1. Managerial Accounting Concepts and Principles
Chapter 18
Chapter 18: Managerial Accounting Concepts and Principles

2. Managerial Accounting Basics
Managerial accounting provides financial and
nonfinancial information
for managers of an organization and other
decision makers.
Financial accounting provides general
purpose financial
information to those who are outside the organization.
Managerial accounting is an activity that provides financial and nonfinancial information to an organization’s managers and other internal decision makers. The main purpose of the financial accounting system is to prepare general purpose financial statements.
The purpose of both managerial and financial accounting is providing useful information to decision makers. Both areas of accounting report monetary information, although managerial accounting usually includes the practice of reporting more nonmonetary information.

3. Purpose of Managerial Accounting
Planning is the process of setting goals and making plans to achieve them. Strategic plans usually set a firm’s long-term direction by developing a road map based on opportunities such as new products, new markets, and capital investments. Medium- and short-term plans are more operational in nature. They translate the strategic plans into actions. A short-term plan often covers a one-year period that, when translated into monetary terms is known as a budget.
Control is the process of monitoring planning decisions and evaluating an organization’s activities and employees. It includes the measurement and evaluation of actions, processes, and outcomes. Feedback provided by the control system allows managers to revise their plans and take corrective actions to avoid undesirable outcomes.

4. Nature of Managerial Accounting
Here we see a detailed comparison of financial accounting and managerial accounting. In addition to the focus on internal decisions, note particularly that managerial accounting information may follow a flexible format, involves frequent, timely reports, and may contain more estimates and projections than financial accounting.

5. Types of Cost Classifications Classification by Traceability
Direct costs
Costs traceable to a single cost object.
Examples: material and labor cost for a product.
Indirect costs
Costs that cannot be traced to a single cost object.
Example: A maintenance expenditure benefiting two or more departments.
Cost objects may be products, services, departments, or customers to which costs are assigned. Direct costs can be traced to a single cost object. Examples of direct costs are material and labor costs for a product. Indirect costs cannot be traced to a single cost object. An example of an indirect cost is a maintenance expenditure that benefits two or more departments.

6. Types of Cost Classifications Classification by Relevance
Sunk costs have already been incurred and cannot be avoided or changed. Sunk costs should not be considered in decisions. Example: An automobile purchased two years ago cost $15,000. The $15,000 cost is sunk because whether the car is driven, sold, traded, or abandoned, the cost will not change.
Out-of-pocket costs require future outlays of cash and should be considered in decisions. Example: You plan on buying a new car for $25,000 next month. The cost of the new car is an out-of-pocket cost because you can choose to spend or not to spend the $25,000 next month.
Sunk costs have already been incurred and cannot be avoided or changed. Sunk costs are never relevant to current and future decisions. Example: An automobile purchased two years ago cost $15,000. The $15,000 cost is sunk because whether the car is driven, sold, traded, or abandoned, the cost will not change.
Out-of-pocket costs require future outlays of cash and are always relevant to current and future decisions. Example: You plan on buying a new car for $25,000 next month. The cost of the new car is an out-of-pocket cost because you can choose to spend or not to spend the $25,000 next month.

7. Types of Cost Classifications Classification by Relevance
An opportunity cost is the potential benefit lost by choosing a specific action from two or more alternatives
Example: If you were not attending college, you could be earning $20,000 per year. Your opportunity cost of attending college for one year is $20,000.
An opportunity cost is the potential benefit lost by choosing a specific action from two or more alternatives. Opportunity costs are always relevant to a selection decision. Example: If you were not attending college, you could be earning $20,000 per year. Your opportunity cost of attending college for one year is $20,000.

8. Types of Cost Classifications Classification by Function
Direct Material
Direct Labor
Manufacturing Overhead
Product
Period costs are expenses not attached to the product.
Administrative costs are non-manufacturing costs of staff support and administrative functions.
Selling costs are incurred to obtain orders and to deliver finished goods to customers.
Product costs are incurred to manufacture a product. Product costs are not expensed as they are incurred. Instead, they are assigned to inventory and do not become expenses until the product is sold. Inventory is reported at cost as an asset on the balance sheet.
Period costs are expensed in the period incurred. Period costs are not assigned to inventory with the product. They are non-manufacturing costs usually grouped into two broad categories: selling and administrative. Selling costs are incurred to obtain customer orders and to deliver finished goods to customers. Examples are advertising and shipping costs. Administrative costs are non-manufacturing costs of staff support and administrative functions. Examples are accounting, data processing, personnel, and research and development.

9. Period and Product Costs in Financial Statements
Starting on the left side of this flow chart of costs, we see that costs incurred during 2013 are categorized as either period costs or product costs. Period costs flow directly to the current year’s income statement as they are expensed in the period incurred. Product costs are first assigned to the inventory account. Later, when the inventory is sold, product costs flow from the inventory account to cost of goods sold on the income statement for the year in which the products are sold.

10. Steel used in the frame of a mountain bike.
Direct Materials
C 3
Direct material costs are the expenditures for direct materials that are separately and readily traced through the manufacturing process to finished goods.
Example:
Steel used in the frame of a mountain bike.
Direct material costs are the expenditures for direct materials that are separately and readily traced through the manufacturing process to finished goods. Examples of direct materials in manufacturing a mountain bike include its tires, seat, frame, pedals, brakes, cables, gears, and handlebars.

11. Wages paid to a mountain bike assembly worker.
Direct Labor
C 3
Direct labor costs are the wages and salaries for direct labor that are separately and readily traced through the manufacturing process to finished goods.
Example:
Wages paid to a mountain bike assembly worker.
Direct labor refers to the efforts of employees who physically convert materials to finished product. Direct labor costs are the wages and salaries for direct labor that are separately and readily traced through the manufacturing process to finished goods. Examples of direct labor in manufacturing a mountain bike include operators directly involved in converting raw materials into finished products (welding, painting, forming) and assembly workers who attach materials such as tires, seats, pedals, and brakes to the bike frames. Costs of other workers on the assembly line who assist direct laborers are classified as indirect labor costs. Indirect labor refers to manufacturing workers’ efforts not linked to specific units or batches of the product.

12. Factory Overhead
C 3
Factory overhead consists of all manufacturing costs that are not direct materials or direct labor and the costs cannot be separately or readily traced to finished goods.
Examples:
Indirect labor – maintenance
Indirect material – cleaning supplies Factory utility costs Supervisory costs
Factory overhead consists of all manufacturing costs that are not direct materials or direct labor. Factory overhead costs cannot be separately or readily traced to finished goods. These costs include indirect materials and indirect labor, costs not directly traceable to the product. Overtime paid to direct laborers is also included in overhead because overtime is due to delays, interruptions, or constraints not necessarily identifiable to a specific product or batches of product. Factory overhead costs also include maintenance of the mountain bike factory, supervision of its employees, repairing manufacturing equipment, factory utilities (water, gas, electricity), production manager’s salary, factory rent, depreciation on factory buildings and equipment, factory insurance, property taxes on factory buildings and equipment, and factory accounting and legal services. Factory overhead does not include selling and administrative expenses because they are not incurred in manufacturing products. These expenses are called period costs and are recorded as expenses on the income statement when incurred.

13. Activities and Cost Flows in Manufacturing
Starting on the left side of this flow chart, we see that material purchases are combined with the materials beginning inventory. Materials are then either used or they remain in inventory. In the center portion of the flow chart, we see the materials being used are combined with labor, overhead, and the goods in process beginning balance. As goods are finished, they are transferred out of the goods in process inventory account into the finished goods inventory account. The cost of the goods finished in the period is called cost of goods manufactured. Finished goods are either sold, called cost of goods sold, or they remain in the finished goods inventory account.

14. Manufacturing Statement
P 2
Summarizes the types and amounts of costs
incurred in a company’s manufacturing process.
Direct Materials Used
+ Direct Labor
+ Factory Overhead
= Total Manufacturing Costs
+ Beginning Work in Process
– Ending Work in Process
= Cost of Goods Manufactured
The production activities in the center portion of the preceding flow chart can be summarized in a manufacturing statement. The three product costs are totaled and added to the beginning balance of the goods in process inventory account. Subtracting the ending balance of the goods in process account from this total results in the cost of goods manufactured for the period.

15. Manufacturing Statement
P 2
Consider the Manufacturing Statement for Rocky Mountain Bikes which is presented in a highly summarized form. In the next few slides, we will illustrate how the amounts for each of the line items were obtained.

16. Overhead Cost Flows Across Accounting Reports
A managerial accounting system records costs and reports them in various reports that eventually determine financial statements. The statements on this slide show how overhead costs flow through the system: from an initial listing of specific costs, to a section of the manufacturing statement, to the reporting on the income statement and the balance sheet. Management uses information in the manufacturing statement to plan and control the company’s manufacturing activities. To provide timely information for decision making, the statement is often prepared monthly, weekly, or even daily. In anticipation of release of its much hyped iPad, Apple grew its inventory of critical components and its finished goods inventory. The manufacturing statement contains information useful to external users but is not a general-purpose financial statement. Companies rarely publish the manufacturing statement because managers view this information as proprietary and potentially harmful to them if released to competitors.

17. End of Chapter 18
End of Chapter 18.