1. Accounting Costing 2 Prof. Clive Vlieland-Boddy Academic Year

2. Activity Based Costing

3. Activity Based Costing
Costs per service or activity.
Costs are allocated to a service or activity
Examples:
Cost per sales enquiry
Costs per warranty claim
Costs per credit check

4. Cost Drivers There are two main types of cost driver:
A resource driver, which refers to the contribution of the quantity of resources used to the cost of an activity.
An activity driver, which refers to the costs incurred by the activities required to complete a particular task or project.

5. Activity-Based Costing
A way to allocate as many costs as possible to a product
Focuses on activities and cost of activities
Each activity has its own cost driver
Uses a separate allocation rate for each activity
Activity based costing is a way to allocate indirect costs (overhead) to production. The focus is on activities and the cost of performing those activities. Each activity has its own cost driver and uses a separate allocation rate. 5

6. Other Costing Issues

7. Job Costing
Measures individual costs of production or service to each sales unit.
Example: A builder will charge to a job all the materials and labour so as to identify the results of that particular job.

8. Processing Costing
Traces all direct an indirect costs of manufacturing often on a batch process. They eventually divide these costs up to calculate a per unit cost.

9. Conversion Costs

10. Equivalent Units
When valuing ending inventories of WIP, there may well be many partly completed units.
These have to be equated into completed units.
Example: At the month end a cycle manufacture has 500 half completed cycles. That would equate to 250 equivalent units.

11. Cost Volume Profit Analysis (CVP) & Break Even

12. The principles of variable/marginal costing
For any given period of time, fixed costs will be the same, for any volume of sales and production (provided that the level of activity is within the ‘relevant range’). Therefore, selling an extra item of product or service:
Revenue will increase by the sales volume of the item sold
Costs will increase by the variable cost per unit
Profit will increase by the amount of contribution earned from the extra item

13. Cost-volume-profit analysis
Systematic method of examining the relationship between changes in activity and changes in total sales revenue, expenses and net profit
CVP analysis is subject to a number of underlying assumptions and limitations
The objective of CVP analysis is to establish what will happen to the financial results if a specified level of activity or volume fluctuates

14. CVP analysis assumptions
All other variables remain constant
A single product or constant sales mix
Total costs and total revenue are linear functions of output
The analysis applies to the relevant range only
Costs can be accurately divided into their fixed and variable elements
The analysis applies only to a short-time horizon
Complexity-related fixed costs do not change
CVP analysis model simplifies the real-world conditions that firm faces. That’s why the analysis is subject to a number of underlying assumptions and limitations
All other variables remain constant means that volume of production is the only factor which will cause the costs and revenue to change throughout the analysis. (changes in other variables such as production efficiency, sales mix, price level and production methods have an important influence on sales revenue and costs, so if it is significant the CVP analysis will be incorrect).
A single product or constant sales mix means that either a single product is sold or, if range of products is sold that sales will be in accordance with a predetermined sales mix. If the sales mix is used than then volume of sales can be depicted in a graph of CVP-analysis measured using standard batch size
Total costs and total revenue are linear functions of output means that unit variables and selling price are constant
The analysis applies to the relevant range only means that the CVP-analysis is valid only for decision taken within the relevant production range (outside this range the unit selling price and the variable cost are no longer constant per unit)
Costs can be accurately divided into their fixed and variable elements
The analysis applies only to a short-time horizon. In short-time the costs of providing a firm’s operating capacity, such as property taxes and the salaries are likely to be fixed in relation to changes in activity and unaffected by changes in volume whereas other costs will vary with changes of production. In the short-run volume is he most important variable influencing total revenue, cost and profit.
Complexity-related fixed costs do not change means that the changes in complexity-related costs arising from changes in the range of items produced are not captured

15. Break Even

16. CVP diagram Horizontal axis – unit of production
Vertical axis – total cost and revenue
Fixed costs (FC) are plotted as a single horizontal line at the one level. Variable costs (VC) are added to the fixed costs to enable the total cost to be plotted. For plotting total cost line there are need to be two points. At zero sales volume total cost will be equal to the fixed costs and at particular volume of production total costs will be sum of fixed costs and variable costs (VC per unit * number of units). The relevant range consisting of 2 horizontal lines are added to the graph: beyond these lines we have assurance that the CVP analysis is valid.
This graph helps us estimate the proper volume of production. Break-even point is the point at which the total sales revenue line cuts the total cost line (the point where the production makes neither profit nor loss). The area between the total sales revenue line and the total cost line at a volume below the break-even point represents losses that will occur for various sales below break-even point. And the similar if the company operates at a sales volume above the break-even point, the difference between the total revenue and the total cost lines represents the profit that results from the sales level above break-even point.

17. Margin of safety
The extent that the revenue exceeds total costs, is called the margin of safety.
Indicates by how much sales may decrease before a loss occurs

18. Break Even Analysis Remember:
A higher price or lower price does not mean that break even will never be reached!
The break even point depends on the number of sales needed to generate revenue to cover costs – the break even chart is NOT time related!

19. Activity
Use the matrix on web site to do this

20. Budgets

21. Budgets

22. Budgets
Estimates of the income and expenditure of a business or a part of a business over a time period
Used extensively in planning
Helps establish efficient use of resources
Help monitor cash flow and identify departures from plans
Maintains a focus and discipline for those involved

23. Budgets
Flexible Budgets – budgets that take account of changing business conditions
Static Budget – Based on pre determined level of activity

24. Flexible Budgets
A budget prepared for a multiple levels of sales volume is called a flexible budget.
Flexible budgets are prepared at the beginning of the year for planning purposes and at the end of the year for performance evaluation.
Differences between actual results and the flexible budget are called flexible budget variances.
One click is required for each bullet, including the first one.
© John Wiley & Sons, 2005
Chapter 10: Static and Flexible Budgets
Eldenburg & Wolcott’s Cost Management, 1e
Slide # 24

25. Acct 311 - Prof. Teresa Gordon
3/25/2017
Flexible Budget
This is the budget we would have prepared HAD WE ONLY KNOWN the number of units that would be sold or produced 25 25

26. What is needed to do a flexible budget
Acct Prof. Teresa Gordon
3/25/2017
What is needed to do a flexible budget
To do a flexible budget we need to know the assumptions used to create the original budget
Units expected to be sold
Expected selling price per unit
Variable cost per unit
Fixed costs (in total) 26 26

27. Static Budgets
A budget prepared for a single level of sales volume is called a static budget.
Static budgets are prepared at the beginning of the year.
Differences between actual results and the static budget are called static budget variances.
One click is required for each bullet, including the first one.
© John Wiley & Sons, 2005
Chapter 10: Static and Flexible Budgets
Eldenburg & Wolcott’s Cost Management, 1e
Slide # 27

28. Performance Evaluation
A static budget variance includes effects from output volume.
A flexible budget variance removes these output volume effects.
Other adjustments to the year-end flexible budget may be made for a fair performance evaluation, such as
Input price changes outside the control of the manager under evaluation
Fixed cost increases outside the control of the manager under evaluation
One click is required for each bullet and sub-bullet, including the first primary bullet.
© John Wiley & Sons, 2005
Chapter 10: Static and Flexible Budgets
Eldenburg & Wolcott’s Cost Management, 1e
Slide # 28

29. Comparing Actual Results to Planned Results
Acct Prof. Teresa Gordon
3/25/2017
Comparing Actual Results to Planned Results
Budget comparisons and variances 29 29

30. Budget Variances
Managers compare actual results to budgeted results in order to monitor operations, and motivate appropriate performance.
Differences between budgeted and actual results are called budget variances.
Variances are stated in absolute value terms, and labeled as Favorable or Unfavorable.
The first bullet and sub-bullets are automated.
The first click brings in the second primary bullet.
The second click brings in its secondary bullet.
© John Wiley & Sons, 2005
Chapter 10: Static and Flexible Budgets
Eldenburg & Wolcott’s Cost Management, 1e
Slide # 30

31. Actual Vs Budget Actual Budget Variance Sales 540,000 520,000 20,000 F
Purchases 350, , ,000 U
Because it is a positive variance the it is marked with a F. Unfavourable is marked with a U

32. Budgets
Variance – the difference between planned values and actual values
Positive or Favourable variance – actual figures less than planned
Negative Unfavourable variance – actual figures above planned

33. Budget Variances
Budget variances are investigated. The investigation may find:
Inefficiencies in actual operations that can be corrected.
Efficiencies in actual operations that can be replicated in other areas of the organization.
Uncontrollable outside factors that require changes to the budgeting process.
The first primary bullet is automated.
One click is required for each remaining bullet and sub-bullet.
© John Wiley & Sons, 2005
Chapter 10: Static and Flexible Budgets
Eldenburg & Wolcott’s Cost Management, 1e
Slide # 33

34. Revenue or Cost Variance Analysis
Standard variances
Price variance
Quantity variance
The difference between the actual price and the standard price
The difference between the actual quantity and the standard quantity

35. Easier than formulas? Sales volume variance Sales price variance
Acct Prof. Teresa Gordon
3/25/2017
Easier than formulas?
Sales volume variance
(actual units – planned units) * planned selling price per unit
Sales price variance
(actual unit price – budgeted unit price) * units sold
Note: Some companies use contribution margin per unit instead of selling price to compute these variances. 35 35

36. Acct 311 - Prof. Teresa Gordon
3/25/2017
Drilling down further . . .
Sales volume variance can be further analyzed
Are sales more or less than expected because we sold a different mix of products than we planned?
The selling price for each product might also be different than we planned 36 36

37. Production Variances Direct materials Price variance Quantity variance
Acct Prof. Teresa Gordon
3/25/2017
Production Variances
Direct materials
Price variance
Quantity variance
The computations are similar to what we illustrated for sales. You change one element at a time and, from the difference, determine the impact on costs (instead of sales) 37 37

38. Direct labor
Rate variance
Efficiency variance

39. Responsibility for Labour Variances
Maybe I can attribute the labour and materials variances to personnel for hiring the wrong people and training them poorly.

40. Variable overhead
Spending variance
Efficiency variance

41. Fixed overhead
Budget variance
Volume variance

42. Performance Reports

43. Performance Reports
Report financial performance of responsibility centers
Cost center
Difference between actual results and budget
Changes in labour dollars or hours
Changes in purchased price vs. quantity discount
Revenue center
Variance due to selling more or less units than expected
Variance due to price changes
Profit center
Focus on both revenue and cost variances
Responsibility accounting performance reports capture the financial performance of cost, revenue, and profit centers. Responsibility accounting performance reports compare actual results with budgeted amounts and display a variance, or difference, between the two amounts. Because cost centers are only responsible for controlling costs, their performance reports only include information on actual versus budgeted costs. Cost center performance reports typically focus on the flexible budget variance—the difference between actual results and the flexible budget.
Likewise, performance reports for revenue centers only contain actual versus budgeted revenue. Revenue center performance reports often highlight both the flexible budget variance and the sales volume variance. The sales volume variance is due strictly to volume differences—selling more or fewer units than originally planned. The flexible budget variance, however, is due strictly to differences in the sales price—selling units for a higher or lower price than originally planned. Both the sales volume variance and the flexible budget variance help revenue center managers understand why they have exceeded or fallen short of budgeted revenue.
However, profit centers are responsible for both controlling costs and generating revenue. Therefore, their performance reports contain actual and budgeted information on both their revenues and costs.
Copyright (c) 2009 Prentice Hall. All rights reserved. 43

44. Performance Reports Management by exception
Only material variances are investigated
Should focus on information, not blame
Some variances are uncontrollable
Examples: increase in costs due to a natural disaster or macro economic issues
Managers use management by exception to determine which variances in the performance report are worth investigating. For example, management may only investigate variances that exceed a certain dollar amount (for example, over $1,000) or a certain percentage of the budgeted figure (for example, over 10%). Smaller variances signal that operations are close to target and do not require management’s immediate attention.
Regardless of the type of responsibility center, performance reports should focus on information, not blame. Analyzing budget variances helps managers understand the underlying reasons for the unit’s performance. Once management understands these reasons, it may be able to take corrective actions.
But some variances are uncontrollable. Managers should not be held accountable for conditions they cannot control. Responsibility accounting can help management identify the causes of variances, thereby allowing them to determine what was controllable, and what was not.
Copyright (c) 2009 Prentice Hall. All rights reserved. 44

45. Question 1 Activity Based Costing requires: Answer:
Costs to be allocated to an activity
Enables management to evaluate its services to customers
Enables variances to be created on customer focused tasks.
All of the above
Answer:
d. All of the above

46. Question 2 Job Costing is where: Answer: d.
Costs are assigned to a particular job
Often used by Accountants & Lawyers to charge their clients
Enables accurate control of each job.
All the above are correct
Answer: d.

47. Question 3 Process costing is: Answer: c.
Suitable for controlling costs in a manufacturing environment
Usually allocates costs by batch then divides them up to get a per unit cost
Both a and b are correct
Answer: c.

48. Question 4 Equivalent Units: Answer: c.
Are a method of assessing ending inventories
Are calculated by establishing the extent that WIP is completed in terms of finished goods.
A and B are correct
Answer: c.

49. Question 5 CVP enables evaluation of: Answer: c
The number of units to be sold to break even
The relationship that total costs have to total revenues
Both a and b are correct
Answer: c

50. Question 6 Margin of Safety is: Answer: d.
The extent that revenues exceed total costs
Is the extent that profits are above Break Even
Represent the level of activity that can be lost before losses are sustained
All above are correct
Answer: d.

51. Question 7 A flexible budget is: Answer: c.
A static budget adjusted for volume activity
Is prepared for several levels of expected activity.
Both A and B are correct
Answer: c.

52. Question 8 A variance is: Answer: d.
The extent that actual has departed from forecast
Is either Favourable or Unfavourable
Enables management by exception
All above are correct
Answer: d.

53. Question 9 A Sales variance can be: Answer: a.
Both because of price and quantity
Can only be a price variance
Can only be a quantity variance
Answer: a.
recast