CHAPTER
1
Managerial Accounting and
Cost Concepts
Managerial
Accounting
10e
Crosson
Needles
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The Role of Managerial Accounting
 The role of managerial accounting is to enable managers
and people throughout an organization to:
– make informed decisions
– be more effective at their jobs
– improve the organization’s performance
 The Institute of Management Accountants (IMA) defines
managerial accounting (or management accounting) as a
profession that involves partnering in management decision
making, devising planning and performance management
systems, and providing expertise in financial reporting and
control to assist management in the formulation and
implementation of an organization’s strategy.
©2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Cost Measurement
 Managers measure costs by tracing them to cost objects,
such as products or services, sales territories, departments,
or operating activities.
– In service organizations, costs can be traced to a specific service,
such as preparation of tax returns in an accounting firm.
– In retail organizations, costs can be traced to a department, such
as the produce department in a grocery store.
– In manufacturing organizations, costs can be traced to a product,
such as the candy produced by a candy company.
– Direct costs are costs that can be measured conveniently and
economically by tracing them to a cost object.
– Indirect costs are costs that cannot be measured conveniently and
economically by tracing them to a cost object. They are included in
the cost of a product or service by using formulas.
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Financial Reporting
 Period costs (or noninventoriable costs) are costs of
resources that are not assigned to products. They are
recognized as operating expenses on the income
statement.
 Product costs (or inventoriable costs) include direct
materials, direct labor, and overhead (indirect costs). They
are recognized on the income statement as cost of goods
sold and on the balance sheet as inventory.
 Product unit cost is the cost of manufacturing a single unit
of a product.
 Service unit cost is the cost to perform one service.
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Financial Reporting
 The three elements of product or service cost are:
- Direct materials costs: the costs of materials that can be
conveniently and economically measured when making specific
units of the product
- Direct labor costs: the costs of the hands-on labor needed to make
a product or service that can be measured when making specific
units
- Overhead costs (or service overhead, factory overhead, factory
burden, manufacturing overhead, or indirect production costs): the
costs that cannot be practically or conveniently measured directly
to an end product or service. These include:
 Indirect materials costs, such as the costs of nails, rivets, lubricants,
and small tools
 Indirect labor costs, such as the costs of labor for maintenance,
inspection, engineering design, supervision, and materials handling
©2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Financial Reporting
 The three elements of product cost can also be
grouped into prime costs and conversion costs.
– Prime costs: the primary costs of production. They are
the sum of the direct materials costs and direct labor
costs.
– Conversion costs: the costs of converting or processing
direct materials into a finished product. They are the
sum of direct labor costs and overhead costs.
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Cost Behavior
 A variable cost is a cost that changes in direct proportion
to a change in productive output.
 A fixed cost is a cost that remains constant within a
defined range of activity or time period.
– Examples of variable and fixed costs:
 Service organization: For an airline, the cost of peanuts and
beverages is a variable cost, while the depreciation on the planes
and the salaries and benefits of the crews are fixed costs.
 Retail organization: For a grocery store, variable costs include the
cost of groceries sold, while fixed costs include the costs of building
rental, depreciation on equipment, and the manager’s salary.
 Manufacturing organization: Variable costs include direct materials,
direct labor, indirect materials, and indirect labor. Fixed costs include
the costs of supervisors’ salaries and depreciation on buildings.
©2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Value-Adding versus Non-Value-Adding Costs
 Costs can also be classified as value-adding or
non-value-adding.
– A value-adding cost is the cost of an activity that
increases the market value of a product or service.
– A non-value-adding cost is the cost of an activity that
adds cost to a product or service but does not increase
its market value.
 Managers examine the value-adding attributes of
their company’s operating activities and, wherever
possible, reduce or eliminate activities that do not
directly add value to a company’s products or
services.
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The Manufacturing Cost Flow
 Manufacturing cost flow is the flow of direct materials,
direct labor, and overhead through the Materials
Inventory, Work in Process Inventory, and Finished Goods
Inventory accounts into the Cost of Goods Sold account.
– The Materials Inventory account shows the balance of the cost of
unused materials—in other words, the cost of materials that have
been purchased but not used in the production process.
– The Work in Process Inventory account shows the manufacturing
costs that have been incurred and assigned to partially completed
units of product—in other words, the costs involved with
manufacturing the unfinished product.
– The Finished Goods Inventory account shows the costs assigned
to all completed products that have not been sold.
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Work in Process Inventory
 The Work in Process Inventory account records the
balance of partially completed units of the
product.
– As direct materials and direct labor enter the
production process, their costs are added to the Work
in Process Inventory account. The cost of overhead for
the current period is also added.
– The total costs of direct materials, direct labor, and
overhead incurred and transferred to the Work in
Process Inventory account during a period are called
total manufacturing costs (or current manufacturing
costs).
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Statement of Cost of Goods Manufactured
 The cost of goods manufactured is calculated in
the statement of cost of goods manufactured,
which summarizes the flow of all manufacturing
costs incurred during the period.
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Cost of Goods Sold and a Manufacturer’s
Income Statement
 The total amount of the cost of goods
manufactured is carried over to the income
statement, where it is used to compute the cost of
goods sold.
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Computing Product Unit Cost
 Product unit cost is the cost of manufacturing a
single unit of a product.
– It is made up of the cost of goods manufactured costs
of direct materials, direct labor, and overhead.
 These three cost elements are accumulated as a batch of
products is being produced.
 When the batch has been completed, the product unit cost is
computed.
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Product Cost Measurement Methods
 How products flow physically and how costs are
incurred does not always match.
 Managers may need to use estimates or
predetermined standards to compute product
costs during the period.
– At the end of the period, these estimates are reconciled
with the actual product costs.
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Actual Costing Method
 The actual costing method uses the actual costs of direct
materials, direct labor, and overhead to calculate the
product unit cost. (These costs, however, may not be known
until the end of the period.)
– Suppose Choice Candy produced 3,000 candy bars for a
customer. The company accountant calculated the actual costs for
the order as follows: direct materials, $540; direct labor, $420;
overhead, $240. The actual product unit cost for the order was
$0.40, calculated as follows.
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Normal Costing Method
 The normal costing method combines the easy-to-track
actual direct costs of materials and labor with estimated
overhead costs to determine product unit cost.
– For Choice Candy, suppose that the company accountant used normal
costing to price the order for 3,000 candy bars and that overhead was
applied to the product’s cost using an estimated rate of 50 percent of
direct labor costs. The costs for the order would include the actual direct
materials cost of $540, the actual direct labor cost of $420, and an
estimated overhead cost of $210 ($420 X 50%). The product unit cost
would be $0.39:
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Standard Costing Method
 The standard costing method uses estimated or standard
costs of direct materials, direct labor, and overhead to
calculate the product unit cost.
– This method is useful when product cost information is needed before the
accounting period begins.
– Suppose that Choice Candy is placing a bid to manufacture 2,000 candy
bars for a new customer. From standard cost information, the accountant
estimates the following costs: $0.20 per unit for direct materials, $0.15
per unit for direct labor, and $0.09 per unit for overhead. The standard
cost per unit would be $0.44.
©2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Computing Service Unit Cost
 Services are labor-intensive processes supported
by indirect materials or supplies, indirect labor,
and other overhead costs.
– The most important cost in a service organization is the
direct cost of labor that can be traceable to the service
rendered.
– The indirect costs incurred in performing a service are
similar to those incurred in manufacturing a product.
They are classified as overhead.
– These service costs appear on service organizations’
income statements as cost of sales.
©2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Planning
(slide 1 of 2)
 The overriding goal/vision of a business is to increase the
value of the stakeholders’ interest in the business.
 The fundamental way in which the company will achieve
this goal/vision is described in its mission statement.
 The planning process must consider how to add value
through strategic, tactical, and operating objectives.
– Strategic objectives—broad, long-term goals that determine the
fundamental nature and direction of a business and that serve as a
guide for decision making
– Tactical objectives—mid-term goals that position an organization
to achieve its long-term strategies
– Operating objectives—short-term goals that outline expectations
for the performance of day-to-day operations
©2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Planning
(slide 2 of 2)
 A business plan is a comprehensive statement of
how a company will achieve its strategic, tactical,
and operating objectives.
– It provides a full description of the business, including a
complete operating budget for the first two years of
operations.
 The budget must include a forecasted income statement, a
forecasted statement of cash flows, and a forecasted balance
sheet.
– The business plan often includes performance goals for
individuals, teams, products, or services.
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Performing
 Critical to managing any retail business is a
thorough understanding of the supply chain (or
supply network)—the path that leads from the
suppliers to the final customers.
– Knowledge of the supply chain allows managers to
coordinate deliveries from growers and suppliers so
that they can meet customers’ demands without having
too much or too little inventory on hand.
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Evaluating and Communicating
 Managers evaluate operating results by comparing the
organization’s actual performance with the performance
levels established in the planning stage.
– They earmark any significant variations for further analysis so that
they can correct the problems.
– If the problems are the result of a change in the organization’s
operating environment, the managers may revise their original
estimates and/or objectives.
 Whether accounting reports are prepared for internal or
external use, they must provide accurate information and
clearly communicate this information.
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Standards of Ethical Conduct
 Managers consider the interests of external parties
(customers, owners, suppliers, governmental agencies, and
the local community) when they make decisions. When
ethical conflicts arise, management accountants have a
responsibility to help managers balance those interests.
 To provide guidance, the Institute of Management
Accountants has issued standards of ethical conduct for
practitioners of managerial accounting and financial
management.
– Those standards emphasize that management accountants have
responsibilities in the areas of competence, confidentiality,
integrity, and credibility.
©2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.