Professional Documents
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Cost Terminology and Cost Behaviors
Cost Terminology and Cost Behaviors
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Learning Objectives
Why are costs associated with a cost object?
What assumptions do accountants make about cost
behavior, and why are such assumptions necessary?
How are costs classified on financial statements, and why
are such classifications useful?
How does the conversion process occur in manufacturing
and service companies?
What are the product cost categories, and what items
comprise those categories?
How and why does overhead need to be allocated to
products?
How is cost of goods manufactured calculated and used in
preparing an income statement?
© 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in
a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Cost
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Association with a Cost Object
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Reaction to Changes in Activity
Variable
Fixed
Mixed
Step
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Cost Reaction to Changes in Activity
$
$
# of Units # of Units
Within the
relevant range
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Cost Reaction to Changes in Activity
# of Units # of Units
Unit $ Unit $
Within the
# of Units relevant range # of Units
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Total and Unit Cost Behavior
Total Cost Unit Cost
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Cost Reaction to Changes in Activity
variable
$ $
fixed
# of Units # of Units
Within the
relevant range
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Determining Cost Behavior
Cost Predictor Cost Driver
Activity accompanied Activity that has a
by consistent, direct cause-effect
observable changes in relationship on cost
a cost item
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Classification on the Financial
Statements
Unexpired—balance sheet assets
Expired—income statement expenses
Product—inventoriable costs
Prime—direct material and direct labor
Conversion—direct labor and overhead
Product costs are unexpired before sale
Product costs are expired when sold
Period—expensed in period incurred
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Product Costs
Product costs
Direct material—Measurable part of a product
Direct labor—Labor used to manufacture a
product or perform a service
Overhead—Indirect production cost
First appear on the balance sheet in
inventory accounts
Transferred to the income statement when
product is sold
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Period Costs
Period costs
Selling and administrative costs
Distribution costs
Cost to warehouse, transport, and/or deliver a product or
service
Major impact on managerial decision making
Appear on the income statement when
incurred
Expensed when incurred
© 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in
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The Conversion Process
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The Conversion Process
Input Output
Purchase Product
raw materials or
or supplies Service
CONVERSION
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Degrees of Conversion
Low Moderate High
Moderate
Low High
Department stores Manufacturing
Gas stations Construction
Jewelry stores Agriculture
Travel agencies Architecture
Moderate Auditing
Mining
Florists
Printing
Meat markets
Restaurants
Oil-change businesses
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Service Company
Input
Purchase
supplies
Significant amount of labor
Tangible or intangible output
Use supplies,
labor, overhead Output
to provide service
Sell to
customer
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Retail Company
Input
Output
Purchase
Warehouse
products
and/or display
for resale
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Manufacturer
Significant amount of labor and machinery
Tangible output
Input Output
Purchase Finished
raw materials product
and supplies
Production
Center Sell to
add labor and
overhead
customer
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Cost Accumulation in a
Manufacturing Company
Materials
Inventory
Work in Process
Inventory
Finished Goods Cost of
Inventory Goods Sold
Income
Balance Sheet Statement
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Product Cost—Direct
Direct Material
Conveniently and economically traced
to cost object
Direct Labor
To manufacture a product or perform a service
Includes wages paid to direct labor employees,
production bonuses, payroll taxes
May include holiday and vacation pay, insurance,
retirement benefits
© 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in
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Product Cost—Indirect
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Product Cost Behavior
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Overhead Cost Allocation
Assign indirect costs to one or more
cost objects
To determine full absorption cost (GAAP)
To motivate management
To compare alternative courses of action for
planning, controlling, and decision making
Allocation process should be
rational and systematic
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Overhead Cost Allocation
Overhead Actual
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Allocating Overhead:
Actual Cost System
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Allocating Overhead:
Actual vs. Normal
Product Cost Actual Cost Normal Cost
System System
Direct Materials Actual Actual
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Predetermined Overhead Rate
Allows overhead to be assigned during the
period
Compensates for fluctuations
that are not related to activity level
in activity level that do not affect fixed overhead
© 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in
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© 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in
a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Flow of Product Costs
Raw Materials Inventory XXX
Accounts Payable XXX
© 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in
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Flow of Product Costs
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a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Flow of Product Costs
© 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in
a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Flow of Product Costs
© 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in
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Statement of Cost of Goods
Manufactured—Raw Materials
Used
Beginning balance $ 73,000
Purchases of materials 280,000
Raw materials available $353,000
Ending balance <69,000>
Total raw materials used $284,000
© 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in
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Statement of Cost of Goods
Manufactured
Beginning work in process $145,000
Raw materials used $284,000
Direct labor 436,000
Variable overhead 115,200
Fixed overhead 98,880
Current period manufacturing costs 934,080
Total costs to account for $1,079,080
Ending work in process <20,880>
Cost of goods manufactured $1,058,200
© 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in
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Schedule of Cost of Goods Sold
Beginning Finished Goods $ 87,400
Cost of Goods Manufactured 1,058,200
Cost of Goods Available for Sale $1,145,600
Ending Finished Goods <91,600>
Cost of Goods Sold $1,054,000
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Income Statement
Revenue XXXX
Cost of Goods Sold <1,054,000>
Gross Profit XXXX
Operating Expenses <XXXX>
Operating Income XXXX
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Questions
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Ethical Issues
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