Maryland International College

Accounting and Finance

for Managers
Chapter One
Accou
nting:
an
Overv
iew
 Meaning of Accounting
 Accounting is defined as a means by which financial information about
economic entity is communicated to interested parties (users)

 It is the process of identifying, measuring and communicating economic

information to permit informed judgments and decisions by users of
information (AAA)

 Its purpose is to communicate or report the results of a business

operations and its various aspects.

 Cont’d
On analyzing the above definitions, the following characteristics of accounting emerges:

Accounting is the art of recording and classifying different business transactions.

Generally the business transactions are described in monetary terms.

In accounting process, the business transactions are summarized and analyzed so as
to arrive at a meaningful interpretation.

The analysis and interpretations thus obtained are communicated to those who are
responsible to take certain decisions to determine the future course of business.
f

A
To record the business transactions in a systematic manner.

cTo determine the gross profit and net profit earned by a firm during a specific period.

cTo assess the taxable income and the sales tax liability.

o To know the financial position of a firm at the close of the financial year by way of
upreparing the balance sheet.

n To facilitate management control.

t
To provide requisite information to different parties, i.e., owners, creditors, employees,
imanagement, government, investors, financial institutions, banks etc.
n
g
 Ac
oc
u
nt
i
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g
nfI
or
m
at
oi
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Users
nt(I
derst
P
ar
ties)

Two Major Groups of Users Examples

are mainly management personnel of an organization who have direct involvement and
Internal
control over organization’s internal activities and they have direct access to the internal
Users records of the company
-------------------------------------------------------------------
---------------------------
Are users who have no direct access to the internal records of the company. They are, however, served
through general purpose financial statements
Lenders / Creditors
Owners / Shareholders in a corporate form of business organization
External Employees and labor Unions
Users Government
investment Analysts and Consultants
o
n
:
Accounting information is not an end , but is a means
-
to an end i.e. its final product is decision which is
a Accounting ultimately enhanced by the use of accounting
Information -
a means to information, whether that decision made by owners,
m
an end
e management, creditors, government bodies, labor
a
unions ,etc.
n
s
Why accounting is being called as “the
language of business”?

Why Accounting information is a means

to an end, not the end in itself?
a
g
e
Financial Accounting:
mFinancial accounting information provides information about the financial resources,
e
obligations, & activities of an enterprise that is intended for use primarily by external
n
decision makers.
t
Financial accounting information appears in financial statements that are intended
Afor external use.
c
The primary questions about an organization’s success that decision makers want to
c
know are:
o
u◦ What is the financial picture of the organization on a given day?
n◦ How well did the organization do during a given period?
t
 Cont’d……..
Accounting answer these primary questions with four major
financial statements.
1. Balance sheet- Shows financial picture on a given day.
2. Income statement- shows performance over a given
period.
3. Statement of cash flows- shows cash performance over a
given period.
4. Statement of Change in Owners’ Equity – shows change in
owners’ equity
Cont’d……
Management Accounting:

Management accounting involves the development and interpretation of

accounting information intended specifically to assist managing in operating the
business.

Management accounting information is for internal use & provides special

information for managers.

Managers use this information in

setting companies goals,

evaluating the performance of departments and individuals,

deciding whether to introduce a new line of products, and

making virtually all types of managerial decisions.

Financial Accounting Vs. Management Accounting

Financial accounting is aimed to provide accounting information

to external users.

Managerial Accounting is aimed to provide accounting

information to internal users.

Although there is a difference in the type of information presented

in financial and managerial accounting, the underlying objective is
the same; to satisfy the information needs of the user.
 Management Accounting Vs Financial Accounting
Criteria Management Accounting Financial Accounting

Purpose of information
Primary users
Help managers make decisions to fulfill an Communicate organization’s financial Position
organization’s goals and operating results to investors, banks,
regulators, and other outside parties
Managers of the organization External users such as investors, banks,
regulators, and suppliers

Focus and emphasis` Future-oriented (budget for 2014 prepared in Past-oriented (reports on 2013 performance
2013) prepared in 2014)

Rules of measurement
and reporting
Time span and type of reports
Internal measures and reports do not have to
follow GAAP (IFRS) but are based on cost-benefit
analysis and usefulness to managers
Varies from hourly information to 15 to 20 years,
with financial and nonfinancial reports on
products, departments, territories, and strategies
Financial statements must be prepared in
accordance with GAAP (IFRS) and be certified by
external, independent auditors
Annual and quarterly financial reports, primarily
on the company as a whole

Behavioral implications Designed to influence the behavior of managers Primarily reports economic events but also
and other employees influences behavior because manager’s
compensation is often based on reported financial
results
 Finance
 Finance is study of how to raise money and invest it
productively.

 It refers to a body of facts, principles and theories dealing

with the raising and using of money by individuals,
businesses and governments

 It uses accounting information as inputs to decision-

making.
 M
a
 Is thenmanagement of the sources and uses of money to maximize shareholders wealth

 a Management deals with procurement of funds and their effective utilization

“Financial
in thegbusiness”


e
It involves four finance decisions, namely:
m
Investment decisions (Capital budgeting)
e
Financing decisions (capital structure)
n
Liquidity decisions (working capital management/short term asset mix decision)
t
Dividend decisions
Financial Management Decisions
 Referred to as capital budgeting decision, commitment of funds to long term
Investment assets in anticipation of long-term benefits
Decision
 It is the allocation of capital to investment proposals
 Is related to the left side of the balance sheet
Financing • Decision related to raising funds, determining the appropriate mix
Decision of debt and equity called capital structure

• Decision relating to the appropriate mix of current assets and current liabilities
Liquidity by considering risk-return trade off
Decision
Decision regarding the allocation of profit earned into amount that should be paid as
Dividend dividend and amount that should be retained

Decision
 Part Three

End of the
Session!
Section Two

Financial Statements
and the Accounting
Equation
A
c
c
o
u International Financial Reporting Standards (IFRS) is a set
n of accounting standards developed by an independent, not-
t for-profit organization called the International Accounting
i
Standards Board (IASB).
n
g It is a single standard intended to provide investors and
auditors with a cohesive view of finances.
S
 e
e
dagree that there is a need for one set of international accounting standards. Here is why:
Most

 Multinational corporations. Today’s companies view the entire world as their market. For
Iexample, large companies often generate more than 50% of their sales outside their own boundaries.
FMergers and acquisitions. The mergers between Fiat/Chrysler and Vodafone/Mannesmann suggest

Rthat we will see even more such business combinations in the future.

SInformation technology. As communication barriers continue to topple through advances in

?technology, companies and individuals in different countries and markets are becoming more
comfortable buying and selling goods and services from one another.

 Financial markets. Financial markets are of international significance today. Whether it is

currency, equity securities (shares), bonds, or derivatives, there are active markets throughout the
world trading these types of instruments.
 Why IFRS? Benefits of IFRS
 A business can present its financial statements on the same basis as its
foreign competitors, making comparison easier.

 Cross-border listing will be facilitated, making it easier to raise capital

abroad.

With IFRS,  Companies with foreign subsidiaries will have a common, company-wide
accounting language.

 Foreign companies which are targets for takeovers or mergers can be

more easily apprised.

 Credibility of local market to foreign investors

 Why IFRS? Benefits of IFRS
 More cross-border investment
 Efficient capital allocation( efficient information)
 Comparability across political boundaries
 Facilitates global education and training
With
IFRS,  Facilitates raising capital abroad
 One set of books + easier consolidation
 Better understanding of financial statements from
business partners abroad
Drawbacks and Costs of Implementing IFRS

 The belief by some that there is a lower level of

detail in IFRS (compared to GAAP)

 Increased earnings volatility

 Lack of talent with needed skill sets (even in the

developed countries context
 Basic Accounting Concepts and Principles

 HISTORICAL COST PRINCIPLE (or cost principle)

dictates that companies record assets at their cost.

Measurement  FAIR VALUE PRINCIPLE states that assets and liabilities

Principles should be reported at fair value (the price received to sell an
asset or settle a liability).
 Basic Accounting Concepts and Principles

 MONETARY UNIT ASSUMPTION: requires that

companies include in the accounting records only
transaction data that can be expressed in terms of
money.
Assumptions
 ECONOMIC ENTITY ASSUMPTION: requires
that activities of the entity be kept separate and distinct
from the activities of its owner and all other economic
entities.
E
q
u
a
t
i Assets = Equities
o                   
 
 
Asset     Liabilities &
n      
     
    Owners
Assets = Creditors’ Equity + Owner's        Equity

Equity
a
n
d Assets = Liabilities + Capital

i
t
 Assets Examples

• building, land, vehicle, money, office machine such as

are resources computer, stationery materials, fuel,
• Inventory (merchandise held for sale),
owned/controlled • Accounts Receivable (money claims against customers for
by an economic goods and services sold to them on credit),
entity and with the • Rent Receivable (money claims against
potential to provide lessee/tenant/renter for housing services rendered to
future benefits to them but not yet collected),
• Supplies (also called consumable - refer to assets that are
the business. expected to be consumed within a very short period of
  time and include such items as fuel, stationery materials,
cleaning materials, postage and postage stamps, etc),.
 Liabilities Examples
Accounts Payable (liability arising from purchase of goods on credit),
Salary Payable (obligation for professional or technical services received from
employees),
obligations/debts
Utility Payable (obligation to utility companies for utility services such as
of a business that telephone, electricity and water services received but not yet paid),
arise as a result
of borrowing Bank Loan Payable (money borrowed from banks),

and/or buying Interest Payable (interest accrued on loans not yet repaid),
goods and Sales Tax (VAT) Payable (amount collected from customers on behalf of and due
services on credit to government/tax authority) and
Unearned Rent (money collected from tenants promising to provide them
housing services in the future).
 Capital (Equity) Examples

Capital (Equity) may include:

also called
owner’s equity/net
worth/net assets direct investment of resources by owner/s and
refer to resources
contributed by or profit generated from business operations that are
that belong to the
owner/s of a accumulated over time or not withdrawn by the owner/s
business entity.
for personal use.
 Variables that Affect Capital
Revenues - refer to money or other assets received in exchange for goods and services sold
to customers. Business organizations may sell goods and services on cash and/or credit basis.

Expenses - refer to goods and services consumed/used in operating or carrying on day-to-day

Capital activities of a business.
(owners’ equity) Drawing (withdrawal): - amount of cash or other assets taken by owners for personal use. It
is affected by is also called Dividend for corporations
four major
variables Investment by Owners: - the amount of owners cash or other personal assets that is
transferred to the business
Effect on Owners’ Equity Summarized
Owner’s Equity / Capital
The owner’s
investment and Decreased by: Increased by: Owner’s
revenues increase Owner’s withdrawals and Expenses Investment and Revenues

the owner’s equity.

Withdrawals and
expenses during the
period decrease the
owner’s equity.
Expanded Accounting Equation
 Business Transactions Analysis

Each Business transaction affects at least two elements of

accounting equation. The effect could be a decrease or increase
in one or more elements of accounting equation.
Use the following illustration to analyze the effect of transaction on
accounting equation elements
Illustration:

As a means of illustration, suppose Mr. Yitref, a graduate from

Maryland International College, established a sole proprietorship to
be known as “Matref Consulting”, a service providing firm that
provides consultancy service in management and finance on January
1, 2021. During January, the business engages in the following
transactions:

 
Transaction (1) - Owner’s investment: - Mr. Yitref starts business by depositing Br. 100,000 in a bank account opened in the name of Yitref Consulting.

Transaction (2) - Purchase of land for cash: - Materef Consulting bought land for Birr 20,000 in cash, to be used as a future site for the business.

Transaction (3) - Purchase of Supplies on credit (on account): - Mr. Yitref bought office supplies for birr 2,500 on credit, to be used by the business.

Transaction (4) – Payment of liability: - Matref Consulting paid Birr. 1,500 to creditors on account.

Transaction 5 – Selling of service: - During the first month of operation, the firm earned service Fees of Birr 30,000 receiving the amount in cash for the
services it rendered.

Transaction (6 )- Recording Expenses: - During the month of September, Matref Consulting paid Birr 15,000 for different types of expenses (birr 10,000
to salary of employees, birr 3000 Telephone, birr 1,500 for rent, and birr 500 for advertisement).

Transaction (7) – Owner’s Withdrawal: - Mr. Yitref, the owner, withdrew Birr 3000 for his personal from the business.

Transaction (8) – Consumption of supplies: - Physical count of supplies at the end of the month revealed that supplies worth Br.1500 are consumed

Required: Show the effect of each of the above transactions on elements of accounting equation, and prepare the four basic financial statements based
on the summary of transactions
 Type of owner’s Transaction
Tra. No Supplies + Land Accounts Dawit Gem. Capital
Cash + Payable

1 +100,000 - - - + 100,000 Owners Investment

Bal Birr 100,000 - - - Birr 100,000

2 -20,000 - + 20,000 - -

Bal Birr 80,000 - Birr 20,000 - Birr 100,000

3 - +2500 +2500

Bal Birr 80,000 Birr 2,500 Birr 20,000 Birr2500 Birr 100,000

4 -1,500 - -1500

Bal Birr 78,500 Birr 2,500 Birr 20,000 Birr1,000 Birr 100,000

5 + 30,000 - - - + 30,000 Service fee

Bal Birr 108,500 Birr 2,500 Birr 20,000 Birr1,000 Birr 100,000

6 -15,000 - - - -10,000 Salary Exp.

-3000 Teleph. Exp

- - - - -1500 Rent Exp.

-500 Adv. Exp.

Bal Birr 93,500 Birr 2500 Birr 20,000 Birr 1000 Birr 115,000

7 -3,000 - - - -3000 Owner’s withdrowal

Bal Birr 90,500 Birr 2500 Birr 20,000 Birr 1,000 Birr 112,000

8 - -1500 - - -1500

Bal Br. 90,500 Br. 1000 Br. 20000 Br.1000 Br.110500

Total Assets =Birr 111,500 Total Liabilities and Owner’s Equity = Birr 111,500
 Financial Statements
Income Statement / Profit or loss statement – a statement that summarizes the
revenues earned and expenses incurred to determine Net profit or Net loss for a
specific period of time such as a month or a year
Financial Statement of Owners’ Equity / Capital Statement - is a summary of changes
statements are (increases and decreases) in owner’s equity that have occurred during a specific
reports prepared by period of time such as a month or a year..
a business to Statement of Financial Position / Balance Sheet : - is used to provide information
provide financial about amounts and types of assets a business owns and amounts and types of
information about resources contributed by its owner/s and creditor/s.
its economic Statement of Cash Flow: - is used to provide information about sources and uses of
affairs to users cash over a specific period of time such as a month or a year
 Matref Consulting
Income statement
For the Month Ended January 31,2021
Revenues:
Service Fee Birr 30,000.00
Expenses:
Salary Expense Birr 10,000.00
Telephone Expense 3,000.00
Rent Expense 1,500.00
Advertising Expense 500.00
Supplies Expense 1500.00

Total Expenses 16,500.00

Net Income Birr 13,500.00
 Matref Consulting
Statement of Owner’s Equity
For the Month ended January 31,2021
Dawit G. Capital, September 1……………………………………Birr -0-
Add: Investments………………………………… Birr 100,000.00
Net income…………………………………… 13,500.00
113,500.00
Less: Drawings………………………………………………………3,000.00
Dawit G. Capital, September 30…………………………… Birr 110,500.00
 Matref Consuling
Balance Sheet
January 31,2021

Assets
Cash…………Birr 90,500.00
Supplies……………1,000.00
Land………………20,000.00
_________
Total Assets……..111,500.00
Liability
Accounts payable…… Birr 1,000.00
Owner’s Equity
Ato Dawit Gem., Capital Br110,500.00.
Total Liabilities and
Owner’s equity……...Birr 111,500.00
End of the
Session!
 Chapter Three

Financial Report Preparation and

Presentation Processes Using the
formal Accounting Cycle
I
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o
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o
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In the previous units we were recording effects of

business transactions using the accounting equation
format. This, however, is not cost- and time-effective
when an organization has large volume of
transactions to process several asset, liability, capital,
revenue and expense items.
As a result, as the volume of transactions grows and the
number of specific elements of the financial statements
increases, it will be necessary to design and use
systematic way of processing transactions and
generating accounting information. The following
sections discuss an improved system of transforming
business transactions into useful accounting information.
The purpose of this chapter is to
review the basic steps of the
accounting process.

46
 O
b
j
1.
e Identify and explain the basic steps in the accounting process
c (accounting cycle).
2.
t Analyze and Journalize transactions
i
3.
v Summarize transactions by posting to accounts in the ledger.
4. e Prepare adjusting entries
s
5. Produce financial statements, and

6. Close nominal accounts and prepare post-closing trial balance

47
 n
t
i Account – refers to the basic storage unit for accounting
n data used to classify transactions in terms of their effects on
g specific asset, liability, capital, revenue and expense items.
There are three
Ledger - refers to a kind of folder/ring binder used to
basic accounting
arrange and put in one place all accounts used by a business
R records
organizations use Journal: - also called the book of original entry, refers to a
e
in transforming business document where effects of business transactions
c business on specific elements of the financial statements are
recorded in or copied from source documents
o
transactions into
chronologically (i.e. in order of their occurrence) based on
useful
r accounting the rules of debits and credits and the double-entry
dinformation accounting system.

s
Definition - an account is the basic storage unit for accounting data. It is
used to classify transactions in terms of their effects on specific asset,
liability, capital, revenue and expense items. Thus, a separate account is
kept to record and accumulate/store monetary effects of transactions
on such specific items that appear on the financial statements as Cash,
Supplies, Accounts Payable, Bank Loan Payable, Capital, Fees Earned,
Rent Income, Salary Expense and Supplies Expense.
 Classification of Accounts -
accounts may be classified into two major root categories: balance sheet and income
statement accounts.

1. Balance sheet accounts - refer to accounts that appear on the balance sheet

 Assets (Current Vs Non-current)

 Liabilities(Current Vs Non-current)

 Owners’ equity

2. Income statement accounts - refer to accounts that appear on the income

statement

 Revenues

 Expense
 R
u
les
o
f
D
e
b
it
a
n
d

C
re
d
it-

are conventions/principles for

recording increases and decreases in
an account.

Normal Balance side

An Increase side

A decrease side
 C
h
a
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t

o
f

A
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t
s

Refers to the list of the titles and related identification numbers of

all accounts a business uses for recording its financial affairs

The number of accounts to be maintained and the numbering

system to be used depends upon the nature and size of a business

For instance, numbers “1”, “1” and “2” in the account number 112
for Accounts Receivable may indicate that Accounts Receivable is
an asset account, its subdivision within the asset group is current
and lies in the second position within current assets subdivision,
respectively.
 Account
Number Name
Balance Sheet Accounts
100 Asset
111 Cash
112 Accounts Receivable
121 Buildings
200 Liability
211 Accounts Payable
221 Mortgage Notes Payable
300 Owner’s Equity
301 Alemu, Capital
302 Alemu, Drawing
303 Income Summary
Income Statement Accounts
400 Revenue
401 Fees Earned
402 Interest Income
500 Expense
501 Salary Expense
502 Utility Expense
 Ledger

Ledger refers to a kind of folder/ring binder

used to arrange and put in one place all
accounts used by a business. Accounts are
placed in the ledger in sequence and each
account may take one or more pages of the
ledger
 Journals
Journal, also called the book of original entry, refers to a business

document where effects of business transactions on specific elements of

the financial statements are recorded in or copied from source

documents

Transactions are recorded in the journal chronologically (i.e. in order of

their occurrence) based on the rules of debits and credits and the

double-entry accounting system.

Double-entry accounting refers to the system of recording the dual,

called debit and credit, effects of business transactions.

 Double-Entry Accounting

A system of recording transactions in a way

that maintains the equality of the accounting
equation.

Assets = Liabilities + Owners’ Equity

or

A = L + OE
56
 Double-Entry Accounting Facts
 For every transaction, there must be at

least one debit and one credit.

 Debits must always equal credits for each

transaction.

 Debits are always entered on the left side

of an account and credits are always

entered on the right side.

57
 The Steps of the
Section 6.1 Accounting Cycle
The Accounting Cycle

The Accounting Cycle

accounting cycle
Activities performed in an
accounting period that help the
business keep its records in an
orderly fashion.

Home
GLENCOE ACCOUNTING
 The Steps In The Accounting Cycle
1. Analyze source documents & record business transactions in a journal
2. Post journal entries to the ledger accounts
3. Prepare unadjusted trial balance (TB)
4. Journalize and post end of period adjustments (EOPA)
5. Prepare adjusted Trial Balance
6. Prepare /Create financial statements
7. Prepare the post-closing trial balance
 Detailed Steps in the Accounting Cycle
Analyze Business
Journalize transactions in Prepare unadjusted trial
Transactions. Post entries to the
the journal. balance.
accounts in the ledger.

Post-closing trial balance

Prepare financial Journalize and post

Prepare adjusted trial adjusting entries
Journalize and post closing statements.
balance.
entries
1. Analyze source documents & record business
transactions in a journal

Step 1 Step 2 Step 3

Collect and Journalize

Analyze each
verify source each
transaction.
documents. transaction.
 The Steps of the
Accounting Cycle
The Accounting Cycle

Commonly Used Source Documents

Invoice Receipt

Memorandum Check stub

source document
A paper prepared as the evidence that a transaction occurred.

Home
GLENCOE ACCOUNTING
 The Steps of the
Section 6.1 Accounting Cycle
The Accounting Cycle

Commonly Used Source Documents

Invoice Receipt

Memorandum Check stub

invoice
A source document that lists the quantity, description, unit
price, and total cost of the items sold and shipped to a buyer.
Home
GLENCOE ACCOUNTING
 The Steps of the
Section 6.1 Accounting Cycle
The Accounting Cycle

Commonly Used Source Documents

Invoice Receipt

Memorandum Check stub

receipt
A source document that serves as a record of cash received.

Home
GLENCOE ACCOUNTING
 The Steps of the
Section 6.1 Accounting Cycle
The Accounting Cycle

Commonly Used Source Documents

Invoice Receipt

Memorandum Check stub

memorandum
A brief written message that describes a transaction that
takes place within a business.
Home
GLENCOE ACCOUNTING
 The Steps of the
Section 6.1 Accounting Cycle
The Accounting Cycle

Commonly Used Source Documents

Invoice Receipt

Memorandum Check stub

check stub
A source document that lists the same information that
appears on a check and shows the balance in the checking account before and after each check
is written.
Home
GLENCOE ACCOUNTING
The Steps of the
Accounting Cycle
The Accounting Cycle

Step 1 Step 2 Step 3

Collect and Journalize

Analyze each
verify source each
transaction.
documents. transaction.

Determine the debit and credit portions of each transaction by analyzing the source document.
In the real world, you must examine this document to determine what happened in a business transaction.
 The Steps of the
Section 6.1 Accounting Cycle
The Accounting Cycle

Step 1 Step 2 Step 3

Transactions
Collect and are entered into
Analyze each
verify source a journal.
transaction.
documents. This is
journalizing.

journal
A chronological record of the transactions of a business.

journalizing
The process of recording business transactions.
 Journalizing
- refers to the process of recording business transactions in journals

Two Columns of the General Journal

The left column for The right column for recording

recording debits credits

general journal
An all-purpose journal in which all the transactions of a business may be recorded.
Recording a General
Journal Entry
Recording Transactions
in the General Journal

Seven steps to determining each journal entry

Identify the accounts affected.

Classify the accounts affected.

Determine the amount of increase or decrease for each account affected.

Determine which accounts are debited and for what amount.

Determine which accounts are credited and for what amount.

Determine the complete entry in T-account form.

Determine the complete entry in general journal entry form.

 Recording a General
Journal Entry
Recording Transactions
in the General Journal

Here is an example showing the analysis of a business transaction and its general journal entry:

Business Transaction

Zip issued a $3,000 check to purchase a computer system.

 Question 1

Describe the general journal entry for the following event.

On January 16, 20-- On Time Delivery issued Check 243 to Comfort Space for $4,000 to buy office furniture.

20--
Jan. 16 Office Furniture 4 0 0 0 00
Cash in Bank 4 0 0 0 00
Check 243

(continued)
 Question 1

First record the date in the Date Column.

20--
Jan. 16

(continued)
 Question 1

Then record:
the account debited in the Description column.
the amount of the debit in the Debit column.

20--
Jan. 16 Office Furniture 4 0 0 0 00

(continued)
 Question 1

Then record:
the account credited in the Description column. The account name is indented under the debit account name.
the amount of the credit in the Credit Column.

20--
Jan. 16 Office Furniture 4 0 0 0 00
Cash in Bank 4 0 0 0 00

(continued)
 Question 1

Finally, in the Description column, record:

an explanation. Indent the explanation under the credit account name.

20--
Jan. 16 Office Furniture 4 0 0 0 00
Cash in Bank 4 0 0 0 00
Check 243
 Posting

• Posting refers to the process transferring monetary amounts of debit

and credit entries from the general journal to the accounts in the ledger

which are affected by the debit and credit entries.

• The purpose is to classify and summarize transactions and events

affecting specific elements of the financial statements and determine

account balance
 79

Determine Account Balances and Prepare a Trial

Balance

 Determine the account balance for each

Account.

 Prepare a Trial Balance, which is a listing

of all account balances. It provides a
means to assure that debits equal credits.
 Types, and Purpose
Three types:

Unadjusted Trial Balance - prepared before account balances are adjusted

Adjusted Trial Balance - prepared after account balances are adjusted

Post-closing Trial Balance - prepared after temporary accounts are closed.

Purpose –

Regardless of its type, trial balance is prepared in order to check whether total
dollar amounts of debits and credits recorded in the general ledger accounts
are equal. If the total debit and total credit are equal, the ledger is said to be
in balance.
Preparing a Trial Balance

List the ledger account balances in two columns

on the trial balance
◦ Left column = Debits
◦ Right column = Credits

Trial balance proves DR = CR

 The Balancing of Accounts & The Trial Balance

The rules to prepare the Trial Balance:

Total Debit Entries = Total Credit Entries

Debit Credit
Assets Income/ Revenue
Expenses Liabilities
Drawings Capital
 The Balancing of Accounts & The Trial Balance

Steps to preparing the Trial Balance:

1) Balance/cast ALL the ledger accounts in the books.

2) List all the Debit balances on the debit side and add them
up.

3) List all the Credit balances on the credit side and add them
up.

4) Ideally the trial balance should balance after step 3

The Balancing of Accounts & The Trial Balance

What if the trial balance shows unequal debit and credit balances?

If the columns of the trial balance are not equal, there must be an error in
recording or processing the transactions.

4 Errors revealed by the trial balance:

The errors revealed are those errors which cause the Trial Balance totals to
disagree. (i.e do not balance)

There are FOUR types of errors revealed by a trial balance:

1) Posting to the wrong side of an account.

2) Errors in calculation and balancing

3) Incorrect amounts entered on one entry

4) Omission of one entry.

 Adjustments / Adjusting Entries

Adjusting entries are required at the end of each

accounting period for accrual-basis accounting, prior to
preparing the financial statements. The purpose for
adjusting entries are to:
 Bring balance sheet accounts current.

 Reflect proper amounts of revenues and

expenses on the income statement.

85
 Accrual Vs Cash basis of accounting

Accrual Concept - This principle requires, among other things, that revenues and expenses should be recorded
in the accounting period in which goods and services are sold and delivered to customer and goods and
services are consumed, respectively, without regard to when cash is collected from the revenues and when
cash is paid for the expenses.

This method of recording and reporting revenues and expenses is called accrual basis of accounting.

Under the accrual basis of accounting, net income (loss) will be the difference between revenues earned and
expenses incurred in a given accounting period.

The accrual basis of accounting requires that, by the end of an accounting period, revenues earned but not
collected in cash and expenses incurred but not paid in cash should be identified and recorded. This too is
done through the adjusting process.
Another alternative way for recording and reporting revenues and
expenses is the cash basis of accounting.

According to this basis of accounting, revenues are recorded and reported

only when collected in cash and expenses are recorded and reported only
when paid in cash.

Under this accounting basis, net income (loss) for a given accounting is
determined by comparing revenues collected in cash and expenses paid in
cash in that particular accounting period.
Tips Regarding Adjusting Entries
 Adjusting entries always incorporate a balance sheet account
and an income statement account.

 Adjusting entries never involve a cash account.

88
 Most Common Adjusting Entries

1. Unrecorded Revenues--Revenues that have been earned but not yet

recorded.

2. Unearned Revenues--Revenues that have been recorded but not yet earned.

3. Unrecorded Expenses--Expenses that have been incurred but not yet

recorded.

4. Prepaid Expenses--Expenses that have been recorded but not yet incurred.

5. Adjustment for Plant Assets, And Bad Debt Expense

Three-Step Process for Adjusting Entries
 Identify the original entries that were made, if any. (Original

entries are only made for unearned revenues and prepaid

expenses.)

 Determine what the correct balances should be at this point in

time.

 Make the adjustments needed to correct the balances.

90
 Example: Accrued Expenses
At the end of the fiscal period, Rosi, Inc., had accrued
salaries and wages totaling $2,150.

Adjusting Entry
12/31 Salaries and Wages Expense 2,150
Salaries Payable 2,150
To record accrued salaries and
wages.

91
 Example: Accrued Revenues
Rosi, Inc., holds a note receivable from a customer on
which interest totaling $250 has accrued.

Adjusting Entry
12/31 Interest Receivable 250
Interest Revenue 250
To record accrued interest on a
note receivable.

92
 Example: Prepaid Expenses
Rosi, Inc.’s trial balance shows that the asset account
Prepaid Insurance has a balance of $8,000. By December
31, only $3,800 applies to future periods.

Adjusting Entry
12/31 Insurance Expense 4,200
Prepaid Insurance 4,200
To record expired insurance.

$8,000 - $3,800

93
 Example: Deferred Revenues
Rosi, Inc., receives a payment of $2,550 from a customer
prior to the services being rendered. By December 31,
$2,075 in services have been provided.

Original credit to a revenue account.

$2,550 - $2,075

Adjusting Entry
12/31 Rent Revenue 475
Unearned Rent Revenue 475
To record unearned rent revenue.

94
 Example: Deferred Revenues
Rosi, Inc., receives a payment of $2,550 from a customer
prior to the services being rendered. By December 31,
$2,075 in services have been provided.

Original credit to a liability account.

Adjusting Entry
12/31 Unearned Rent Revenue 2,075
Rent Revenue 2,075
To record rent revenue
($2,550 - $475).

95
 Preparing Adjusted Trial Balance and Financial
Statements

• After all transactions have been recorded, a trial balance prepared, and
adjusting entries made, the financial statements are prepared.

Record Prepare Trial Make Prepare

Trans- Balance Adjusting Financial
actions Entries Statements

96
 Closing Nominal Accounts

 Real accounts are permanent accounts not closed to a zero balance at the end of

the accounting period. These accounts are carried forward to the next period.

 Nominal accounts are temporary accounts that are closed to a zero balance at

the end of each accounting period.

 Closing entries reduce all nominal accounts to a zero balance.

 The Closing Process
Revenues
xxx

Since the revenue account is a nominal account,

it is closed at the end of the period by debiting its
balance and crediting income summary

98
 The Closing Process

Expenses

The expense account is credited in

xxx order to close the account at the
end of the period.

99
 The Closing Process

The withdrawal account, which is also nominal, is

credited to close out the balance.

Bal. xxx xxx

100
 Post-Closing Trial Balance

Provides a listing of all real account balances at the end of the closing
process.

The trial balance assures that total debits equal total credits prior to the
beginning of the new accounting period.

Only real accounts will have a balance at this time.

101
 Comprehensive Illustration
Use the data given for Matref consulting in chapter
two to illustrate the whole accounting cycle
End of the
Session!
 sti
ng
Chapter Four
Ac
cou
nti
ng:
An
Ov
erv
iew
Introduction
Every business is run to make a profit to its owners. Profit is
the amount of income left after the various costs of
operation have been deducted. In general, higher cost
means smaller profit, and lower cost means larger profit.
No wonder successful manager keeps a close watch on
costs: it is necessary for survival. Cost accounting provide
the tool that management needs to monitor costs
Functions of Cost Accounting

Ascertainment of Cost

Controlling Cost

Aid to Management

Setting up Selling Prices

Inventory Control

Measurement of Efficiency

Disclose Profitable and non-profitable Activities

Financial, Management, and Cost Accounting

Accounting, as an information system, can be divided in to three: Financial

accounting, management accounting, and cost accounting.

Financial accounting provides information to external users.

Management accounting on the other hand, measures and reports

financial information as well as other types of information that assists
managers in fulfilling the goals of organization’s operations.

Cost accounting reports financial and other information related to the

organization’s acquisition and consumption or resources. It provides the
information for both management accounting and financial accounting
Classification of Cost
Different cost concepts and classifications are used for different purposes. Understanding these
concepts and classifications enables the management to identify cost information that suits particular
decision item at hand. In practice, the following classifications are used extensively. The classifications
are based on the following

1. Relationship of the cost to the product

2. The department where the cost is incurred

3. The major functional areas

4. Relationship of the cost to the production process

5. The period to which the cost is charged to income

6. Relationship of the cost to volume of production

7. The ability to be traced

Classification of Cost ……. Cont’d
1. Based on the Relationship of the Cost to the Product

Materials: - are the principal substances used in productions that are transformed in to finished
goods by the addition of direct labor and factory over head. The cost of materials may be classified
in to: direct material and indirect material costs .

Labor: - is the physical and/or mental effort expended in the production of a product. Labor cost is
divided in to direct and indirect

Factory Overhead: - It consists of all manufacturing costs other than direct material and direct labor
costs. It is an all-inclusive cost pool used to accumulate all indirect manufacturing costs, which
cannot be directly identified with specific cost object. Factory overhead is sometimes called
manufacturing overhead, factory burden, and indirect manufacturing expense
FOH cost = IDM + IDL + other indirect manufacturing costs
Manufacturing cost = Direct material + Direct labor + FOH
Classification of Cost ……. Cont’d

2. Based on the Department Where the Cost is Incurred

Producing department cost: - are costs incurred in in departments that

contribute directly to the production of the item

Service department costs: - are costs incurred in departments which are

not directly related to the production of the item but provide services to
other departments. The cost of maintenance, accounting, health and other
departments are considered as non-manufacturing or service costs
Classification of Cost ……. Cont’d

3. Based on Major Business Function

Manufacturing costs: - are costs related to the manufacturing or production

process of an item. It is the sum of direct material, direct labor and factory
overhead

Marketing costs are costs incurred in promoting or selling a product or service.

Administrative costs: - are costs incurred in directing, controlling, and

operating a company.

Financing costs: - are costs related to obtaining, controlling and operating a

company.
Classification of Cost ……. Cont’d

4. Based on Relation of the Cost to the Production Process

◦ Prime costs: - are costs which are directly related to the production of a product.

◦ Conversion costs: - are called processing costs, are costs incurred to transform direct
material into finished products.

The following equation can be determined from the above cost type

Prime cost = DM + DL
Conversion cost = DL + FOH
Manufacturing cost = DM + DL + FOH
= Prime cost + conversion cost – DL cost
Classification of Cost ……. Cont’d

5. Based on the Period to Which the Cost Is Charged To Income

◦ Product costs: - are costs directly and indirectly identifiable
with the product. These costs provide no benefit until the
product is sold and are therefore inventoriable, i.e, it is part of
the finished product.
◦ Period costs: - are neither directly nor indirectly related to the
product. They are expensed (charged against revenue)
immediately and therefore non-inventoriable.
Classification of Cost ……. Cont’d

6. Based on the Relationship of the Cost to the Volume of

Production

Variable costs: - are costs that change in direct proportion to changes in

volume of product, whereas the unit cost remains the same.

Fixed costs: - are costs that remain constant over relevant range of output,
whereas the fixed cost per unit varies inversely with output.

Mixed cost: - these are costs that contain both fixed and variable
characteristics over various relevant range of operation. Electric bill can be
an example
Classification of Cost ……. Cont’d

7. Based on the Ability to be Traced

Direct costs: - are costs that management is capable of tracing them to

specific items or areas in an economically feasible way. Direct material and
direct labor costs are examples of direct cost of products.

Indirect costs: - are costs that are common to many items and are
therefore not directly traceable to any specific item. For a product indirect
material, indirect labor, other FOH costs are indirect costs. There are two
reasons why a cost would be considered indirect: - either it is impossible or
it is impractical to trace the cost to the cost object
Cost flow in Manufacturing following physical flow

Procurement: - purchase of materials, labor, and overhead are recorded as a debit to raw
materials, factory payroll clearing and manufacturing overhead control..

Production: - costs of material, labor, and overhead transferred into production are
debited to work – in - process. As the goods are finished and moved from the factory
floor, their cost is removed from the work-in-process account by a credit and charged
(debited) to finished goods.

Warehousing: - the costs of finished goods that are transferred from work-in-process are
recorded as a debit to finished goods.

Selling: - As finished goods are sold and shipped from the warehouse, their cost is debited
to cost of goods sold.
Cost flow in Manufacturing following physical flow

Sold goods inventory manufactured goods inventory

ii) Cost of goods = Beginning WIP + Current Manufacturing - Ending WIP

Manufactured Inventory Cost Incurred Inventory

iii) Cost of direct = Cost of beginning + Cost of purchased - Cost of ending direct
Materials used direct materials direct materials materials inventory
Inventory inventory
 Illustrative Activity

Use illustrative case in the

course Material
Application of Factory Overhead

The total overhead assigned to actual production at any point in time is

called applied overhead. Applied overhead is computed using the following
formula
Applied Overhead = Overhead Rate x Actual Production Activity

In attempting to understand the concept of applied overhead, there are

two points that should be emphasized.

1. Applied overhead is the basis for computing per-unit overhead cost.

2. Applied overhead is rarely equal to a period’s actual overhead.

Under or Overapplied Overhead

The difference between actual overhead and applied overhead is

called an overhead variance. If actual overhead is greater than

applied overhead, the variance is called underapplied overhead if

applied overhead is greater than actual overhead, the variance is

called overapplied. Overhead variances occur because it is

impossible to perfectly estimate the future overhead costs and

production activity.
Disposition of Overhead Variance

Disposition of Overhead Variances

From an actual costing perspective, the overhead variance represents an

error in assigning overhead cost to production. At the end of reporting
period, something must be done with the overhead variance. Usually, the
variance is disposed of in one of the following two ways:

All overhead variance is allocated to cost of goods sold.

The overhead variance is allocated among work in process, finished goods

and cost of goods sold.
 Illustrative Activity

Use illustrative case in the

course Material
End of the
Session!
Chapter Five
Cost Behavior and CVP
Analysis
 Learning Objectives
By the end of this lesson, learners can be able to:

Distinguish between fixed, variable, and mixed costs

Determine the break-even level of activity as well as the break-even level of revenue

Determine the target level of sales in unit and in value needed to achieve a desired profit
target

Determine the margin of safety to see how risky a particular venture is

Apply sensitivity analysis to consider risk and uncertainties in CVP analysis

Understand the limitations of CVP analysis

 Cost classification based on change in volume
of activity
costs that change in direct proportion to changes in volume of

Variable Cost activity, whereas the unit cost remains the same

--------------------------------

Fixed Cost costs that remain constant over relevant range of activity, whereas
the fixed cost per unit varies inversely with output
-----------------------------------
costs that contain both fixed and variable characteristics over

Mixed Cost various relevant range of operation. Managers need to separate

mixed costs into fixed and variable components for decision making
purposes and include fixed portion of mixed costs with other fixed
costs and variable portion of mixed costs with other variable costs.
 What is CVP Analysis?

The fixed cost-variable cost classification is important in

short-term planning, and the technique used to study the
interrelationship between such costs, the sales, and profit is
known as cost-volume-profit analysis.

It shows the net effect that fluctuations in costs, price and

volume has on profits.
 Terminologies
Terminologies Explanation

Volume  some measure of profit-generating activity such as sales in

unit, production in unit …..
--------------------------------
 Sum of operating fixed cost and operating variable costs
Operating Costs (Operating Cost = Variable Cost + Fixed Cost)

---------------------------------
Operating Revenue  Synonymously used with the term sales or service revenue
-----------------------------------
Operating Profit  Operating Profit (income) = Operating Revenue – Operating Costs
-------------------------
Net Profit
 Net Income = Operating Income – Income Tax
 Contribution Margin Vs. Gross Margin
-------------------------------
Gross Margin
---------------------------------
___________________
Contribution
Margin
-------------------------
The form of income
statement to be used in CVP
Is a simple difference analysis will be prepared
between gross revenue and using contribution margin
gross cost of sales approach rather than the
usual gross margin approach
Is the difference between because gross margin
revenue and variable costs approach does not indicate
clear distinction between the
fixed and variable costs in
the performance analysis
 Contribution Margin Approach….
Unit Contribution margin = Unit selling price – Unit variable cost
Or
Total Contribution Margin / Total Quantity (Volume of Activity)

Contribution Margin Ratio = Total Contribution Margin / Total Sales Revenue

Or
Unit Contribution Margin / Unit Selling Price

The break-even point is that the quantity of outputs sold where the total
revenue equals the total costs. It is a point where total contribution margin
equals total fixed expenses. Stated differently, it is a point where the operating
income is zero.
 Break-even Point
Break-even quantity = Fixed cost / Unit Contribution margin

Break-even revenue = Fixed cost / Contribution margin ratio

Or
Break-even quantity x unit selling price
 

Illustrative Case
Assume the following summarized particulars for a firm selling a single product.
Fixed costs (total) (b) .................................. Br. 200,000
Selling price per unit (p).............................. 60
Variable cost per unit (a)............................. 40
Required: Compute: (a) UCM (b) CMR (c) Break-even quantity (d) Break-even
revenue
Note: Use equation approach as well as formula approach
 Sensitivity “What If” Analysis
In the context of CVP, sensitivity analysis answers
Sensitivity analysis is a such questions as,
“what if” technique
what will operating income be if the output level
that examine how a
result will change if the decreases by a given percentage from the original
original predicted data reduction?
are not achieved or if And what will be operating income if variable
an underlying costs per unit increase?
assumption changes.
  The sensitivity analysis to various possible outcomes
broadens managers’ perspectives as to what might
actually occur despite their well-laid plans
 
 Activity

Use the case in the next slide

to illustrate sensitivity analysis
Zena Concepts, Inc., was founded by Zemenu Adugna, a graduate student in engineering, to
market a radical new speaker he had designed for automobiles sound system. The company’s
income statement for the most recent month is given below:
Total Per Unit
Sales (400 speakers) Br.100, 000 Br.250
Variable expenses 60, 000 150

Contribution margin 40, 000 Br.100

Fixed expenses 35, 000
Net income Br.5, 000

The senior accountant at Zena Concepts, wants to demonstrate the company’s president how the
concepts can be used in planning and decision-making. To this end, the accountant used the
above data to show the effects of changes in variable costs, fixed costs, sales, and sales volume
on the company’s profitability.
Required:

a) The sales manager feels that a Br.10,000 increase in the monthly advertising budget would
increase monthly sales by Br.30, 000. Should the advertising budget be increased? Why?
b) Management is contemplating the use of high- quality components, which would increase
variable costs by Br.10 per speaker. However, the sales manager predicts that the higher
overall quality would increase sales to 480 speakers per month. Should the higher quality
component be used? Why?
c) The management manager is contemplating to increase selling price by Br 20 per speaker
and increase the advertising budget by Br 15, 000 per month. The sales manager argues that
if these two steps are taken, unit sales will increase by 50%. Should the change be made?
 Target Profit Analysis

Managers use CVP Target Quantity of Sales = (Fixed cost + Target Operating Profit) / UCM
analysis to
determine sales
volume needed to
achieve a desired Target Sales Revenue = (Fixed Cost + Target Operating Income) CMR
profit called target
or planned profit Or
Target Quantity of Sales x unit selling price
 Activity

Use illustrative case in the

next slide to determine
target sales level
Tantu Company manufactures and sales a single product. During the year just ended the
company produced and sold 60,000 units at an average price of Br.20 per unit. Variable
manufacturing costs were Br 8 per unit, and variable marketing costs were Br 4 per unit sold.
Fixed costs amounted to Br. 180,000 for manufacturing and Br.72, 000 for marketing. There was
no year-end work-in-progress inventory. Ignore income taxes.
Instructions:
a) Compute Tantu’s breakeven point (BEP) in sales birrs for the year.
b) Compute the number of sales units required to earn a net income of Br 180,000 during
the year
c) Tantu’s variable manufacturing costs are expected to increase 10 % in the coming year.
Compute the firm’s breakeven point in sales birrs for the coming year. If Tantu’s variable
manufacturing costs do increase 10 %, compute the selling price that would yield the
same CM-ratio in the coming year.
 The Margin of Safety

Total sales - Break even Sales = Margin of safety

The margin of safety
is the excess of Margin of safety in birrs = Margin of safety ratio
budgeted (or actual) Total sales
sales over the
breakeven volume of
sales.
 Utility of CVP analysis

Cost-Volume-
 It is a simple device to understand accounting data
Profit analysis if
the most useful
 It is a useful diagnostic tool: - It indicates to the
technique for
profit planning management the causes of increasing break-even
and control. Its
point and falling profits.
Utility lies in the
following  It provides basic information for further profit
advantages
improvement studies
End of the
Session!
Chapter Six
Relevant Information and
Short-term Decision
 Learning Objectives
By the end of this lesson, learners can be able to:
 Understand the meaning of relevant information, and
the role of accounting in special decisions

 Identify relevant costs and benefits

 Use relevant information analyze special decisions

 The Role of Accounting Information in Management Decisions

Decision making process begins when a problem or a need

arises and follows through the steps of identifying,
evaluating, and choosing among future alternative courses
of action. To follow through these steps, managers need
supporting information so as to be guided to the best
course of action. Among the information managers need,
accounting data play a significant role.
 The Meaning of Relevance
Information is considered relevant when it possesses the
capacity to influence or direct managerial decision. The two
key aspects for relevance are: for cost and revenue
information to be relevant,

The cost or revenue must occur in the future.

The cost or revenue must differ among the alternative

courses of action.
 Importance of Identifying Relevant Costs and Revenues

 Generating information is a costly process, and the process can

be made short by focusing on only the relevant information.

 People can effectively use only a limited amount of

information because the likelihood of information overload
can be reduced by providing only information about relevant
costs and benefits.
 Sunk Cost, Opportunity Cost, and Differential Cost

Sunk Cost Sunk costs are all costs incurred in the past that cannot be changed by any
------------------ decision made now or in the future. It is irrelevant cost

Opportunity An opportunity cost is the potential benefit given up when the choice of
Cost one action precludes the selection of a different action. It is relevant for
___________ decision
Differential
Cost Differential cost is the difference in a cost under two decision alternatives.
------------------ It is relevant cost for decision
 Analysis of Special Decisions
A. Accept Or Reject One-time Special Order
The phrase “one time-only special order” high lights the point that
special orders are assumed to be short-term business that do not affect
regular business. Hence, the following conditions must be met
1. There should be exist an idle capacity, which otherwise cannot be
used profitably.
2. Before following discriminating pricing policy, ensure that the
customer is in different market
3. The order must have no long-run implication
 Analysis of Special Decisions……Cont’d…

A. Accept Or Reject One-time Special Order

Use variable costing / contribution margin approach, and
compare only incremental revenues and incremental costs in
analyzing the financial implications of accepting one-time
special order.
Use the illustration in the course material for further
understanding
 Illustrative Activity

Use illustrative case in the

course Material
 Analysis of Special Decisions… cont’d
A. Accept Or Reject One-time Special Order
The phrase “one time-only special order” high lights the point that special
orders are assumed to be short-term business that do not affect regular
business. Hence, the following conditions must be met
1. There should be exist an idle capacity, which otherwise cannot be
used profitably.
2. Before following discriminating pricing policy, ensure that the
customer is in different market
3. The order must have no long-run implication
If incremental benefit exceeds incremental cost, one-time special order is accepted
 Analysis of Special Decisions…cont’d
B. Outsourcing and Make-Versus-Buy Decisions
 Outsourcing is the process of purchasing goods and services from outside (or
suppliers) rather than producing the same goods or providing the same
services within the organization.
 Insourcing is the process of producing goods or providing services within the
organization rather than purchasing the same goods or services from outsides
suppliers.
 Cost is a major factor in making decision about outsourcing and insourcing.
 Decisions about whether a producer of services or goods will insource or
outsource are also called Make-or-Buy Decisions.
 Analysis of Special Decisions…cont’d

B. Outsourcing and Make-Versus-Buy Decisions

Sometimes qualitative factors are considered in making such decisions
rather than costs because:
 The company may not have the know-how and the technology to
produce.
 The company wants to maintain the long-term relation with its
existing suppliers.
 In some cases, the company wants to produce its parts in order to
retain control of the product and technology.
 Analysis of Special Decisions…cont’d
B. Outsourcing and Make-Versus-Buy Decisions
In dealing with make-or-buy decisions, the manager has to consider whether idle
facilities exist. If idle facilities exist, the manager has the following options
 Make the parts using the idle facilities
 Buy and leave idle facilities unused
 Buy and rent idle facilities
 Buy and use the idle facilities for other purposes. (Revenue generating
purposes)
Incremental cost of making and incremental cost of buying are compared to
make decision in favor of the least costly alternative
 Illustrative Activity

Use illustrative case in the

course Material
 Analysis of Special Decisions…cont’d
C. Add or Drop a Service, Product, or Department
In decisions relating to addition or dropping of products or departments
too, both the quantitative and qualitative factors should be thoroughly
considered before the final decision is reached. The qualitative factors may
include such issues as:
 the effect of the decision on other segments or product lines,
 the effect of the decision on customers’ of the segment or product line,
 the ultimate effect if employees are displaced or fired from the product
line or segment.
 Analysis of Special Decisions…cont’d
C. Add or Drop a Service, Product, or Department
In decisions relating to add or drop a product, service, or department, the
manager has to identify between avoidable costs and unavoidable costs.
 Unavoidable costs will continue to be incurred even if the product, service, or
department is dropped.
 Avoidable costs will no longer be incurred if a particular action is taken.
Unavoidable costs are irrelevant to the decision to delete or add a product,
service, or department.
The decision will be to drop a product, or service or a department if cost can be
saved by doing so or if the benefit from dropping exceeds the benefit from
continuing.
 Illustrative Activity

Use illustrative case in the

course Material
a
l

DD. Product Mix Decisions under Capacity Constraints

eWhen a multiple product plant is being operated at full capacity,
c
decision must be made as to which products to make and in what
i
squantities. These decisions frequently have a short run focus.
iThe product to be emphasized is not necessarily the product with
o
nthe higher individual contribution margin per unit or contribution
smargin percentage. Managers should aim for the highest
…contribution margin per unit of the limiting factor or scarce
c
oresources.
 Illustrative Activity

Use illustrative case in the

course Material
a
l
E. Sell or Process Further Decision
D
e Businesses are often faced with the decision to sell partially completed
c products at the split-off point or to process them to completion. The main
i product that comes out at the split-off point may be sold at split off point or
s can be further processed so that more revenue can be generated.
i Joint costs are irrelevant to making a decision to selling at split off or further
o process the product.
n The relevant costs and benefits are: Separable costs, and additional (or
s
incremental) revenue.
…
cThe general decision rule is to process further only if incremental revenues are
ogreater than incremental costs
 Illustrative Activity

Use illustrative case in the

course Material
End of the
Session!