Accounting for Managers

Module 7: Costing Methods

Cost Management
Value Chain

• The value chain is the process of

business functions that add value to
the customer user of a particular
product.
Direct and Indirect Costs

Direct costs are those that are directly attributable or traceable

to the manufacture of a product or performance of a service,
while an indirect cost cannot be directly attributable or
traceable to a product or service.
Job Order Costing
Understanding Job Order Costing

• Different types of businesses use job order costing

• Manufacturing companies use the process to track the products they build, while service
businesses use a job order costing system to invoice clients
Calculating Costs

• Overhead costs can be allocated by determining an overhead rate

• Predetermined overhead rate = estimated total manufacturing cost
• There are four steps to determining the overhead rate
Flow of Costs (Job Order Costing)
Recording Job Order Costs

Every single time product moves or people work, there will be a journal entry to create.
1. The first purchase is of raw materials
2. Raw materials are requisitioned for use in production
3. Labor costs
4. Manufacturing overhead costs
5. Depreciation, property taxes, and insurance.
Process Costing
Job Order Costing vs Process Costing

What is the difference between job order

costing and process costing?
Flow of Costs (Process Costing)

• In process planning we will cost by process

• Start with the basic inputs:
• Raw materials
• Wages
• Manufacturing overhead
• Costing is simpler because you only need to do costing for three departments or processes
Equivalent Unit Calculations

• Equivalent units:
• Equivalent units = number of partially completed units x percentage completed
• Two ways to calculate the the equivalent units of production for a department or process:
1. Weighted average
2. FIFO
Cost Reconciliation

• When using the same data, you will end up with different units of production quantity when
using the FIFO and Weighted Average methods.
• In order to reconcile this difference, work in progress (WIP) costs need to be adjusted
accordingly.
Direct and Step-Down Methods
Direct and Step-Down Methods (cont.)

• Direct method:
• Most commonly used method of allocation
• ALL of the services from the service department are allocated to the operating departments
• Allocation can be done employee hours, square footage, etc.
• Step-Down method:
• More complicated
• Takes into account the services that one service department offers another
• Human resource costs are allocated between custodial and all the operational processes
Cost Accounting Methods
Activity-Based Costing

• Activity-based absorption costing assigns all manufacturing overhead costs to products

based on the activities performed to make those products.

• Only look at non-direct costs

• More complicated than traditional costing but can give you a much better allocation picture
Traditional Costing vs. ABC

Traditional:
• One rate for allocation for the entire business operation
• Easy to implement; most common
ABC:
• Creates multiple cost pools
• Complicated and difficult to implement
Quick Review

• Why should I be aware of the value chain?

• Managerial accounting ties together all the processes of the value chain
• Direct vs. Indirect costs
• What’s the most efficient way for my business to calculate it’s costs?
• Direct vs. Step-Down Methods
• Traditional Costing vs. ABC
• Which one will help my costs to be most accurate yet also help me stay cost effective?