Presentation on theme: "Inventory Management, Just-in-Time, and Backflush Costing"— Presentation transcript:
1 Inventory Management, Just-in-Time, and Backflush Costing
2 COST ACCOUNTING PERFORMANCE APPRAISAL 18TH FEBRUARY 2010 JOIN KHALID AZIZFRESH CLASSESICMAP STAGE 3COST ACCOUNTING PERFORMANCE APPRAISAL18TH FEBRUARY 2010INDIVIDUAL & GROUPS
3 JOIN KHALID AZIZ ECONOMICS OF ICMAP, ICAP, MA-ECONOMICS, B.COM. FINANCIAL ACCOUNTING OF ICMAP STAGE 1,3,4 ICAP MODULE B, B.COM, BBA, MBA & PIPFA.COST ACCOUNTING OF ICMAP STAGE 2,3 ICAP MODULE D, BBA, MBA & PIPFA.CONTACT:R-1173,ALNOOR SOCIETY, BLOCK 19,F.B.AREA, KARACHI, PAKISTAN.
4 al-jamia BOOK HOUSE MAXIMUM RANGE OF BOOKS ACCA, CAT, CA, ICMAP, PIPFA, CIMA, CISA, CFA, CIA, BBA, B.COM, MBA, M.COM.NIPA CHOWRANGI, NADEEM MEDICAL CENTRE, GULSHAN-E-IQBAL, BLOCK-6, KARACHI, PAKISTAN
5 Identify five categories of costs associated with goods for sale. Learning Objective 1Identify five categories of costsassociated with goods for sale.
6 Costs Associated with Goods for Sale 1. Purchasing costs include transportation costs.2. Ordering costs include receiving andinspecting the items in the orders.3. Carrying costs include the opportunity costof the investment tied up in inventory andthe costs associated with storage.
7 Costs Associated with Goods for Sale 4. Stockout costs occur when an organizationruns out of a particular item for whichthere is a customer demand.5. Quality costs of a product or service is its lackof conformance with a prespecified standard.
8 Balance ordering costs with carrying costs using the Learning Objective 2Balance ordering costs withcarrying costs using theeconomic-order-quantity(EOQ) decision model.
9 Economic-Order-Quantity Decision Model Assumptions 1. The same quantity is ordered at eachreorder point.2. Demand, ordering costs, carrying costs,and purchase-order lead time areknown with certainty.3. Purchasing costs per unit are unaffectedby the quantity ordered.
10 FUNDAMENTALS OF FINANCIAL ACCOUNTING 18TH FEBRUARY 2010 JOIN KHALID AZIZFRESH CLASSESICMAP STAGE 1FUNDAMENTALS OF FINANCIAL ACCOUNTING18TH FEBRUARY 2010INDIVIDUAL & GROUPS
11 Economic-Order-Quantity Decision Model Assumptions 4. No stockouts occur.5. Quality costs are considered only to theextent that these costs affect orderingcosts or carrying costs.
12 Economic-Order-Quantity Decision Model Assumptions The EOQ minimizes the relevant orderingcosts and carrying costs.Video store sells packages of blank video tapes.Video purchases packages of video tapes fromOaks, Inc., at Rs15/package.
13 Economic-Order-Quantity Decision Model Assumptions Annual demand is 12,844 packages, at therate of 247 packages per week.Video requires a 15% annual return on investment.The purchase-order lead time is two weeks.What is the economic-order-quantity?
14 Economic-Order-Quantity Decision Model Assumptions Relevant ordering cost per purchase order: Rs209Relevant carrying costs per package per year:Required annual ROI (15% × Rs15) Rs2.25Relevant other costsTotal Rs5.50
15 Economic-Order-Quantity Decision Model Example EOQ =D = Demand in units for a specified time periodP = Relevant ordering costs per purchase orderC = Relevant carrying costs of one unit instock for the time period used for D
16 Economic-Order-Quantity Decision Model Example EOQ == packages
17 Economic-Order-Quantity Decision Model Example What are the relevant total costs (RTC)?RTC = Annual relevant ordering costs+ Annual relevant carrying costsRTC =DQ×P+Q2×CorDPQ+QC2Q can be any order quantity, not just the EOQ.
18 Economic-Order-Quantity Decision Model Example When Q = 988 units,RTC = (12,844 × Rs209 ÷ 988) + (988 × Rs5.50 ÷ 2)= Rs5,434 total relevant costsHow many deliveries should occur each time period?DEOQ=12,844988=13 deliveries
19 Economic-Order-Quantity Decision Model Example 10,0008,000Annual relevant total costsRelevant Total Costs (Dollars)6,0005,434Annual relevant ordering costs4,000Annual relevant carrying costs2,000600988EOQ1,2001,8002,400Order Quantity (Units)
20 Reorder Point Reorder point = Number of units sold per unit of time × Purchase-order lead timeEOQ = 988 packagesNumber of units sold/week = 247Purchase-order lead time = 2 weeksReorder point = 247 × 2 = 494 packages
21 Demand = 247 tape packages/week Purchase-order lead time = 2 weeks Reorder Point988Reorder PointReorder Point494Weeks12345678Lead Time2 weeksLead Time2 weeksThis exhibit assumes that demand and purchase-order lead time are certain:Demand = 247 tape packages/week Purchase-order lead time = 2 weeks
22 Safety Stock Example Safety stock is inventory held at all times regardless of the quantity of inventoryordered using the EOQ model.Video’s expected demand is 247 packages per week.Management feels that a maximum demand of350 packages per week may occur.
23 Safety Stock Example How much safety stock should be carried? 350 Maximum demand – 247 Expected demand= 103 Excess demand per week103 packages × 2 weeks lead time= 206 packages of safety stock.
24 Considerations in Obtaining Estimates of Relevant Costs What are the relevant incremental costsof carrying inventory?– only those costs of the purchasing companythat change with the quantity of inventory held
25 Cost of Prediction Error Predicting relevant costs requires careand is difficult.Assume that Video’s relevant ordering costis Rs97.84 instead of the Rs209 prediction used.What is the cost of this prediction error?
26 Cost of Prediction Error Step 1: Compute the monetary outcomefrom the best action that could have beentaken, given the actual amount of the cost input.EOQ =EOQ == 676 packages
27 Cost of Prediction Error The annual relevant total costs when EOQ is676 packages is:RTC =DPQ+QC2RTC = (12,844 × Rs97.84 ÷ 676) + (676 × Rs5.50 ÷ 2)= Rs3,718 total relevant costs
28 Cost of Prediction Error Step 2: Compute the monetary outcomefrom the best action based on the incorrectamount of the predicted cost input.EOQ == 988 packages
29 Cost of Prediction Error What are the annual relevant costs usingthis order quantity whenD = 12,844 units, P = Rs97.84, and C = Rs5.50?RTC = (12,844 × Rs97.84 ÷ 988) + (988 × Rs5.50 ÷ 2)= Rs 3,989 total relevant costs
30 Cost of Prediction Error Step 3: Compute the difference betweenthe monetary outcomes from Steps 1 & 2.Step Rs3,718Step ,989Difference Rs (271)The cost of prediction error is Rs271.
31 Identify and reduce conflicts that can arise between EOQ Learning Objective 3Identify and reduce conflictsthat can arise between EOQdecision model and models usedfor performance evaluation.
32 Evaluating Managers and Goal-Congruence Issues The opportunity cost of investment tied upin inventory is a key input in theEOQ decision model.Some companies now include opportunitycosts as well as actual costs whenevaluating managers.
33 JOIN KHALID AZIZ ECONOMICS OF ICMAP, ICAP, MA-ECONOMICS, B.COM. FINANCIAL ACCOUNTING OF ICMAP STAGE 1,3,4 ICAP MODULE B, B.COM, BBA, MBA & PIPFA.COST ACCOUNTING OF ICMAP STAGE 2,3 ICAP MODULE D, BBA, MBA & PIPFA.CONTACT:R-1173,ALNOOR SOCIETY, BLOCK 19,F.B.AREA, KARACHI, PAKISTAN.
34 Just-In-Time Purchasing Just-in-time (JIT) purchasing is the purchaseof goods or materials such that a deliveryimmediately precedes demand or use.Companies moving toward JIT purchasingargue that the cost of carrying inventories(parameter C in the EOQ model) has beendramatically underestimated in the past.
35 JIT Purchasing and EOQ Model Parameters The cost of placing a purchase order(parameter P in the EOQ model) isalso being re-evaluated.Three factors are causing sizable reductionin the cost of placing a purchase order (P).1. Companies increasingly are establishinglong-run purchasing arrangements.
36 JIT Purchasing and EOQ Model Parameters 2. Companies are using electronic links,such as the Internet, to place purchase orders.3. Companies are increasing the use ofpurchase order cards (similar to consumercredit cards like Visa and Master Card).
37 Use a supply-chain approach to inventory management. Learning Objective 4Use a supply-chain approachto inventory management.
38 Supply-Chain Analysis Supply-chain analysis describes the flowof goods, services, and information fromcradle to grave, regardless of whetherthose activities occur in the sameorganization or other organizations.“bullwhip effect” or “whiplash effect”
39 Differentiate materials requirements planning (MRP) Learning Objective 5Differentiate materialsrequirements planning (MRP)systems from just-in-time (JIT)systems for manufacturing.
40 Materials Requirement Planning (MRP) Materials requirements planning (MRP)systems take a “push-through” approachthat manufactures finished goods forinventory on the basis of demand forecasts.MRP predetermines the necessary outputsat each stage of production.
41 Materials Requirement Planning (MRP) Management accountants play key roles inan MRP system, including...– maintaining accurate and timely informationpertaining to materials, work in process,and finished goods, and...– providing estimates of the setup costs for eachproduction run, the downtime costs,and carrying costs of inventory.
42 Identify the features of a just-in-time production system. Learning Objective 6Identify the features of ajust-in-time production system.
43 Just-In-Time Production Systems Just-in-time (JIT) production systems take a“demand pull” approach in which goods areonly manufactured to satisfy customer orders.
44 Major Features of a JIT System 1. Organizing production in manufacturing cells2. Hiring and retaining multi-skilled workers3. Emphasizing total quality management4. Reducing manufacturing lead time and setup time5. Building strong supplier relationships
45 Major Features of a JIT System What information may management accountants use?Personal observation by productionline workers and managersFinancial performance measures,such as inventory turnover ratiosNonfinancial performance measuresof time, inventory, and quality.
47 Backflush Costing Backflush costing describes a costing system that delays recording some orall of the journal entries relating to thecycle from purchase of direct materialsto the sale of finished goods.
48 Backflush Costing Where journal entries for one or more stages in the cycle are omitted, the journal entriesfor a subsequent stage use normal or standardcosts to work backward to flush out the costs inthe cycle for which journal entries were not made.
49 Describe different ways backflush costing can simplify Learning Objective 8Describe different waysbackflush costing can simplifytraditional job-costing systems.
50 Trigger Points The term trigger point refers to a stage in a cycle going from purchase of direct materials to saleof finished goods at which journal entries aremade in the accounting system.
51 FRESH CLASSES ICMAP STAGE 2 COST ACCOUNTING 18TH FEBRUARY 2010 JOIN KHALID AZIZFRESH CLASSESICMAP STAGE 2COST ACCOUNTING18TH FEBRUARY 2010INDIVIDUAL & GROUPS
52 Trigger Points Stage A: Purchase of direct materials Stage B: Production resultingin work in processStage C:Completion of goodunits of productStage D:Sale offinished goods
53 Trigger Points Assume trigger points A, C, and D. This company would have two inventory accounts:Type1. Combined materialsand materials in workin process inventory2. Finished goodsAccount Title1. Inventory:Raw and In-processControl2. Finished Goods Control
54 What is the journal entry when trigger point A occurs? Trigger PointsWhat is the journal entry when trigger point A occurs?Inventory: Raw and In-process Control XXAccounts Payable Control XXTo record direct material purchased during the period
55 Trigger Points What is the journal entry to record conversion costs? Conversion Costs Control XXVarious accounts XXTo record the incurrence of conversion costs duringthe accounting periodUnderallocated or overallocated conversion costsare written off to cost of goods sold.
56 What is the journal entry when trigger point C occurs? Trigger PointsWhat is the journal entry when trigger point C occurs?Finished Goods Control XXInventory: Raw andIn-Process Control XXConversion Costs Allocated XXTo record the cost of goods completed during theaccounting period
57 What is the journal entry when trigger point D occurs? Trigger PointsWhat is the journal entry when trigger point D occurs?Cost of Goods Sold XXFinished Goods Control XXTo record the cost of goods sold during theaccounting period
58 Trigger Points Assume trigger points A and D. This company would have one inventory account:TypeCombines direct materialsinventory and any directmaterials in work in processand finished goods inventoriesAccount TitleInventory Control
59 Trigger Points What is the journal entry when trigger point A occurs? Inventory: Raw and In-process Control XXAccounts Payable Control XXTo record direct material purchased during the periodSame as the A, C, and D example.
60 Trigger Points What is the journal entry to record conversion costs? Conversion Costs Control XXVarious accounts XXTo record the incurrence of conversion costs duringthe accounting periodSame as the A, C, and D example.
61 Trigger Points What is the journal entry to record the cost of goods completed during theaccounting period (trigger point C)?No journal entry.
62 What is the journal entry when trigger point D occurs? Trigger PointsWhat is the journal entry when trigger point D occurs?Cost of Goods Sold XXInventory Control XXConversion Costs Allocated XXTo record the cost of goods sold during theaccounting period
63 JOIN KHALID AZIZ ECONOMICS OF ICMAP, ICAP, MA-ECONOMICS, B.COM. FINANCIAL ACCOUNTING OF ICMAP STAGE 1,3,4 ICAP MODULE B, B.COM, BBA, MBA & PIPFA.COST ACCOUNTING OF ICMAP STAGE 2,3 ICAP MODULE D, BBA, MBA & PIPFA.CONTACT:R-1173,ALNOOR SOCIETY, BLOCK 19,F.B.AREA, KARACHI, PAKISTAN.