b. $ 6.00
c. $ 8.00
($10*10,000) / 12,500
d. $ 10.00
e. some other amount
3- Total costs are $80,000 when 8,000 units are produced ; of this amount, variable costs are
$48,000 , what are the total costs when 10,000 units are produced ?
a. $ 80,000
T.F.C = 80,000 – 48,000 = 32,000
b. $ 92,000
V.C/U = 48,000 / 8,000 = 6
c. $ 98,000
T.C = 32,000 + ( 6 * 10,000) = 92,000
d. $ 100,000
e. $ 108,000
Page 10 of 11
By: Ehab Abdou (97672930)
Ch 02: Managerial Accounting and Cost Concepts
Managerial-KU
Exercise:
The following data were taken from the cost records of Morrey Company for last year:
Depreciation, factory
Indirect labor
Administrative salaries
Factory supervision
Advertising expenses
Utilities, factory
Property taxes, (60% administrative,40% selling)
Insurance, factory
Depreciation, administrative office equipment
Lubricants for machines
Direct labor
Purchases of raw materials
Sales
$60,000
$100,000
$14,000
$16,000
$20,000
$40,000
$30,000
$10,000
$ 12,000
$15,000
$200,000
$150,000
$900,000
Inventories at the beginning and at the end of the year were as follows:
Raw materials
Work in process
Finished goods
Beginning
$10,000
$25,000
$30,000
Ending
$20,000
$5,000
$50,000
Required:
Prepare a schedule of cost of goods manufactured.
Prepare a schedule of cost of goods sold.
Prepare income statement.
Page 11 of 11
By: Ehab Abdou (97672930)