MANAGERIAL
ACCOUNTING &
COSTING
ACC 221: Week 1: Lecture1
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Objectives of Lecture 1:
Define Managerial Accounting
General Costs Classifications
Costs Classifications on Financial
Statements
The importance of Cost Classifications
·for predicting behavior
·for allocating costs to ‘cost objects’
·for decision Making
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The Role of Managers and the vital
support of Managerial Accounting
to this role
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Managers manage the company on behalf of
the owners and act for the best of owners’
interests
ROLE:
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Planning & Deciding: setting goals and define identify techniques to realize the specific
objectives
Direct & Motivate employees: supervision and
treatment of personnel
Controlling company systems and procedures:
operation of departments, advertising and
marketing, customer satisfaction, accounts
payables and receivables, dealing with risks
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changes, challenges e.t.c
Managerial Accounting also called Cost
Accounting
is
the
procedure
of
identifying, measuring, analyzing and
providing information for the pursuit of
an organization's goals.
.
Managerial Accounting, in contrast to Financial
Accounting, is aimed to help managers inside the
organization to take decisions with the
information it provides.
.
Financial Accounting is aimed to provide
information to parties outside the organization
e.g. Stockholders, Banks, Creditors, Government
e.t.c
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Compared to financial accounting, managerial
accounting is a young regulation. As a result,
managerial accounting concepts and tools are still
developing as new ways are found to provide
information that assists management. Moreover, the
business environment is changing rapidly. For
managerial accounting to be as useful a tool in the
future as it has been in the recent past, managerial
accounting information must be adapted to reflect
those changes. Several changes in the business
environment that are especially relevant to
managerial accounting are discussed briefly here.
The effect of these changes on various topics in
managerial accounting will be explored in
subsequent lectures.
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Objectives of Managerial
Accounting
A.Providing information for decision making
and planning: Practically all major
decisions
by
internal
users
(i.e.,
managers) rely largely on managerial
accounting information.
Type of data: This information includes
financial and nonfinancial data to help managers
with strategic planning and decision-making (e.g.,
the cost of products, budgets, cash flows, amount of
materials used and inventories).
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B. Assisting in directing and controlling: Directing and
controlling day-to-day operations requires a variety of
data about the process of providing a good or service.
 Directing
operational
activities:
The
management team needs data about the cost of
providing goods or services in order to set fees
and prices.
 Controlling
operations:
Management
compares actual costs incurred with those
specified in the budget (e.g., analyzing and
comparing actual performance to budget plans).
 Attention-directing functions: The attentiondirecting function of managerial accounting
information directs managers’ attention to issues
that need their attention (i.e., it highlights
successful or problem areas).
No solutions, only information: Managerial accounting reports
rarely solve a decision problem, however, these reports often
direct managers’ attention to an issue that requires their
skills.
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C. Motivating managers and employees: A key
purpose of managerial accounting is to motivate
managers and other employees to direct their efforts
toward achieving the organization’s goals. This
motivates managers to achieve the organization’s
goals by communicating the plans, providing a
measurement of how well the plan was achieved,
and offering on time an explanation of differences
from the plan.
1. Budgeting: One means of achieving goals is
through budgeting. The budget indicates the top
management’s desire to allocate resources and
emphasize certain activities.
Explain
deviations-differences:
When
actual
operations do not match to the budget, managers will
be asked to explain the reasons for the deviation. This
creates both an incentive to follow the principles of the
budget and avoid possible negative consequences.
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2. Empowerment (authorization): Another way to
motivate employees to assist in achieving the
organization’s goals is through empowerment.
Employee empowerment –give permission to act is the concept of encouraging and authorizing
workers to take the initiative to improve operations,
product quality, customer service and reduce costs.
3. Measuring performance: Another way of motivating
employees’ toward the organization’s goals is to
measure their performance in achieving their goals.
Managerial accounting measures performance for
both the entire organization, as in financial
accounting, but also for many subunits as well (e.g.,
divisions, departments, managers).
Rewarding performance: Many large corporations
compensate their executives, in part, on the basis of
the profit achieved by the subunits they manage.
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4. Assessing
the
organization's
competitive
position: A crucial role of managerial accounting
is to continually assess how an organization
compares with the competition, with an eye
toward continuously improving.
Evaluation: This allows the firm to evaluate its
financial and internal performance, customer
satisfaction, and innovation compared to other
similar firms.
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Major Themes of Managerial
Accounting
A. Information and incentives: The need for
information is the driving force behind managerial
accounting.
Two
functions:
Managerial
accounting
information serves two functions: a decisionfacilitating function and a decision-influencing
function.
Information is usually supplied to a manager who is the
decision-maker to assist him/her in choosing an
alternative. Often that information is also intended to
influence the manager’s decision. It should be noted,
however, that the managerial accounting information
only facilitates and influences decisions, it does not
make final decisions for managers.
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B. Behavioural issues: The reactions of both
individuals and groups to managerial accounting
information will significantly affect the course of
events in an organization. Everyone has behavioural
tendencies and intelligence - understanding
limitations that affect their use of information. The
better a managerial accountant’s understanding of
human behaviour is, the more effective he or she will
be as a provider of information.
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C. Costs and benefits: The attractiveness of any
particular managerial accounting technique or
information must be determined in light of its
costs and benefits.
Costs: The cost of providing managerial accounting
information includes the cost of compensation for the
controller and Accounting Department personnel, the
cost of purchasing and operating computers, and the
costs of the time spent by the information users to
read, understand, and make use of information.
Benefits: The benefits include improved decisions,
more effective planning, greater efficiency of
operations at lower costs, and better directions and
control of operations.
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General Cost Classifications
Business that produce-manufacture goods have the
Following main 3 cost categories which are included
in the Manufacturing Account and are called Manufacturing
Costs:
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Direct Materials
Direct Labour
Manufacturing Overheads
The Manufacturing Account precedes the Trading Account
when a manufacturing company prepares the financial
statements. Conversely a merchandise - Retail company
prepares directly the Trading Account.
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Direct Materials divided to Direct Raw Materials:
basic material from which a product is made, and
Indirect Materials: any material that is not part of
the finished product and are treated as
manufacturing overheads.
Direct Labour divided to Direct workers (touch
labour) who are directly involved with the
manufacture of goods and Indirect labour where
employees are not touching the product such as
supervisors, security, cleaners, driver. Also treated
as manufacturing overheads.
Manufacturing Overheads that is every cost which
is not direct material or direct labour e.g:
Indirect Labour
Indirect Materials, for instance materials that repair machines
Electricity: heating and lighting
Depreciation & Insurance for manufacturing
equipment
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HOW WE CALCULATE THE COST OF RAW MATERIALS?
Example1: The below is a Trial B/ce extract from
G.X.N.E Manufacturing Ltd as at 31st May Y12.
DR
Stock of Raw M. as at 1st May Y12
71.000
Raw Materials Returned
Purchases Raw Materials
CR
1.350
138.000
Carriage Inwards (=costs to
transfer R.M in the company)
6.200
Note : The stock of Raw Materials as at 31st May Y12 was
€ 65000
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Required: Extract of the Manufacturing A/c
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DR
Manufacturing account
€
Opening stock R/M
Add: Purchases R/M
Add: Carriage
Inwards
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Cost of R/M used b/d
Purchases of R.M
71.000 Returned
138.000 Closing Stock
6.200 Cost of R/M used c/d
CR
€
1.350
65.000
148.850
215.200
215.200
Trading Account148.850 Transfer
148.850
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Prime Cost of Production =
Direct Raw Material+Direct Labour+Direct Expenses
Direct Expenses examples:
*Royalties: right to manufacture a product
*Subcontractors payments or outwork e.g. another
company or individuals not employed by the
company are paid for doing work on a product
Conversion Cost =
Sum of direct Labour costs + Manufacturing Overheads
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…continue of example 1:
Also the Trial B/ce includes:
DR
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Accrued Direct Wages on 1st May Y12
(wages of last week of AprilY12 not paid yet)
Direct wages paid
CR
73,200
372,400
Note: Direct Wages accrued as at 31st May Y12 €68,300
Required : Continue the Manufacturing A/c.
Reminder: Only the Direct Wages that concerns the period of
production that we study are DEBITED to the Manufacturing a/c.
The Accrued Direct Wages are credited or deducted at the debit
Site.
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DR
Opening stock R/M
Purchases R/M
Carriage Inwards
Manufacturing account
71.000
138.000
6.200
Return Outwards
148.850
Direct Wages paid
372.400
Add: Direct Wages
Acrued
68.300
65.000
Cost of R/M used c/d
148.85
215.20
Accrued Dir wages of 1 May Y12
73.200
Prime Cost of Production c/d
516.35
589.550
Prime Cost of
Production b/d
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516.350
1.350
Closing Stock
215.200
Cost of R/M used b/d
CR
589550
Trading Account - Transfer
516.35
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To Manufacturing a/c only goes the ProductionManufacturing Overheads not other overheads such
as:
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Selling expenses
Administrative expenses
Distribution expenses
Research & Development
expenses
Financial Expenses
Non-Manufacturing exps
also called Period exps
and goes to trading a/c
(interests, bank Charges)
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Two minor categories:
Selling exps are the costs incurred so as the final
product goes to the customer e.g.
advertising , shipping , sales commissions , sales
salaries , sales travel.
Administrative exps are all costs linked with the overall
general administration / management / operation of a
business rather than with the manufacturing or selling
the product e.g.
General accounting, secretarial, public relations,
Executives’ compensation, rents of the administrative
offices e.t.c.
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Product Costs Versus Period Costs
Period Costs are all the costs that are not
product costs.
Product Costs include all costs involved in
making a product. It is the cost of Raw Materials
Consumed and all manufacturing expenses.
For e.g. the depreciation of a production machinery is product
Cost (manufacturing overhead) but the depreciation of delivery
Vans is a period overhead.
Also the product-manufacturing costs are called Inventoriable
Costs because they go directly to inventory accounts and not to
expenses accounts. Also they go to Balance Sheet as assets if
they are partially completed (Work In Progress) or unsold at
the end of period.
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Cost Classifications on Financial
Statements
1. The Balance Sheet
The Statement of Financial Position (Balance sheet) of a
manufacturing company is similar to that of a merchandise
company.
However Manufacturing companies have three classes of
inventories (closing stocks) - raw materials, work in
progress and finished goods- in their balance sheet.
Raw Materials : materials used to make a product.
Work in Progress: products not yet completed fully but
partially and require further work to be ready for sale.
Also called semi-finished goods.
Finished goods: completed products not yet sold.
In Balance Sheet is only shown the closing stocks of the above 3
inventories as CURRENT ASSETS.
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2.The Income Statement
The Income Statement is consisted of the Trading A/c
and the Profit & Loss A/c. In a Manufacturing company
the Manufacturing A/c precedes the trading a/c and its
result goes to trading a/c so as to determined the cost
of goods sold . Also the opening and closing stock of
Finished goods is also key factor in order to determined
the cost of sales.
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Example 2
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The importance of Cost
Classifications for:
1. Predicting behavior
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Cost Behaviour refers to how a cost
reacts to changes in the level of activity.
As the activity level rises and falls, a
particular cost may rise and fall as well – or
it may remain constant.
For planning purposes, a manager must
be able to predict which of these will
happen, and if a cost can be expected to
change, the manager must be able to
estimate how much it will change.
To help make such evaluations, costs are
often categorized as variable or fixed.
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VARIABLE COSTS: are those costs that vary-fluctuate
depending on a company’s level of activity. They rise
as production increases and fall as production
decreases. Examples could be direct materials and
labor ,some manufacture overheads, shipping costs,
sales commissions e.t.c
Activity Level is the production volume of a company
and it can be the units produced, units sold, hours
worked e.t.c
FIXED COSTS: are costs that tends to remain the same
regardless of activity level. Such examples are rents,
advertising, insurance, office supplies e.t.c
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The importance of Cost
Classifications for:
2. Allocating costs to ‘cost objects’
‘Cost Object’ is any item or any input use in the production
for which we are separately measuring costs and we directly
link costs with it.
For instance labor is a ‘cost object’ because we determine
the cost of employment ‘per man per hour’ and we find a
fixed rate of employment. Another example is materials: cost
of fabrics used or plastic units.
The company pays €8 per worker per hour
Also ‘Cost Object’ can be a product manufactured by a
company and for which a separate measurement of cost is
desired.
Examples: project, service, customer, jobs, departments
within organization (customer service call, design of a new
product)
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Costs are allocated to the ‘cost objects’ and
they are either direct or indirect costs
The reasons that we want to allocate costs to
‘cost objects’ includes :
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the need to determine a price for a product,
the need to determine profitability,
the need to see if costs are reasonable and control
them,
and so forth
Direct cost
Indirect
cost
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Cost Object
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Direct Costs:
A direct cost is a cost that can be easily traced to a
specific cost object, therefore direct labour and raw
materials are direct costs.
Indirect Costs:
An indirect cost is a cost that cannot be easily traced to
a specific cost object.
For example the rent expense can not be allocated
directly to the production department or the administration
department and thus we allocate some to each one.
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The importance of Cost
Classifications for
3. Decision Making

Costs are an important feature of many business
decisions.

In making decisions, it is essential to have
awareness and understanding of the concepts:
 differential cost,
is a broader term, including both cost
increases (incremental costs) and cost decreases
(decremental costs) between alternatives.
 opportunity cost
is the potential benefit that is given up
when one alternative is selected over another.
 and sunk cost.
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is a cost that has already been incurred
and that cannot be changed by any decision made now or in
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the future.
Queries?
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