Cost Accounting 14th Edition Carter THONISON eeCustom Editor: Greg Albert Marketing Coordinators: Lindsay Annett and Sara Mercurio Production /Manufacturing Supervisor: Donna M. Brown © 2006 Carter Printed in the United States of America 123456789 08 07 06 For more information, please contact Thomson Custom Solutions, 5191 Natorp Boulevard, Mason, OH 45040. Or you can visit our Internet site at www.thomsoncustom.com ALL RIGHTS RESERVED. No part of this work covered by the THOMSON eS es Cost Accounting Carter Project Coordinator: Dave Lyons Pre-Media Services Supervisor: Dan Plofchan Rights and Permissions Specialist: Kalina Hintz copyright hereon may be reproduced or used in any form or by any means — graphic, electronic, or mechanical, including photocopying, recording, taping, Web distribution or information storage and retrieval systems —without the written permission of the author, Carter. The Adaptable Courseware Program consists of products and additions to existing Thomson Custom Solutions products that are produced from camera-ready copy. Senior Prepress Special Kim Fry Cover Design: Phoenix Creative Printer: Quebecor, Taunton Peer review, class testing, and accuracy are primarily tk responsibility of the author‘ For permission to use materia from this text or product, contact us by Tel (800) 730-2214 Fax (800) 730 2215, www.thomsonrights.com Cost Accounting/ Carter 14th Edition p. 960 ISBN 0-759-33809-4Preface Globalization, increased competition, and new technologies have forced many companies to reevaluate their business. This reevaluation led to changes in management philosophy and in business systems, which in turn required accountants to reevaluate the usefulness of information the accounting system provides to management. Accounting systems created primarily to provide information for external reporting, or created at a time when manu- facturing technologies and systems were essentially labor driven, are no longer adequate. The information provided by obsolete accounting systems is sometimes useless and some- times dangerously misleading. To provide information needed by management, accountants began to redesign accounting systems. Different kinds of data are needed for different kinds of decisions, and different kinds of business systems require different kinds of accounting systems to pro- vide that data. As business systems change, accounting systems are reevaluated and, in some cases, changed. Recognizing these relationships leads to developing and implement- ing new measurement systems, such as quality costing, activity based costing, and back- flush costing, as well as to increased use of nonfinancial performance measures. ‘The fourteenth edition of Cost Accounting emphasizes the use of accounting informa tion in planning and controlling a business and in supporting management decisions, including strategic decisions that position the firm to compete better. To be effective, the accounting system must be tailored to the particular business systems employed. Since the goods and services produced by different companies vary substantially, the business sys tems required for production and marketing vary as well. Because of these differences, there is no one accounting system or alternative superior to all others. The best accounting system depends on the business system and the information needs of management To prepare the student, this textbook not only demonstrates the mechanics of alterna- tive accounting systems and techniques but also explains the logic behind different alter- natives, The objective is to help the student learn to look at the business first and then to design an accounting system that can collect and generate the kind of information needed This textbook is designed to provide the necessary background for those who prepare accounting information and for those who use the information. This book presents not only the systems of collecting, organizing, processing, and reporting economic data, but also the uses of accounting information in making decisions. This dual emphasis is needed because (J) the accountant must understand how information will be used in order to design an accounting system to collect and report the information needed, and (2) the user of accounting information must understand how the accounting system works in order to use the information appropriately and know its limitations. Highlights of Changes in the Fourteenth Edition The textbook has undergone revisions to make it shorter and better written, with the goal of assisting both student and instructor. As with the preceding edition, considerable effort has been made to enhance clarity, The primary changes from the thirteenth edition are: ation. 1. Several chapters have been edited to improve clarity and brevity of pre 2. Chapter 2 has been updated by the addition of an appendix on the Balanced Scorecardiv Preface 3. Approximately one-fourth of the problems and exercises have been revised. In some of the chapters that are likely to be of higher importance to many instructors, over one-third of the problems and exercises have been revised Organization of the Book The organization of the materials presented is designed to provide maximum flexibility in meeting different course objectives. Part One presents material that forms a foundation for understanding the basic concepts and objectives of costmanagerial accounting systems. It thoroughly discusses the cost concept, cost objects, classification of cost, and cost behav- ior. Part Two then discusses and illustrates the flow of cost in manufacturing and services businesses. It begins with a general explanation of the flow of costs through the accounts and then expands into an in-depth discussion of the two basic costing systems: job order costing and process costing. Part Two includes the cost of quality, accounting for produc- tion losses, and joint- and by-product costing, Part Three focuses on an in-depth under- standing of the elements of cost—materials, labor, and overhead—from both the planning and control perspectives. Part Four elaborates on the heart of planning and control: static and flexible budgeting, responsibility accounting and reporting, and standard costing. Part Five deals with the analysis of costs and profits, including direct costing, the theory of constraints, cost- volume-profit analysis, differential cost analysis, capital expenditure planning and analysis, decision making under uncertainty, profit performance measurements, and transfer pricing. Organization for Instruction The presentation of the fundamental theoretical and practical aspects of cost accounting provides wide flexibility for classroom usage. In addition to its applicability to the tradi- tional two-semester course sequence, this textbook may be used in a variety of one- semester courses. For these alternative courses, a suggested outline, by chapter numbers, follows: Course Description ‘Textbook Chapters Cost Accounting (iwo semesters) Chapters 1-14 (first semester) Chapters 15-25 (second semester) Cost Accounting (one semester) Chapters 1-14 and 17 Cost Control (one semester) Chapters 1-4, 9-14, and 17-19 Budgetary Control (one semester) Chapters 1-4, 15-19, and 22-23 Cost Analysis (one semester) Chapters 14-25, End of Chapter Materials End-of-chapter materials, many of which are revised, include discussion questions, exer- cises, problems, and cases. For each topic, these materials afford coverage of relevant concepts and techniques at progressive levels in the learning process, thereby providing @ significant student-learning benefit. Selected exercises and problems with which theCost Accounting 14" Edition x template diskette may be used are designated by symbols in the margin, The end-of-chap- ter materials include numerous items from the examinations administered by the America Institute of Certified Public Accountants (AICPA adapted), the Institute of Management Accounting (ICMA adapted), the Certified General Accountants’ Association of Canada , (CGA-Canada Adapted), and the Society of Management Accountants of Canada ((CMA- Canada’). Learning and Teaching Aids that Accompany the Book For the Instructor Solutions Manual. This manual contains detailed solutions to the end-of chapter materi- als, including the discussion questions, exercises, problems, and cases. In addition, a list- ing of items coded for use with the template diskette is provided Test Bank, prepared by Edward J. VanDerbeck of Xavier University, Cincinnati. A test bank of multiple choice questions and examination problems accompanied by solutions is available to the instructor, The Test Bank is designed to save time in preparing and grad- ing periodic tests and final examinations. Spreadsheet Applications, These template diskettes are used with Microsoft Excel! for solving selected end-of-chapter exercises and problems identified in the textbook with the symbol in the margin. The diskettes, which also provide a Microsoft Excel tutorial, are provided free of charge to instructors at educational institutions who adopt this text. For the Student Study Guide, prepared by Edward J. VanDerbeck. This study guide contains a brief sum- mary of each chapter, as well as questions and exercises with answers, thus providing stu- dents with immediate feedback on their comprehension of material Practice Cases, prepared by William K. Carter. job order case and a process cost case are available. Each case acquaints students with basic accounting and analytical character- istics with a minimum of time-consuming detail. Solutions are provided for the instructor. Acknowledgements Special thanks are due to Greg Albert, whose tireless efforts were indispensable in produc- this edition. July 2005 William K. Carter 1 "Microsoft" and “Excel” are registered trademarks of Microsolt Corporation. Any reference to Microsoft or Excel felers to this footnote.vi Preface About the Author William K. Carter teaches management accounting at the McIntire School of Commerce, University of Virginia. He eared BS and MS degrees in accounting from the University of Southern Mississippi and a PhD from Oklahoma State University, and he is a CPA. He has written articles on accounting, accounting education, marketing, and finance, which have appeared in a variety of journals including The Accounting Review and the Journal of Accountancy. He has published cases on cost accounting, business policy, the balanced scorecard, and activity based costing Dr. Carter has served on committees of the American Assembly of Collegiate Schools of Business and the American Accounting Association, and on the editorial boards of The Journal of Accounting Education and the Education Section of The Accounting Review. He has testified as an expert witness in litigation involving accounting matters and has con- ducted consulting engagements and executive development programs for business and industry, Dr. Carter is a member of the Institute of Management Accountants, the American Institute of CPAs, and the American Accounting Association Management Accounting Section. Dedication to my wife, Imelda Smith Carter, for her patience and many sacrifices.Contents in Brief Part 1 Costs: Concepts and Obje 1 Management, the Controller, and Cost Accounting tecsseeeee E 2 — Cost Concepts and the Cost Accounting Information System . wreieen Pel 3 Cost Behavior Analysis 6 bees o sess BI Part2 Cost Accumulation Cost Systems and Cost Accumulation. ....-. +. impeyecemcsen 48 Job Order Costing - es Process Costing .....+++6+++ cee ceceeeee 6 ‘The Cost of Quality and Accounting for Production Losses... 0... woo Costing By-Products and Joint Products... ......2-0ee0ee0eeeeee eres 8 wulaHe Part 3. Planning and Control of Costs 9 Materials: Controlling, Costing, and Planning . 9-1 10 Just-in-Time and Backflushing : 10-1 11 Labor: Controlling and Accounting for Costs il 12 Factory Overhead: Planned, Actual, and Applied 12-1 13. Factory Overhead: Departmentalization 31 14 Activity Accounting: Activity-Based Costing and Activity-Based Management .....0. 006020020202 eeee 0 wee . 14d Part 4 Budgeting and Standard Costs 15 Budgeting: Profits, Sales, Costs, and Expenses ....... 0.220005 eS 16 Budgeting: Capital Expenditures, Research and Development Expenditures, and Cash; PERT/COSt.....064002200e000eeeeeeees cece GL 17 Responsibility Accounting and Reporting. . . . ete eer 17-1 18 Standard Costing: Setting Standards and Analyzing Variances sos eeseeecceee 18d 19 Standard Costing: Incorporating Standards into the Accounting Records........e0000ee00eeeereeeeee eae eer 19-1 Part 5 Analysis of Costs and Profits 20 Direct Costing, CVP Analysis, and the Theory of Constraints. 20-1 21 Differential Cost Analysis : 21-1 22 Planning for Capital Expenditures 22-1 23, Economic Evaluation of Capital 2Bel 24 ‘ 24-1 35 Profit Performance Measurements and Intracompany ‘Transfer Pricing. . ceeeee . veeeeeee SENOS Te se wee 25-1 Glossary Gl Ll Index. vilContents Part 1 Costs: Concepts and Objectives Chapter 1 Management, the Controller, and Cost Accounting. . Learning Objectives ... Management Planning Organizing Control Authority, Responsibility, and Accountabil The Organization Chart ene ‘The Controller's Participation in Planning and Control... ‘The Cost Department . . The Role of Cost Accounting Budgeting ; Controlling Costs Pricing Determining Profits ...... Choosing Among Alternatives .. Cost Accounting and Manufacturing Technology Certification and Ethics. Influence of Private and Governmental Organizations an Taxation . Cost Accounting Standards Board... Chapter 2. Cost Concepts and the Cost Accounting Information System... Learning Objectives . . The Cost Concept ...... Cost Objects... Traceability of Costs to Cost Objects. 2ost Traceability in Service Industries. The Cost Accounting Information System Chart of Accounts Electronic Data Processing. ....... Sensitivity to Changing Methods Nonfinancial Performance Measures Classifications of Costs. ..... Costs in Relation to the Product Costs in Relation to the Volume of Production Costs in Relation to Manufacturing Departments or Other Segments. Costs in Relation to an A¢ ounting Period wee Costs in Relation to a Decision, Action, or Evaluation . Appendix: The Balanced Scorecard ........ The Scorecard Perspectives A Series of Predictions : ‘orecards Aid in Communication. .Anal Cost Accounting 14* Edition ix Chapter 3 Cost Behavior Analysis Learning Objectives Classifying Cost Fixed Cost Variable Cost. Semivariable Cost Separating Fixed and Var High and Low Points Method ple Costs, Scattergraph Method . eee cee 37 Method of Least Squares 39 Method of Least Squares for Multiple Independent Variables. 3-16 Part 2 Cost Accumulation Chapter 4 Cost Systems and Cost Accumulation ......0..-+ Learning Objectives Flow of Production Costs Reporting the Results of Operations Income Statement Balance Sheet : tement of Cash Flows . . vanes Cost Systems Cost Accumulation Job Order Costing Process Costin Aspects Common to Both Job Order and Proces Blended Methods Backflush Costing a Fayeh Fr Costing Chapter 5 Job Order Costing .... Seemn 4g greens even Learning Objectives pec eeaeresnanc oe Overview of Job Order Costing Accounting for Materials feel rseoreeeneeees Materials Purchased gees v canons Materials Used ........e000e00eee Accounting for Labor Factory Labor Cost Incurred . . Factory Labor Costs Distributed Accounting for Factory Overhead. Actual Factory Overhead Incurred... Estimated Factory Overhead Applied . Accounting for Jobs Completed and Products Sold... Job Order Costing in Service Businesses .‘Table of Contents Chapter 6 Process Costing............0.00000085 hee 6-1 Learning Objectives Te 61 Process Cost Accumulation............ cece Gl Costing by Departments . 62 Physical Production Flow nee “ 6-3 Accounting'for Materials, Labor, and Factory Overhead Costs - 64 ‘The Cost of Production Report [ 6-7 Increase in Quantity of Production When Materials Are Added . . 6-1 Appendix: Process Costing with a Fifo Cost Flow Assumption ........... 6-15 Increase in Quantity of Production When Materials Are Added . . 6-19 Chapter 7 ‘The Cost of Quality and Accounting for Production Losses rl Learning Objectives ; Tl The Cost of Quality. . 72 ‘Types of Quality Costs 7-2 ‘Total Quality Management 72 Continuous Quality Improvement 14 Measuring and Reporting the Cost of Quality 76 Accounting for Production Losses in a Job Order Cost System 7-7 Accounting for Scrap shdoeatg elie cusine «seompg mee © 5a 1 Accounting for Spoiled Goods. . 18 Accounting for Rework iets Seheeeul 4 as 7-10 Accounting for Production Losses in a Process Cost System 7-12 Spoilage Auributable to Internal Failures. 7-12 Normal Production Shrinkage bettessssssees 716 Appendix: Process Costing with a Fifo Cost Flow Assumption se. 7-20 Spoilage Attribute to Internal Failures... vevvveeteteeeeeeeee 7-20 Normal Production Shrinkage .......... fp omneanoes 7:24 Chapter 8 Costing By-Products and Joint Products. 81 Learning Objectives . 8-1 By-Products and Joint Products Defined . 8&1 Nature of By-Products and Joint Products 8-2 Joint Costs...... a, 82 Difficulties in Costing By-Products and Joint Products. 8.2 Methods of Costing By-Products . . 83 Method 1: Recognition of Gross Revenue. Msinrueassnes 84 Method 2: Recognition of Net Revenue... cece 8S Method 3: Replacement Cost Method : teicns 8S Method 4: Market Value (Reversal Cost) Method ..........2.022222. 86 Underlying Accounting Theory ... : 87 Methods of Allocating Joint Production Cost to Joint Products 8.7 Market Value Method ......00.cccccecsesesseeeceeeeeeeeeeeee 8-7 Average Unit Cost Method... : wees 8410 Weighted-Average Method : wad ipwint femineceatsers » el0 Quantitative Unit Method. . boos o 8-11 Federal Income Tax Laws and the Costing of Joint Products and By-Products... 8-12 Joint Cost Analysis for Managerial Decisions and Profitability Analysis... 8-12 Ethical Considerations : 8-13Cost Accounting 14" Edition xi Part 3 Planning and Control of Costs Chapter 9 Materials: Controlling, Costing, and Planning ...........---- 91 Learning Objectives ..... ee 9-1 Materials Procurement and Use o1 Purchase of Materials 92 Purchases of Supplies, Services, and Repairs .... . 93 Purchasing Forms . ageing «5 ace tn 93 Receiving . - - oF Invoice Approval and Data Processing 9.5 Cost of Acquiring Materials 96 Storage and Use of Materials 9.8 Issuing and Costing Matei 2 oe 98 Materials Subsidiary Records phe eens - 99 Quantitative Models... cee fees 9-10 Planning Materials Requirements. . . . ce 9-10 Economic Order Quantity... Reet The EOQ Formula and Production Runs. . ne $8 RSEE S 944 Determining the Time to Order eee od Order Point Formula... 5 9-45 Computer Simulation for Materials Requirements Planning... 9-17 Materials Control 9-17 Materials Control Methods 918 Control of Obsolete and Surplus Inventor . 9-19 Appendix: Inventory Costing Methods. 9:19 First In, Fitst Out (Fif0).... 0002 -000ee eee e esse eeeeneerees 9.20 Average Cost. - Last In, First Out (Lifo) Comparison of Costing Methods CASB Costing of Materials Lower of Cost or Market . Interim Financial Reporting of Inventory... - 9-24 Chapter 10. Just-in-Time and Backflushing wsonsunercosersuen Tel Learning Objet . : : 10-1 Just-in-Time 10-1 JIT and Velocity 10-3 JIT and Production Losses 10-4 JIT and Purchasi seen 10-6 JIT and Factory Organization 10-7 JIT—A Balanced View om 10-8 Backflushing : 10-9 The Essence of Buckflush Costing, 2 10-10 A Basic Financial Accounting Analogy... sees . wees 10-11 Ilustration of Backflush Costing . .. . cuoumernensré [OntTable of Contents Chapter 11 Labo Controlling and Accounting for Costs. ...... Hel Learning Objectives 1-1 Productivity and Labor Costs lel Planning Product ies . 12 Measuring Productivity . apcaSiga Economic Impact of Productivity... ser Increasing Productivity by Better Management of Human Resources... 11-3, Incentive Wage Plans iE. 5.1 ton s . bd Purpose of an Incentive Wage Plan... . bene raerianeace 4 ‘Types of Incentive Wage Plans. veceeeee eee es 1-5 Organizational Incentive (Gainsharing) Plans ce cesses UT ‘Time Standards and Learning Curve Theory ..... temnenmres TGS Organization for Labor Cost Accounting and Control . ... 11-10 Personnel Department. . vecetteeteeeeeeeeeeee TEU Production Planning Department... .. . i . HII Timekeeping Department.............. 11-12 Payroll Department EE Meld Cost Department... vee UIAIS Department Interelationships and Labor Cost Control and Accounting - Ethical Considerations: Appendix: Accounting for Personnel-Related Costs . Overtime Earnings .............. Bonus Payments and Deferred Compensation Plans... oss Vacation Pay Guaranteed Annual Wage Plans Pension Plans 5 Additional Legislation Affecting Labor-Related Costs Labor-Related Deductions . Recording Labor Costs. . Chapter 12 Factory Overhead: Planned, Actual, and Applied.............. 12-1 Learning Objectives . . “RNG Page 5 cist» ‘The Nature of Factory Overhead... Use of a Predetermined Overhead Rate... Factors Considered in Selecting Overhead Rates Base to Be Used......... Selection of Activity Level Including or Excluding Fixed Overhead Calculation of an Overhead Rate Actual Factory Overhead ... . Applied Overhead and the Over- of Underapplied Amount. . Applying Factory Overhead . eos Over: or Underapplied Factory Overhead . Disposition of Over- or Underapplied Amount Changing Overhead Rates...Cost Accounting 14" Edi jon Chapter 13 Factory Overhead: Departmentalization. Learning Objectives . Departmentalization < Producing and Service Departments. Selection of Producing Department : Selection of Service Departments ....... Direct Departmental Costs Supervision, Indirect Labor, and Overtime . Labor Fringe Benefits Indirect Materials and Supplies ......... 0060005 Repairs and Maintenance Equipment Depreciation Indirect Departmental Costs . Establishing Departmental Overhead Rates Estimating Direct Departmental Costs Factory Survey . Estimating and Allocating Indirect Costs Distributing Service Department Costs Calculating Departmental Overhead Rates, Using Departmental Overhead Rates Actual Factory Overhead—Departmentalized Steps at End of Fiscal Period Muhtiple Overhead Rates. . Overhead Departmentalization in Nonmanufacturing Businesses and Not-for Profit Organizations . . . Chapter 14 Activity Accounting: Activity-Based Costing and Activity-Based Management . Learning Objectives Activity-Based Costing Levels of Costs and Drivers oo Comparison of ABC and Traditional Costing «+... ABC and Product Cost Distortion Strategic Advantage of ABC... . Example of ABC Implementation. : Strengths and Weaknesses of ABC......... Activity-Based Management. . . . . Behavioral Changes Cost Control Part 4 Budgeting and Standard Costs Chapter 15 Budgeting: Profits, Sales, Costs, and Expenses Leaming Objectives . Profit Planning. ..... Setting Profit Objective Long-Range Profit Planningxiv ‘Table of Contents Short-Range Budgets .........0605 sab rise - 15:3 Advantages of Profit Planning fee cece 154 Limitations of Profit Planning .........6...0. . wim 154 Principles of Budgeting. : og v0.8 Sree, 155. The Budget Commitee. ... ¥ sey on - 155 Budget Development and Implementation 15-6 Budgeting and Human Behavior 15-7 The Complete Periodic Budget, . 15-8 Sales Budget... 15-8 Production Budget 15-12 Manufacturing Budgets 15-13 Budgeting Commercial Expenses. 15-19 Budgeted Incom 15-22 cece 15-23 Chapter 16 Budget pital Expenditures, Research and Development Expenditures, and Cash; PERT/Cost 16-1 Learning Objectives 16-1 Capital Expenditures Budget . .. peaeah - . 16-1 Evaluating Capital Expenditures ........0.... 16-2 Short- and Long-Range Capital Expenditures 16-2 Research and Development Budget . ee 16-2 Form of a Research and Development Budget estamos 163 Accounting for Research and Development Costs ....... 164. Cash Budget _ Pei 16-5 Purpose and Nature of a Cash Budget 16-5 Preparation of a Periodic Cash Budget 16-6 Development of Daily Cash Budget Detail . 16-7 Electronic Cash Management 16-8 Planning and Budgeting for Nonmanufacturing Businesses and Not-for-Profit Organ Nonmanufacturing Businesse: Not-for-Profit Organiza Zero-Base Budgeting Computerized Budgeting Prospective Financial Informan stem... The PERT/Cost System Computer Applications... Probabilistic Budgets seeeene a 17-1 Learning Objectives .......... se IT Responsibility Accountin 17-1 c sin 17-2 Determining Who Controls Cost . MLE ESEE Pian icine ns 1903Cost Accounting 14" Edition XY Responsibility for Overhead Costs Responsibility Reporting ...........+ Fundamental Characteristics of Responsibility Reports Responsibility-Reporting Systems Illustrated Reviewing the Reporting Stucture The Flexible Budget and Variance Analysis Preparing a Flexible Budget Preparing a Variance Report... Responsibility Accounting and Reporti Dysfunctional Behavior of Managers. Usefulness of the Data to Managers. . An Alternative View Chapter 18 Standard Costing: Setting Standards and Analyzing Variances... oon vee 181 Learning Objectives ... . is an : 18-1 Usefulness of Standard Costs. : ee 18-1 Setting Standards, (isone 18-3 Determining Standard Production. 18-5 tandard Cost Variances ..... wine - 18-7 Determini Materials Standards and Variances 18-7 Labor Standards and Variances. . 18-9 Factory Overhead Standards and Variances « 18-11 Mix and Yield Variances . .. ee vee : » 1816 Mix Variance 18-16 Yield Variance. . . 18-17 lustration of Mix and Yield Variane 18-17 Responsibility and Control of Variances 18-19 Causes of Variances - : a cess 18-20 Tolerance Limits for Variance Control... ++ 5 3 18-26 Overemphasizing Variances . .- iene 18-26 Appendix: Alternative Factory Overhead Variance Methods... 18-28, Alternative Three-Variance Method Four-Variance Method . . . to Chapter 19 Standard Costing: Incorporating Standards into the Accounting Records Learning Objectives ....- 03 Recording Standard Cost Variances in the Accounts... + Standard Cost Accounting for Materials. Method 1. . oe re Method 2.......00208++ . sen CaN Method 3..... cunone otha : ee Standard Cost Accounting for Labor Standard Cost Accounting for Factory Overhead . . ‘Two- Variance Method Three-Variance Method Standard Cost Accounting for Completed Products...xvi ‘Table of Contents Disposition of Variances . 19-7 Variances Treated as Period Expenses. 19-7 Variances Allocated to Cost of Goods Sold and Ending Inventories 19-10 The Logie of Disposing of Varia 19-12 Disposition of Variances for Interi 19-14 Revision of Standard Costs....... 19-14 Broad Applicability of Standard Co: 19-15 Appendix: Alternative Factory Overhead Variance Method 19-16 Alternative Three-Variance Method... . cone 19-16 Four-Variance Method . Se 19-16 Part 5 Analysis of Costs and Profits Chapter 20 Direct Costing, Cost-Volume-Profit Analysis, and the Theory of Constraints... 20-1 Learning Objectives 20-1 Direct Costing . 20-2 Contribution Margin Defined . 20-2 Internal Uses of Direct Costing . .. 20-3 External Uses of Direct Costing. 20-7 Cost-Volume-Profit A 20-13 Constructing a Bi 20-16 Cost-Volume-Pro 20-18 The Theory of Constr 20-23 Measures Used in the Theory of Constraints 20-24 Using the Theory of Constraints 20-24 Examples of TOC Implementation. 20-25 Embracing TOC as an Accounting Tool. 20-26 Chapter 21 Differential Cost Analysis 21-1 Learning Objectiv nat sing 21-1 Differential Cost Studies. 24-1 Examples of Differential Cost Studies .. Accepting Additional Orders : 21-4 ing the Price of a Special Order 21-5 or-Buy Decisions . 21-7 ms to Shut Down Facilities 21-9 Decisions to Discontinue Products. 2-1 Additional Applications of Differen 21-13 Appendix: Linear Programming 24-17 Maximization of Contribution Margin 21-17 Minimization of Cost . si ceeeeee 21-21 Simplex Method . es +. 21-22 Chapter 22 Planning for Capital Expenditures....0..0.......0.4 te. 928 Learning Objectives E i tg ae 2-1 Planning for Capital Expenditures rn 1Cost Accounting 14" Edition Relating Plans to Objectives... .. rer Structuring the Framework Searching for Proposals . : . Budgeting Capital Expenditures. egnexamns Requesting Authority for Expenditures Ethical Considerations . ee Evaluating Capital Expenditures Classification of Capital Expendiaes Estimating Cash Flows Inflationary Considerations in the Estimation of Cash Flows... Income Tax Considerations in the Estimation of Cash Flows Economic Evaluation of Cash Flows ...... er Controlling Capital Expenditures .......+.+ ce Control While in Process - Follow-up of Project Results, Chapter 23 Economic Evaluation of Capital Expenditures .. Learning Objectives ‘The Cost of Capital . Economic Evaluation Techniques The Payback Period Method : ‘The Accounting Rate of Retuin Method ‘The Net Present Value Method The Internal Rate of Return Method The Error Cushion Purchasing versus Leasing Chapter 24 Decision Making Under Uncertainty . Learning Object beens Using Probabilities in Decision Making. Determining the Best Strategy Under Uncertainty Payoff Tables . Decision Trees .. ae Continuous Probability Distributions Monte Carlo Simulations a Considering Uncertainty in Capital Expenditure Evaluation Independent Cash Flows. . Perfectly Correlated Cash Flows Mixed Cash Flows Evaluating Investment Risk - Incorporating Nonquantitative Factors into the Analysis ......0. ves,‘Table of Contents Chapter 25. Profit Performance Measurements and Glossary . Intracompany Transfer Pricing .. seesereeserees 25h Learning Objectives ... veces cee 25e1 Rate of Return on Capital Employed . . The Formula ‘The Formula’s Underlying Data. . Using the Rate of Return on Capital Employed. . Divisional Rates of Return Urine Graphs as Operating Guides... . Advantages of Using the Return on Capital Employed Limitations of Using the Return on Capital Enployea : Multiple Performance Measures. vee Management Incentive Compensation Plans Selecting Performance Measures Intracompany Transfer Pricing ....... 7 Transfer Pricing Based on Cost Market-Based Transfer Pricing. Cost-Plus Transfer Pricing . Negotiated Transfer Pricing Arbitrary Transfer Pricing Dual Transfer Pricing ....... Index . ‘sie eines s ower e 6 ERR GUHA Yate ai seeeeeee ELPART 1 Costs: Concepts and Objectives Chapter 1 > Management, the Controller, and Cost Accounting Chapter 2 > Cost Concepts and the Cost Accounting Information System Chapter 3 > Cost Behavior AnalysisChapter 1 Management, the Controller, and Cost Accounting Learning Objectives After studying this chapter, you will be able to: 1. Model the management process as three interrelated activities: planning, organizing, and control, 2. Identify and distinguish three kinds of plans: short-range, long-range, and strategic. 3. Identify and differentiate the tasks in which management is aided by information about costs and benefits. 4, Identify which of the management accountant’s ethical responsibilities apply to partic ular ethical issue. 5, State the role of the pronouncements of the Cost Accounting Standards Board. This chapter describes the environment of cost accounting from internal and external per- spectives. Within the organization, cost accounting is presented as part of the management function, and the roles of the controller and cost department are discussed. In the external environment, the certification movement, ethical expectations, and other private and gov- emmental influences on cost accounting are examined. Management 5 Management is composed of three groups: (1) operating management, consisting of super iors: (©) middle management, represented by department heads, division managers, and branch managers: and (3) executive management, consisting of the president, executive vice-presidents, and executives in charge of marketing, purchasing, engineering, manufac- turing, finance, and accounting. Management consists of many activities, including making decisions, giving orders, establishing policies, providing work and rewards, and hiring people to carry out polici Management sets objectives to be achieved by integrating its knowledge and skills with the abilities of the employees. Planning and control may be the centerpiece of an organiza- tion’s approach to management. This was true in many organizations in the past Alternatively, planning and control may be pushed into the background and become almost invisible to line workers unless a major problem or failure occurs. Even when the planning and control functions are not in the forefront of day-to-day activities, management still must effectively perform the basic functions of planning, organizing, and control to be suc cessful. All three functions require participation by all management levels. Planning and control are divided for theoretical purposes, just as time frames are divided imo discrete operating periods. However, these divisions are artificially designed for the convenience of analysis and do not reflect the dynamic way in which an entity evolves. Iné bea aie youwerneg~ Jerproqcave- Fo cua PMT Ww ae Part 1 > Costs: Concepts and Objectives and interwoven processes. Time and control are simultaneous, inseparable, frames such as short- and long-range periods are not clearly distinguishable. Control of an activity takes place simultaneously with the planning for the next cycle of that same activity, other planning for longer and shorter cycles of activity, and the control of other activities, Planning Planning, the construction of a detailed operating program, is the process of sensing exter nal opportunities and threats, determining desirable objectives, and employing resources to accomplish these objectives. Planning investigates the nature of the company’s business, its major policies, and the timing of major action steps. Eifective planning is based on analyses of facts and requires reflective thinking, imagination, and foresight. An example of routine planning is the estimation of an organization's daily cash bal- ances for the next 30 days, with plans made to buy or sell short-term investments on cer- tain days so that the cash balance stays within a desired range. This kind of planning is so routine that the personnel involved are not likely to see that their work involves decisions of any kind; the decisions are all “programmed.” At the other extreme, examples of non- routine planning include executive management's responses to the appearance of a new, major competitor, a new or proposed government regulation of the industry, or a revolu- ionary new technology. This kind of planning involves so many unique, complex deci- sions that it defies any attempt to reduce all the relevant variables and the relationships among them into a “programmable” task Effective planning requires participation and coordination of all parts of the entity. Planning includes determining company objectives, which are measurable targets or results, In stating the objectives of a business, many people first think of profit. Although Profit is indispensable in a successful business, it is only one goal and cannot be the sole objective. The companies best able to maximize profits are those that produce goods or services at an excellent level of quality and value, in a volume, at a time and place, at a Cost, and at a price that will win cooperation of employees, gain the goodwill of customers, and meet social responsibilities. Three kinds of plans are identifiable in business entities. Strategic plans are formu- lated at the highest levels of management, take the broadest view of the company and its environment, are the least quantifiable, and are formulated at irregular intervals by an essentially unsystematic process that begins with identifying an external threat or oppor- ‘unity. Strategic planning decisions shape the future nature of the firm, its products, and its customers, and they have the potential to alter the external environment Short-range plans, often called budgets, are sufficiently detailed to permit prepara tion of budgeted financial statements for the entity as of a future date (typically the end of the budget period). These plans are prepared through a systematized process, are highly quantified, are expressed in financial terms, focus mainly on the organization itself by tak- ing the external environment as a given, and usually are prepared for periods of a month, quarter, or year. In addition to these two kinds of plans are the long-range plans prepared by some enti- ties. Long-range plans, or long-range budgets, typically extend three to five years into the future. In terms of their degree of detail and quantifiability, long-range plans are an inter- mediate step between short-range plans and strategic plans. For example, a long-range plan may culminate in a highly summarized set of financial statements or other quantified objectives such as targeted financial ratios (e.g. earnings per share) as of a date five years