AN INTRODUCTION TO COST TERMS AND PURPOSES

CHAPTER 2

AN INTRODUCTION TO COST TERMS AND PURPOSES

2-1 A cost object is anything for which a separate measurement of costs is desired.Examples include a product, a service, a project, a customer, a brand category, an activity, and a department.

2-2 Managers believe that direct costs that are traced to a particular cost object are more accurately assigned to that cost object than are indirect allocated costs. When costs are allocated, managers are less certain whether the cost allocation base accurately measures the resources demanded by a cost object. Managers prefer to use more accurate costs in their decisions.

2-3

Factors affecting the classification of a cost as direct or indirect include:

 the materiality of the cost in question,  available information-gathering technology,  design of operations.

2-4 A variable cost changes in total in proportion to changes in the related level of total activity or volume. An example is a sales commission that is a percentage of each sales revenue dollar.A fixed cost remains unchanged in total for a given time period, despite wide changes in the related level of total activity or volume. An example is the leasing cost of a machine that is unchanged for a given time period (such as a year) regardless of the number of units of product produced on the machine.

2-5 A cost driver is a variable, such as the level of activity or volume, that causally affects total costs over a given time span. A change in the cost driver results in a change in the level of total costs. For example, the number of vehicles assembled is a driver of the costs of steering wheels on a motor-vehicle assembly line.

2-6 The relevant range is the band of normal activity level or volume in which there is a specific relationship between the level of activity or volume and the cost in question. Costs are described as variable or fixed with respect to a particular relevant range.

2-7 A unit cost is computed by dividing some amount of total costs (the numerator) by the related number of units (the denominator). In many cases, the numerator will include a fixed cost that will not change despite changes in the denominator. It is erroneous in those cases to multiply the unit cost by activity or volume change to predict changes in total costs at different activity or volume levels.

2-8 Inventoriable costs are all costs of a product that are considered as assets in the balance sheet when they are incurred and that become cost of goods sold when the product is sold. These costs are included in work-in-process and finished goods inventory (they are “inventoried”) to accumulate the costs of creating these assets.Period costs are all costs in the income statement other than cost of goods sold. These costs are treated as expenses of the accounting period in which they are incurred because they are expected not to benefit future periods (because there is not sufficient evidence to Managerial Accounting Decision Making and Motivating Performance 1st Edition Datar Solutions Manual Visit TestBankDeal.com to get complete for all chapters

conclude that such benefit exists). Expensing these costs immediately best matches expenses to revenues.

2-9 A product cost is the sum of the costs assigned to a product for a specific purpose.Purposes for computing a product cost include  pricing and product mix decisions,  contracting with government agencies, and  preparing financial statements for external reporting under generally accepted accounting principles.

2-10 The main issue between variable costing and absorption costing is the proper timing

of the release of fixed manufacturing costs as costs of the period:

• at the time of incurrence, or
• at the time the finished units to which the fixed overhead relates are sold.

Variable costing uses (a) and absorption costing uses (b).

2-11 (15 min.) Computing and interpreting manufacturing unit costs.

1.

(in millions) Supreme Deluxe Regular Total Direct material cost $ 88.00 $ 53.00 $64.00 $205.00 Direct manuf. labor costs 11.00 20.00 19.00 50.00 Manufacturing overhead costs 41.00 88.00 61.00 190.00 Total manuf. costs 140.00 161.00 144.00 445.00 Fixed costs allocated at a rate of $25M $50M (direct mfg.labor) equal to $0.50 per dir. manuf. labor dollar (0.50

 $11; 20; 19) 5.50

10.00 9.50 25.00

Variable manufacturing costs $134.50 $151.00 $134.50 $420.00 Units produced (millions) 50 100 80 Cost per unit (Total manuf.costs ÷ units produced) $2.80 $1.61 $1.80 Variable manuf. cost per unit (Variable manuf. costs Units produced) $2.69 $1.51 $1.68

(in millions) Supreme Deluxe Regular Total

• Based on total manuf. cost

per unit ($2.80

 90;

$1.61

 140; $1.80 160) $252.00 $225.40 $288.00 $765.40

Correct total manuf. costs based on variable manuf. costs plus fixed costs equal Variable costs ($2.69

 90; $242.10 $211.40 $268.80 $722.30

$1.51

 140; $1.68  160)

Fixed costs 25.00 Total costs $747.30

The total manufacturing cost per unit in requirement 1 includes $25 million of indirect manufacturing costs that are fixed irrespective of changes in the volume of output per month, while the remaining variable indirect manufacturing costs change with the production volume. Given the unit volume changes for August 2013, the use of total manufacturing cost per unit from the past month at a different unit volume level (both in aggregate and at the individual product level) will overestimate total costs of $765.40 million in August 2013 relative to the correct total manufacturing costs of $747.30 million calculated using variable manufacturing cost per unit times units produced plus the fixed costs of $25 million.

2-12 (15 min.) Direct, indirect, fixed and variable costs.

• Yeast—direct, variable

Flour—direct, variable Packaging materials—direct (or could be indirect if small and not traced to each unit), variable Depreciation on ovens—indirect, fixed (unless “units of output” depreciation, which then would be variable) Depreciation on mixing machines—indirect, fixed (unless “units of output” depreciation, which then would be variable) Rent on factory building—indirect, fixed Fire Insurance on factory building—indirect, fixed Factory utilities—indirect, probably some variable and some fixed (e.g. electricity may be variable but heating costs may be fixed) Finishing department hourly laborers—direct, variable (or fixed if the laborers are under a union contract) Mixing department manager—indirect, fixed Materials handlers—depends on how they are paid. If paid hourly and not under union contract, then indirect, variable. If salaried or under union contract then indirect, fixed Custodian in factory —indirect, fixed Night guard in factory—indirect, fixed Machinist (running the mixing machine)—depends on how they are paid. If paid hourly and not under union contract, then indirect, variable. If salaried or under union contract then indirect, fixed Machine maintenance personnel—indirect, probably fixed, if salaried, but may be variable if paid only for time worked and maintenance increases with increased production Maintenance supplies—indirect, variable Cleaning supplies—indirect, most likely fixed since the custodians probably do the same amount of cleaning every night

• If the cost object is Mixing Department, then anything directly associated with the Mixing

Department will be a direct cost. This will include:

 Depreciation on mixing machines  Mixing Department manager  Materials handlers (of the Mixing Department)  Machinist (running the mixing machines)  Machine Maintenance personnel (of the Mixing Department)  Maintenance supplies (if separately identified for the Mixing Department)

Of course the yeast and flour will also be a direct cost of the Mixing Department, but it is already a direct cost of each kind of bread produced.

2-13 (15–20 min.) Classification of costs, service sector.

Cost object: Each individual focus group

Cost variability: With respect to the num

ber of focus groups

There may be some debate over classifications of individual items, especially with regard to cost variability.

Cost Item D or I V or F A D V B I F C I V a

D I E D F I

G D H I

b

a Some students will note that phone call costs are variable when each call has a separate charge. It may be a fixed cost if Consumer Focus has a flat monthly charge for a line, irrespective of the amount of usage.b Gasoline costs are likely to vary with the number of focus groups. However, vehicles likely serve multiple purposes, and detailed records may be required to examine how costs vary with changes in one of the many purposes served.

2-14 (15–20 min.) Classification of costs, merchandising sector.

Cost object: DVDs sold in movie section of BBE store

Cost variability: With respect to changes in the number of DVDs sold

There may be some debate over classifications of individual items, especially with regard to cost variability.

Cost Item D or I V or F A D F B I F C D V D D F E I F F I V G I F H D V