Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Chapter 16 1

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Introduction Review Cost terms and usage Service cost flows Merchandising cost flows Manufacturing cost flows

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. 3 Classify costs and prepare an income statement for a service company Classify costs and prepare an income statement for a merchandising company Classify costs and prepare an income statement and statement of cost of goods manufactured for a manufacturing company

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Introduction Review 1 1 4

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Managerial and financial accounting differ in many aspects. 1.For each of the following, indicate whether the statement relates to managerial accounting (M) or financial accounting (F): _____a. Helps investors make investment decisions. _____ b. Provides detailed reports on parts of the company. _____ c. Helps in planning and controlling operations. _____ d. Reports must follow generally accepted accounting principles (GAAP). _____ e. Reports audited annually by independent certified public accountants. 5 F M F F M

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Financial Accounting versus Managerial Accounting Financial accounting is for external reporting Responsible to: Owners and creditors for their investment decisions Regulatory agencies, such as the Securities Exchange Commission, the Federal Trade Commission, and the Internal Revenue Service Customers and society to ensure that the company acts responsibly 6

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Financial Accounting versus Managerial Accounting Managerial accounting is for internal planning and controlling Responsible to: Customers for safe and defect-free products and services Creditors for repaying principal and interest Employees for a safe and productive work environment Suppliers and vendors for timely payments Owners for providing a return on the owners’ investment Others: governments and communities 7

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Planning—choosing goals and deciding how to achieve them Common goal—to increase operating income (profits) Achieved by raising prices or advertising more Budget—a mathematical expression of the plan Used to coordinate the business’s activities Shows the expected financial impact of decisions Helps identify the resources needed to achieve goals Controlling—implementing the plans and evaluating operations By comparing actual results to the budget Cost data helps managers make decisions 8

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. 9 Management versus Financial Accounting

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Global competition Moving operations to be closer to new markets Services and outsourcing Speed Advanced information systems E-commerce Lean management High expectations Total Quality Management Perfection quest and customer centric innovation Efficiency: Lean management and lean accounting 10

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. S16-3: B USINESS TRENDS TERMINOLOGY Consider the terms and definitions that follow. Match the term with the correct definition. 1.A philosophy designed to integrate all organizational areas in order to provide customers with superior products and services, while meeting organizational objectives. Requires improving quality and eliminating defects and waste. 2.Use of the Internet for such business functions as sales and customer service. Enables companies to reach thousands of customers around the world. 11 a.ERP c. E-commerce b.Just-in-time (JIT) d. Total quality management Total quality management E-commerce

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Consider the terms and definitions that follow. Match the term with the correct definition. 3.Software systems that integrate all of a company’s worldwide functions, departments, and data into a single system. 4.A system in which a company produces just in time to satisfy needs. Suppliers deliver materials just in time to begin production, and finished units are completed just in time for delivery to customers. 12 a.ERP c. E-commerce b.Just-in-time (JIT) d. Total quality management Enterprise Resource Planning (ERP) Just-in-time (JIT)

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Fairness Is the action fair to the parties involved? Objectivity Does the action optimize the total utility outcome across all parties? Honesty Are the rights of involved parties respected? Responsibility Does your action show that you care about the various stakeholders? Institute of Management Accountants (IMA) Developed standards to help meet ethical challenges Require management accountants to: Maintain their professional competence Preserve the confidentiality of the information Act with integrity and credibility 13

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Institute of Management Accountants (IMA) Developed standards to help meet ethical challenges Go here for help when you get stuck 14

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. The standards of ethical practice include the following: I. Competence 1. Maintain an appropriate level of professional expertise. 2. Perform professional duties in accordance with laws, regulations, and standards. 3. Provide information and recommendations that are accurate, clear, concise, and timely. 4. Recognize and communicate professional limitations. 15

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. The standards of ethical practice include the following: II. Confidentiality 1. Keep information confidential except when authorized or legally required. 2. Inform relevant parties regarding appropriate use of confidential information. 3. Refrain from using confidential information to your advantage. 16

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. The standards of ethical practice include the following: III. Integrity 1. Mitigate actual conflicts of interest. 2. Refrain from engaging in any conduct that would prejudice carrying out duties ethically. 3. Abstain from engaging in activity that might discredit the profession. 17

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. The standards of ethical practice include the following: IV. Credibility 1. Communicate information fairly and objectively. 2. Disclose all relevant information. 3. Disclose delays or deficiencies in information, timeliness, processing, or internal controls. 18

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Cost Terms and Usage

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Increase Revenues Manage Costs

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. 21 Product costs Costs to acquire and make products Inventory until sold Expensed when sold Period costs Costs that occur AFTER the item is made, OR Costs outside of the production process Not part of inventory Expensed when incurred

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Product Costs Period Costs Factory DepreciationOffice Supplies ExpenseFactory Janitorial ServicesDelivery to customersResearch & DevelopmentExpensed when sold Product Period

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Example: The battery pack in this Tesla. Materials that become part of the product and are worthwhile to trace to it Which materials might not be worthwhile to trace?

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Labor costs which can be efficiently traced to individual products. Example: Wages paid to this factory worker to build this iphone. Which Labor costs might not be efficiently traceable?

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Manufacturing costs that cannot efficiently be traced directly to specific units produced. Examples: Indirect labor and indirect materials Wages paid to employees who are not directly involved in production work. Examples: maintenance workers, janitors and security guards. Materials used to support the production process. Examples: lubricants and cleaning supplies used in the automobile assembly plant.

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Tracking costs to cost objects A cost object is anything management wants to track the costs of, inventory, customer, segment Direct costs are traced Indirect costs are pooled, and later assigned Direct costs Can be directly traced to a cost object Direct materials Direct labor Indirect costs Needed to finish products Cannot be directly traced to a cost object Manufacturing overhead

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. 27 Are the following costs: Direct materials, Direct labor, Factory overhead, or Period costs?

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Service cost flows 28

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Service Company Service companies sell their time, skills, and knowledge Simplest accounting No inventory or products for sale All costs are period costs Incurred and expensed in same accounting period Services may use cost accounting to accumulate costs to particular jobs using cost flow models similar to manufacturing companies, but GAAP doesn’t generally allow that for reporting. 29

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Income Statement of a Service Company 30 What is their cost per service if 1,950 services are provided?

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Cost per service Helps to set the price of each service provided Consider all operating expenses (period costs) Unit cost per service If a service company does choose to assign costs to service jobs, they will be able to make better decisions as to the relative profitability of different cost objects.

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Merchandising Cost Flow

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Merchandising Company Resell products purchased from suppliers Keep an inventory of products Cost of goods sold is a major expense Product costs flow through the inventory GAAP requires companies to record inventoriable product costs as an asset until sold 33

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Includes cost to purchase goods plus freight-in Beginning Inventory + Net Purchases {all inventory costs) – Ending Inventory = Cost of Goods Sold Do you remember the account math equation? 34

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Any Inventory Account $300,000 $100,000 Beginning Balance $400,000 Additions $200,000 Ending Balance Withdrawals Goods Available This Output becomes what for a merchandiser? Let’s convert this “T” accounting into schedule form.

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. 36

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Unit cost per product—helps managers set appropriate selling prices Formula: 37 Note how this differs from the service example: The merchandiser tracks inventory costs separately from other non-product costs, so they can better report and manage this significant cost.

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Manufacturing Cost Flow

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Tracking costs to cost objects A cost object is anything management wants to track the costs of, inventory, customer, segment Direct costs are traced Indirect costs are pooled, and later assigned Direct costs Can be directly traced to a cost object Direct materials Direct labor Indirect costs Needed to finish products Cannot be directly traced to a cost object Manufacturing overhead

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Use labor, plant, supplies, and facilities to convert raw materials into finished products Three kinds of inventory 40 Materials inventory Work in process inventory Finished goods inventory

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. TypeInventoriable product costsPeriod costs (Expenses) Service company NoneSalaries, depreciation, utilities, insurance, property taxes, advertising expenses Merchandising company Purchases plus freight inSalaries, depreciation, utilities, insurance, property taxes on storage building, advertising, delivery expenses Manufacturing company Direct materials, direct labor, and manufacturing overhead (including indirect materials; indirect labor; depreciation on the manufacturing plant and equipment; plant insurance, utilities, and property taxes Delivery expense; depreciation expense, utilities, insurance, and property taxes on executive headquarters (separate from the manufacturing plant); advertising; CEO’s salary 41

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. 42 Direct materials Become a physical part of the finished product Direct labor Wages of employees who convert materials into the company’s products Manufacturing overhead All other costs other than direct materials and labor Conversion Cost

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Includes only indirect costs related to manufacturing Does NOT include costs for selling, general, or administrative functions Examples: Indirect materials Become part of finished product, but cannot be conveniently or cost-effectively traced Indirect labor Manufacturing wages that are not easily traced to products Plant managers & maintenance 43

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. The three categories of product costs: Direct Materials (DM) Direct Labor (DL) Manufacturing Overhead (MOH) Note Prime vs. Conversion Product vs. Period Costs What happens when these are mis-classified?

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Selling and Administrative Period Costs Finished Goods Cost of Goods Sold Selling and Administrative Manufacturing Overhead Work in Process Direct Labor Balance Sheet Costs Inventories Income Statement Expenses Material PurchasesRaw Materials

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Demo: Problem 16-35

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall

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Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Groups Complete: Problem 16-27A

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. 50 Materials Inventory Finished Goods Inventory Sales Cost of Goods Sold INCOME STATEMENT Operating Expenses = Operating Income When sales occur - - Work in Process Inventory Period Costs Purchases of materials Direct labor & manufacturing overhead

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. 51

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. 52 Direct materials inventoryWork in process inventory Finished goods inventory Beginning inventory + Purchases and freight-in+ Direct materials used+ Cost of goods manufactured = Direct materials available for use + Direct labor= Cost of goods available for sale + Manuf. overhead - Ending inventory = Direct materials used= Cost of goods manufactured = Cost of goods sold

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. You are a new accounting intern at Cookie Messages. Your boss gives you the following information: Purchases of direct materials $ 6,400 Freight in Property taxes Ending inventory of direct materials ,500 Beginning inventory of direct materials ,000 Compute direct materials used. 53

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. All Pro Golf Company had the following inventory data for the year ended January 31, 2012: Direct materials used $ 12,000 Manufacturing overhead ,000 Work in process inventory: Beginning ,000 Ending ,000 Direct labor ,000 Finished goods inventory ,000 Compute All Pro’s cost of goods manufactured for

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Managerial accounting focuses on the information needs of internal users. Generally, managerial accounting reports provide more details so that managers have the information they need to plan and control costs. The benefits of the managerial accounting system must outweigh its cost. 55

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Developed economies have shifted from a manufacturing focus to a service focus. Global competition, e-commerce, and the Internet have expedited both the need and the speed with which information must be available to decision makers. JIT production and TQM mean producing just in time to satisfy customer demand, while constantly improving the quality of goods and services offered to customers. Issues where professional judgments must be made arise often. Determining the ethical action is usually easy. Acting ethically is where integrity and credibility prevail. The excerpt from the IMA’s Statement of Ethical Professional Practice guides managerial accountants in ethical matters. 56

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. Service companies sell their time, skills, or knowledge. All of their operating expenses are normally considered period costs and are considered part of the cost of providing each service unit. In larger, more advanced service companies, the operating expenses (period costs) may be split between service costs (part of the cost per unit of service) and non-service costs (expenses unrelated to the service). Merchandising companies resell products they buy from suppliers. Merchandisers keep an inventory of products, and managers are accountable for the purchase, storage, and sale of the products. Inventory is an asset until it is sold. Cost of goods sold is the total cost of merchandise inventory sold during the period, and includes the freight to get the goods into the warehouse. COGS divided by total units sold equals the cost per unit for the merchandiser. 57

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. The manufacturer creates a product from raw materials by adding direct labor and manufacturing overhead. Because at any point in time products are at various stages of completion, manufacturers have three inventory accounts: Raw materials, Work in process, and Finished goods. The schedule of cost of goods manufactured captures these production costs to determine the cost of goods manufactured for a period. Product cost per unit is calculated by dividing cost of goods manufactured by the total number of units produced. 58

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. 59

Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall. 60 Copyright All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publisher. Printed in the United States of America.