b14 cost management abc

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Chapter 14 Cost Management Systems

and Activity-Based Costing

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Learning Objective 1

Describe the purposes of

cost management systems.

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Cost Management System

A cost-management system (CMS) is a

collection of tools and techniques that identifies how management’s decisions affect costs.

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What is Cost Accounting?

Cost accounting is that part of the

accounting system that measures costs

for the purposes of management decision making and financial reporting.

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Learning Objective 2

Explain the relationships

among cost, cost objective,

cost accumulation, and

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Cost Accounting System

Cost

Accumulation

Collecting costs by some “natural” classification such as materials or labor

Cost

Allocation

Tracing costs to one or more cost objectives

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Cost Accounting System

MACHINING DEPARTMENT ACTIVITY ACTIVITY FINISHING DEPARTMENT ACTIVITY ACTIVITY RAW MATERIAL COSTS (METALS CABINETS CABINETS DESKS DESKS TABLES TABLES Cost Accumulation Cost Allocation

to Cost Objects: 1. Departments 2. Activities

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Cost

 A cost may be defined as a sacrifice or

giving up of resources for a particular purpose.

 Costs are frequently measured by the

monetary units that must be paid for goods and services.

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Cost Objective

What is a cost object or cost objective?

It is anything for which a separate measurement of costs is desired.

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Learning Objective 3

Distinguish among direct,

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Direct Costs

Direct costs can be identified specifically and exclusively with a given cost

objective in an economically feasible way.

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Indirect Costs

Indirect costs cannot be identified specifically and exclusively with a

given cost objective in an economically feasible way.

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What Distinguishes

Direct and Indirect Costs?

 Managers prefer to classify costs as direct

rather than indirect whenever it is

“economically feasible” or “cost effective.”

 Other factors also influence whether a cost

is considered direct or indirect.

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Categories of

Manufacturing Costs

Any raw material, labor, or other input

used by any organization could,

in theory, be identified as a

direct or indirect cost

depending on the

cost objective.

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Categories of

Manufacturing Costs

 All costs which are eventually allocated

to products are classified as either…

1 direct materials, 2 direct labor, or

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Direct Material Costs...

– include the acquisition costs of all materials

that are physically identified as a part of the manufactured goods and that may be traced to the manufactured goods in an

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Direct Labor Costs...

– include the wages of all labor that can be

traced specifically and exclusively to the manufactured goods in an economically feasible way.

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Indirect Manufacturing Costs...

– or factory overhead, include all costs

associated with the manufacturing process that cannot be traced to the manufactured goods in an economically feasible way.

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Product Costs...

– are costs identified with goods produced

or purchased for resale.

 Product costs are initially identified as part

of the inventory on hand.

 These costs, inventoriable costs, become

expenses (in the form of cost of goods sold) only when the inventory is sold.

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Period Costs...

– are costs that are deducted as expenses

during the current period without going through an inventory stage.

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24

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Period or Product Costs

 In merchandising accounting, insurance,

depreciation, and wages are period costs (expenses of the current period).

 In manufacturing accounting, many of

these items are related to production activities and thus, as indirect

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Period Costs – Merchandising

and Manufacturing

 In both merchandising and manufacturing

accounting, selling and general

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Learning Objective 4

Explain how the financial

statements of merchandisers

and manufacturers differ

because of the types of goods

they sell.

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Financial Statement Presentation

– Merchandising Companies

Merchandise Inventory Merchandise Inventory Sales Sales

Cost of Goods Sold (an expense)

Cost of Goods Sold (an expense) Selling and Administrative Expenses Selling and Administrative Expenses

Balance Sheet Income Statement

–

Equals Gross Margin

–

Expiration

Period Costs

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Financial Statement Presentation

– Manufacturing Companies

Finished Goods Inventory Finished Goods Inventory Sales Sales

Cost of Goods Sold (an expense)

Cost of Goods Sold (an expense) Selling and Administrative Expenses Selling and Administrative Expenses

Balance Sheet Income Statement

–

Equals Gross Margin

Equals Operating Income

– Expiration Period Costs Direct Material Inventory Direct Material Inventory Work-in-Process Inventory Work-in-Process Inventory

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Costs and Income Statements

 On income statements, the detailed

reporting of selling and administrative expenses is typically the same for

manufacturing and merchandising

organizations, but the cost of goods sold is different.

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Cost of Goods Sold

for a Manufacturer

 The manufacturer’s cost of goods produced

and then sold is usually composed of the three major categories of cost:

1 Direct materials 2 Direct labor

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Cost of Goods Sold

for a Retailer or Wholesaler

 The merchandiser’s cost of goods sold is

usually composed of the purchase cost of

items, including freight-in, that are acquired and then resold.

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Learning Objective 5

Understand the main

differences between traditional

and activity-based costing

systems and why ABC systems

provide value to managers.

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Traditional Cost System

All Unallocated Value Chain Costs Direct Material Resource Direct Labor Resource All Indirect Resources Direct Trace Direct Trace _Cost Driver

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Two-Stage Activity-Based

Cost System

All Unallocated Value Chain Costs Direct Material Resource Direct Labor Resource Indirect Resource A Products Direct Trace Direct Trace _Activity 1 Unallocated Other Direct Resources Indirect Resource Z Activity 10 % % % % Cost Driver Cost Driver

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Activity-Based Costing

Understanding the relationships among activities, resources,

costs, and cost drivers is the key to understanding ABC and how ABC facilitates managers’

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Example of Activities and Cost Drivers:

Activities:

Account billing Bill verification Account iniquity Correspondence

Cost Drivers:

No. of lines

No. of accounts No. of labor hours No. of letters

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Learning Objective 6

Identify the steps involved in the

design and implementation

of an activity-based

costing system.

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Designing and Implementing an

Activity-Based Costing System

Determine cost of activities, resources, and related cost

drivers.

Develop a process-based map representing the flow of activities, resources, and their interrelationships.

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Designing and Implementing an

Activity-Based Costing System

Collect relevant data concerning costs and the physical flow of the cost-driver units among resources and activities. Step 3

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Designing and Implementing an

Activity-Based Costing System

Calculate and interpret the new activity-based information.

Using an activity-based costing system to improve the operations of an organization

is activity-based management (ABM).

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Activity-Based Management

Activity-based management aims to improve the value received by customers and to improve profits by identifying opportunities for improvements in strategy and operations.

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Activity-Based Management

 A value-added cost is the cost of an activity

that cannot be eliminated without affecting a product’s value to the customer.

 In contrast, non-value-added costs are costs

that can be eliminated without affecting a product’s value to the customer.

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Learning Objective 7

Use activity-based cost

information to improve the

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Using ABC Information

Activity-based management…

provides costs of value-added and non-value-added activities.

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Learning Objective 8

Understand cost accounting’s

role in a company’s

improvement efforts across

the value chain.

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Cost Accounting and

the Value Chain

A good cost accounting system is critical to all value-chain functions from research and development through customer service.

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Activity-Based Management

 A value-added cost is the cost of an activity that cannot be eliminated without affecting a product’s value to the customer.

 In contrast, non-value-added costs are costs that can be eliminated without affecting a product’s value to the customer.

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Learning Objective 7

Use activity-based cost

information to improve the

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Using ABC Information

Activity-based management…

provides costs of value-added and non-value-added activities.

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Learning Objective 8

Understand cost accounting’s

role in a company’s

improvement efforts across

the value chain.

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Cost Accounting and

the Value Chain

A good cost accounting system is critical to all value-chain functions from research and development through customer service.

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