- •Lecture Notes b.Devlin
- •Introduction
- •Management accounting
- •1 Financial accounting.
- •2 Management accounting
- •To provide information about product costing to be used in financial
- •To provide information for planning, controlling and organising.
- •To ascertain the cost of a product. This information is used to value stock which is required for external reporting .
- •To assist management in the decision-making process.
- •Marginal costing
- •Decision making
- •In the short-run all fixed costs remain unchanged and therefore treated as irrelevant.
- •Variable overhead
- •2 Shut-down decisions
- •3 Make or Buy
- •Variable overheads £2
- •Variable cost of production £7
- •Variable overhead £2
- •4 Limiting factor decisions
- •5 Profit Planning or cost profit volume analysis
- •Cost volume profit analysis
- •It is possible to ascertain these by using a break-even chart or by using formulae.
- •Budgeting
- •1. Sales Budget 19x0
- •Production budget 19x0
- •3. Materials Usage Budget 19x0 (Component usage)
- •4. The Material Purchase Budget 19x0
- •Cash summary December 19x0
- •Depreciation never appears in a cash budget as it is a non-cash expense.
- •In respect to credit transactions time lags have to be built into the cash budget
- •It is useful to have a memo column to record items which will appear in the balance sheet if required. Budgeted Profit and Loss Account for six months ending 30 June 19x1
- •Budgeted Balance Sheet as at 30 June 19x1
- •Investment appraisal methods
- •1 Payback
- •2 Accounting rate of return
- •Investment appraisal compares the cash outflows with the cash returns from the project and these cash flows take place over a lengthy period of time.
- •3 Net Present Value
- •6 Profitability Index
- •The costing
- •Overheads
- •Indirect materials used in Dept. B £35,000
- •Insurance of machinery £5,000
- •In the absorption stage an overhead recovery (absorption) rate (oar) is calculated. The formula used is:
- •30,000 Machine hrs.
- •35,000 Labour hrs.
- •In recent years there has been criticism of the traditional system of costing for overheads ( Kaplan & Cooper ). Traditional cost systems were designed when:
- •Information processing costs were high;
- •Inspection cost:
- •Standard costing
- •Variances represent the differences between standard costs and actual costs. The standard cost is what the cost is estimated to be and this is compared to what the cost is actually.
- •Variable Overhead Variance
- •Variable overhead efficiency variance
- •Responsibility accounting
- •It is a ‘ system of accounting that segregates revenues and costs into areas of personal responsibility in order to assess the performance attained by persons to whom authority has been assigned’.
- •Net Residual Income
6 Profitability Index
In the case where a company has a number of alternative projects and has limited resources it is useful to find a way of ranking these in relation to their potential profitability. The method is to divide the discounted cash flows by the initial cost of the project.
Profitability index for project X = £120410
----------- = 1.2
£100,000
For every £1 invested £1.2 worth of cash flow is generated.
The costing
OF
Overheads
Lesson 5 Absorption Costing
Definition: Overheads are expenses other than direct expenses. They include indirect materials, indirect labour and other indirect expenses. The prime costs - direct wages cost and the cost of materials consumed can be easily ascertained and charged to a job or process. However, many costs are incurred so that the business can operate eg. rent, rates, depreciation, heat and light etc. The technique for charging overheads to products, jobs or processes is called absorption costing. Absorption costing is concerned with the type and nature of costs rather than cost behaviour.
There are two main purposes of absorption costing:
(1) to ascertain the cost of a product, job or process.
(2) to assist business with their pricing - a cost plus approach.
Cost analysis consists of the following components
|
Direct materials |
X |
+ |
Direct labour |
X |
+ |
Direct expense |
X |
|
|
-------- |
|
Prime cost |
X |
+ |
Production overheads |
X |
|
|
------- |
|
Production cost |
X |
+ |
Selling & Distribution overheads |
X |
+ |
Administration overheads |
X |
|
|
-------- |
|
Total cost |
X |
|
|
--------- |
It is relatively easy to ascertain the prime cost as they are closely identified with the final product. However it is more difficult to relate the indirect costs - the overheads to the product. Absorption costing is an attempt to achieve this so that overheas can be charged to products.
There are three stages in the absorption costing process- allocation, apportionment and absorption.
Allocation is the process of locating overheads which can be identified with a particular cost centre in that cost centre. Overhead items which cannot be identified with a cost centre but are incurred for the benefit of the entire business must be shared out or apportioned across a number of cost centres. If there are overheads located in non-production or service cost centres they must be re-apportioned to production cost centres. Finally, when all the production overheads are located in production cost centres the final stage of absorbing or recovering the overheads and charging them to a product, job or process.
Example:
The following cost items have been identified in a company with two cost centres Depts. A & B. The floor area of Dept. A is 2,000 sq. ft. and Dept. B is 1,000 sq. ft. The value of machinery used in Dept. A is £1,000 and £4000 in Dept. B.
Salaries of supervisors in Dept. A £40,000