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    PRICING ANG COSTING

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    9 views18 pages

    Pricing Ang Costing

    Uploaded by

    Warren Sigue

    Copyright:

    © All Rights Reserved
    Download as PDF or read online from Scribd
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    Chapter 2 IFICATIONS COSTS - CONCEPTS,AND CLA: LEARNING 0} CTIVES Upon completion of this chapter, you should be able to © Distinguish between cost, expenses, and losses, * Distinguish between direct and indirect costs, * Define the three integral components of a product. © Define prime costs and conversion costs. ¢ Define variable, fixed, and mixed costs and discuss the effects of changes in volume on these costs. Distinguish between common costs and joint costs Distinguish between capital expenditures and revenue expenditures © Identify the costs for planning, control and analytical processes Costs are associated with all types of organizations — business, non-business, “service, retail, and manufacturing. Generally, the kinds of costs that are incurred and the way in which these costs are classified will depend on the type of organization involved. Our initial focus will be on a manufacturing, but in our discussion we should be aware that, in a conceptual sense, manufacturing encompasses much more than just firms in the industrial sector of our economy. It also encompasses many organizations that are typically viewed as being service in nature, such as movie studios and fast-food outlets. Organizations such as-these are involved in manufacturing in the sense that they create a distinct product for customers or patrons. As we proceed with our discussion, therefore, we should keep in mind that manufacturing is a broad term, and that the costs included under the manufacturing heading have application to a wide range of organizations — many of which may be involved in service-type activities. An understanding of the cost structure of a manufacturing company therefore provides a broad, general understanding of costing that can be very helpful in understanding the cost structures of other types of organizations. 19 Scanned with CamScanner 20 Cost Accounting Before cost terminology can be discussed the term cost itself must be defined. Cost is the cash oF cash equivalent value sacrificed for goods and services that are expected to bring @ current or future benefit to the organization. We say cash equivalent because non-cash assets can be exchanged for the desired goods or sexvices. For example, it may be possible to exchange land for some. needed equipment. Costs are incurred to produce future benefits in a profit making firm, future denetits usually mean revenue, As costs are used up in the production of revenues, they are said t0 expire. Expired costs are called expenses, In each period, expenses sre deducted from revenues in the income statement to determine the period's profit. A loss is a cost that expires without producing any revenue benefit. The focus of cost accounting is on costs, not expenses. CLASSIFICATION OF COSTS T. Costs classified as to relation to a product A. Manufacturing costs/product costs 1. Direct materials 2. Direct labor 3. Factory overhead B. Non-manufacturing costs/period costs 1. Marketing or selling expense 2. General or administrative expense IL Costs classified as to variability A. Variable costs B. Fixed costs C. Mixed costs IIL. Costs classified as to relation to manufacturing departments A. Direct departmental charges B. Indirect departmental charges TV. Costs classified to their nature as common or joint A. Common costs B. Joint cost —__—— Scanned with CamScanner ifications 2 Chapter 2 — Cost Concepts and Cla: V. Costs classified as to relation to an accounting period A. Capital expenditures B, Revenue expenditures VI. Costs for planning, control, and analytical processes A, Standard costs B. Opportunity costs C. Differential cost D. Relevant cost E. Out-of-pocket cost F. Sunk cost G. Controllable cost MANUFACTURING COSTS/PRODUCT COSTSANVENTORIABLE COSTS Direct materials Direct materials are the basic ingredients that are transformed into finished products through the use of labor and factory overhead in the production process. Direct materials are those that can be traced to the finished product can they form part of the product. All manufactured products are made from basic direct materials, The basic material may be iron ore for steel, sheet steel for automobiles, flour for bread wood tables and chairs,. Theses examples show the link between a basic raw material and a final product. The way a company buys, stores, and uses materials is important. Timely purchasing is important because if the company runs out of materials, the manufacturing process will be forced to shut down. Shutting down production results in no products, unhappy customers, and loss of sales and profits. Buying too many direct materials, on the other hand, can lead to high storage costs. Proper storage of materials will avoid waste and spoilage. Large enough storage space and orderly storage procedures are essential. Materials must be handled and stored properly to guarantee their satisfactory use:in production. Proper records, the materials stockcars, make it possible to find goods easily. Such records reduce problems caused by lost or misplaced items. Scanned with CamScanner Cost Accounting Dicoot materials are materials that become part of a finished product and can be conveniently and economically traced to specific product units. The costs of these materials are direct costs, In some cases, however, even though a material becomes part of a finished product, the expense of actually tracing the cost of a specific material is too great, Some examples of this include nails in furniture, bolts in automobiles, and rivets in airplanes. These minor materials and other production supplies that cannot be conveniently or economically traced to specific products are accounted for as indirect materials. Indirect materials costs are part of factory overhead costs, Direct labor Direct labor represent the amount paid as wages to those working directly on the | product. .Labor services are, in essence, purchased from employees working in the factor In addition, other types of labor are purchased from people and organizations outside the company. The labor costs usually associated with manufacturing include machine operators; maintenance workers; managers and supervisors; support personnel; and people who handle, inspect, and store materials. Because these people are all connected in some way with the production process, their wages and salaries must be accounted for as production costs and, finally, as costs of products. . However, tracing many of these costs directly to individual products is difficult. To help overcome this problem, the wages of machine operators and other workers involved in actually shaping the product are classified as direct labor costs, Direct labor costs include all labor costs for specific work performed on products that can be conveniently and economically traced to end products. Labor costs for production related activities that cannot be conveniently and economically traced to end products are called indirect labor costs. These costs include the wages and _ Salaries of such workers as machine helpers, supervisors, and other support personnel. Like indirect materials costs, indirect labor costs are accounted for as factory overhead costs. Payroll related costs, such as payroll taxes, group insurance, sick pay, vacation and holiday pay, and other fringe benefits can be considered as part of direct labor costs, but are usually included as factory overhead. Direct labor plus direct materials = prime costs, while direct labor plus factory overhead = conversion costs, Prime costs and conversion costs may be diagramed as shown on the next page Total manufacturing cost = direct materials, + direct labor + factory overhead Scanned with CamScanner ification 23 Chapter 2 Cost Concepts and Cla: Direct Direct Factory Materials Labor - Overhead Conversion Costs Factory Overhead The third manufacturing cost element is a catchall for manufacturing costs that cannot be classified as direct materials or direct labor costs. Factory overhead costs are 8 varied collection of production-related costs that cannot be practically: or conveniently traced directly to end products. This collection of costs is also called manufacturing overhead, factory burden, and indirect manufacturing costs. Examples of the major classifications of factory overhead costs are: Indirect materials and supplies: nails, rivets, lubricants, and small tools. Indirect labor costs: lift-truck driver’s wages, maintenance and inspection labor, engineering labor, machine helpers, and supervisors. Other indirect factory costs: building maintenance, machinery and. tool maintenance, property taxes, property insurance, pension costs, depreciation on plant and equipment, rent expense, and utility expense. NON-MANUFAC TURING COSTS/PERIOD COSTS Marketing or selling expenses Marketing or selling expenses include all costs necessary to secure customer orders and get the finished product or service into the hands of the customer. Since marketing expenses relate to contacting customers and providing for their needs, are often referred to as order-getting and order-filling costs. Exanples of marketing expenses include advertising, shipping, sales travel; sales commissions, sales salaries, and expenses associated with finished goods warehouses. All organizations have marketing costs, regardless of whether the organizations ere manufacturing, merchandising, or service in nature. Scanned with CamScanner 24 Cost Accounting Adnuinistrative or general expenses 2 Administrative expenses include all executive, organizational, and clerical expenses that cannot logically be included under either production or marketing. Examples of such expenses include executive compensation, general accounting, secretarial, public relations, and similar expenses having to do with the overall, general administration of the organization as a whole. As with marketing expenses, all organizations have administrative expenses COSTS CLASSIFIED AS TO VARIABILITY Fixed, Variable, and mixed One of the most important cost classifications involves the way a cost changes in relation to changes in the activity of the organization. Activity refers to a measure of the organization’s output of products or services. In specifying cost behavior, the managerial accountant often limits the description to a specific range of activity. This is called the relevant range. Fixed cost Items of cost which remain constant in total, irrespective of the volume of production. Fixed cost are not related to activity within the relevant range. If activity increases or decreases by 20 percent, total fixed cost remains the same. Cost per unit decreases as volume increases, and increases as volume decreases, Fixed costs are assignable to departments based on difference allocation methods. Examples are salaries of production executives, depreciation of equipment computed on a straight-line basis, periodic rent payments, and insurance. Fixed costs may classified into two categoriex, depending on the ability of management to influence the levels of these costs in the short-term. 1) Committed fixed costs — costs that represent relatively long term commitments on the part of management as a result of a past decision. Example — depreciation on equipment. 2) Managed fixed costs (also known as discretionary, programmed, or planned fixed costs) ~ costs that are incurred on a short-term basis and can be more easily modified in response to changes in management objectives. Examples — advertising, research atid development and costs of training of employees i Scanned with CamScanner Chapter 2 Cost ~ Concepts and Classification 25 Shown on below is a’ graph of fixed cost. It is clearly shown that total fixed cost remains unchanged as activity changes. When activity triples, from 10 to 30 units, total fixed cost remains constant at P1,500. If activity level is only 1 unit, then the fixed cost per unit is P1,500, If the activity level is 10 units, then the fixed cost per unit declines to P150 per unit. So we can conclude that fixed cost per unit will decrease as we increase the volume or units of production and fixed cost per unit will increase as we decrease the volume of production. Total fixed cost 1,500 1 I | 10 20 30 Activity Graph of total fixed cost Activity Fixed cost per unit Total Fixed Cost 1 P 1,500 1,500 2 750 1,500 5 300 1,500 10 150 1,500 20 75 1,500 30 50 1,500 Variable costs These are the items of cost which vary directly, in total,’in relation to volume of production. If activity increases by 20 percent, total variable cost increases by 20 percent also. Cost per unit remains constant as volume changes within a relevant range. Examples are: direct materials, direct labor, royalties, and commission of salesmen. Shown on the next page is a graph of total variable cost. As this graph shows total variable cost increases proportionately with activity. When activity doubles from 10 to 20 units, total variable cost doubles, from P1, 000 to P2, 000. However, the variable cost per unit remains the same as activity changes. The Scanned with CamScanner Cost Accounting se 4 Variable cost associated with each unit of activity is P100, whether it is the first unit, the fourth, or the tenth, hanges, total variable cost increases or decreases To summarize, as activit hange, but unit variable cost remains the same, proportionately with the ac Total Variable Cost 3,000 2,000 1.000 Activity 10 20 30 Graph of total variable cost TABULATION OF VARIABLE COST Activity Variable Cost per Unit Total Variable Cost 1 P~ 100 P 100 10 100 1,000 20 100 2,000 30 100 3,000 Mixed cost Items of cost with fixed and variable components. Mixed costs vary with the level of production, though not in direct relation to it, probably because part of the cost is fixed while the rest is variable. Two types of mixed costs exist — semivariable costs and step costs Semivariable coat. The fixed portion of a semi-variable cost usually represents minimum fee for making a particular item or service available. The vatiable portion is the cost charged for actually using the service. The cost of electricity where there is a basic minimum charge plus a specified cost per kilowatt hour above the Scanned with CamScanner Chapter 2 Cost ~ Concepts and Classification 27 minimum is an exampte of such a semi-variable cost. The cost charged for using a phone under a plan is also an example of a semi-variable cost.. The cost of the plan is fixed and it is for a specified time used, however if the user exceeds the time allowed, then changes will be made on a per minute basis, Semi-variable cost i-variable costs Variable (P"15,000) Fixed (P20,000) 5,000 KILOMETERS 1,000 Assume that a company rents a delivery truck at a flat rate of P 20,000 per month plus P 1.S0/km.driven. The fixed portion is the P20,000 monthly rental fee; the variable portion is the P1.S0/km driven. If 10,000 km. are driven during the month, the total monthly cost of the delivery truck is P 35,000, computed as follows: Flat fee (fixed portion) P 20,000 Variable portion — 10,000 km. x P 1.50 15,000 Total cost 35,000 Step costs - the fixed part of step costs changes abruptly at various activity levels because these costs are acquired in indivisible portions. A step cost is similar to a fixed cost within a very small relevant range. 180,000 150,000 120,000 90,000 60,000 30,000 9 ) ee Scanned with CamScanner Is Cost Accounting The supervisor's salary is an example of step cost. Assume that one supervisor A a salary of P 30,000 is needed for every 10 workers, then if 15 workers ee it 2 supervisors (With salaries of P60,000) will be needed. If 18 workers are use si 2 supervisors would be needed, If the number of workers increases to 22, three supervisors would be needed. Ideally, for both planning purposes and for making certain types of decisions, all costs Would be classified as either fixed or variable, with semi-variable costs being separated i i i it steps in estimating the variable and fixed components of a mixed cost is to examine the cause and effect relationship between activities that affect costs,. There are different methods of separating mixed costs into fixed and variable components: (1) seattergraph, (2) high-low point, (3) method of least square. We will illustrate the use of high-low point method and method of least square (1) HIGH-LOW POINT METHOD Summary of electricity costs and direct labor hours Month Directlaborhrs, Cost of electricity January 28 P 625 February 24 565 March 30 630 April 33 640 May 38 685 June 34 640 July 35 655 August 40 700 September 42 15 October 47 126 November 43 700 December 32 630 Direct labor hrs. Lost, Highest month (Oct.) 47 po Lowest month (Feb.) 24 565 Difference 2B P 161 ‘Variable rate per direct labor hour = P_161 23 hours =P Tidirect labor hour Scanned with CamScanner Chapter 2 Cost Concepts and Classification 29 Fixed cost can be computed from either the high of low data, High Low Total cost of electricity P 726 P 565 Less: variable proportion (P 7x47) 329 (P 7x24) —168 Monthly fixed cost P3197 R397 The formula for projecting the total monthly cost of electricity based on these data would be P 397 plus P7 multiplied by the direct-labor hours expected to be worked during the period (Y = FC + VC or Y = FC + VX) where Y = Total cost VC = Total variable cost V = Variable cost per unit FC = Fixed cost X = Activity level @) METHOD OF LEAST SQUARE The three formulas to be used in least-reuare method are: Equation 1 Y = atbx Equation 2 XY = nat+b

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