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Chapter 2 Managerial Accounting and Cost Concepts

Solutions to Questions b. Indirect materials are generally small items of material such as glue and nails. They may be an integral part of a finished product but their costs can be traced to the product only at great cost or inconvenience. c. Direct labor consists of labor costs that can be easily traced to particular products. Direct labor is also called “touch labor.” d. Indirect labor consists of the labor costs of janitors, supervisors, materials handlers, and other factory workers that cannot be conveniently traced to particular products. These labor costs are incurred to support production, but the workers involved do not directly work on the product. e. Manufacturing overhead includes all manufacturing costs except direct materials and direct labor. Consequently, manufacturing overhead includes indirect materials and indirect labor as well as other manufacturing costs.

2-1 Managers carry out three major activities in an organization: planning, directing and motivating, and controlling. Planning involves establishing a basic strategy, selecting a course of action, and specifying how the action will be implemented. Directing and motivating involves mobilizing people to carry out plans and run routine operations. Controlling involves ensuring that the plan is actually carried out and is appropriately modified as circumstances change. 2-2 The planning and control cycle involves formulating plans, implementing plans, measuring performance, and evaluating differences between planned and actual performance. 2-3 In contrast to financial accounting, managerial accounting: (1) focuses on the needs of managers rather than outsiders; (2) emphasizes decisions affecting the future rather than the financial consequences of past actions; (3) emphasizes relevance rather than objectivity and verifiability; (4) emphasizes timeliness rather than precision; (5) emphasizes the segments of an organization rather than summary data concerning the entire organization; (6) is not governed by GAAP; and (7) is not mandatory.

2-6 A product cost is any cost involved in purchasing or manufacturing goods. In the case of manufactured goods, these costs consist of direct materials, direct labor, and manufacturing overhead. A period cost is a cost that is taken directly to the income statement as an expense in the period in which it is incurred. 2-7 The income statement of a manufacturing company differs from the income statement of a merchandising company in the cost of goods sold section. A merchandising company sells finished goods that it has purchased from a supplier. These goods are listed as “purchases” in the cost of goods sold section. Because a manufacturing company produces its goods rather than buying them from a supplier, it lists “cost of goods manufactured” in place of “purchases.” Also, the manufacturing company identifies its inventory

2-4 The three major elements of product costs in a manufacturing company are direct materials, direct labor, and manufacturing overhead. 2-5 a. Direct materials are an integral part of a finished product and their costs can be conveniently traced to it.

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in this section as Finished Goods inventory, rather than as Merchandise Inventory.

average cost per unit changes with the level of activity.

2-8 The schedule of cost of goods manufactured lists the manufacturing costs that have been incurred during the period. These costs are organized under the three categories of direct materials, direct labor, and manufacturing overhead. The total costs incurred are adjusted for any change in the Work in Process inventory to determine the cost of goods manufactured (i.e. finished) during the period. The schedule of cost of goods manufactured ties into the income statement through the cost of goods sold section. The cost of goods manufactured is added to the beginning Finished Goods inventory to determine the goods available for sale. In effect, the cost of goods manufactured takes the place of the Purchases account in a merchandising firm.

2-13 A differential cost is a cost that differs between alternatives in a decision. An opportunity cost is the potential benefit that is given up when one alternative is selected over another. A sunk cost is a cost that has already been incurred and cannot be altered by any decision taken now or in the future. 2-14 No, differential costs can be either variable or fixed. For example, the alternatives might consist of purchasing one machine rather than another to make a product. The difference between the fixed costs of purchasing the two machines is a differential cost.

2-9 A manufacturing company usually has three inventory accounts: Raw Materials, Work in Process, and Finished Goods. A merchandising company may have a single inventory account— Merchandise Inventory. 2-10 Product costs are assigned to units as they are processed and hence are included in inventories. The flow is from direct materials, direct labor, and manufacturing overhead to Work in Process inventory. As goods are completed, their cost is removed from Work in Process inventory and transferred to Finished Goods inventory. As goods are sold, their cost is removed from Finished Goods inventory and transferred to Cost of Goods Sold. Cost of Goods Sold is an expense on the income statement. 2-11 Yes, costs such as salaries and depreciation can end up as part of assets on the balance sheet if they are manufacturing costs. Manufacturing costs are inventoried until the associated finished goods are sold. Thus, if some units are still in inventory, such costs may be part of either Work in Process inventory or Finished Goods inventory at the end of the period. 2-12 No. A variable cost is a cost that varies, in total, in direct proportion to changes in the level of activity. The variable cost per unit is constant. A fixed cost is fixed in total, but the © The McGraw-Hill Companies, Inc., 2010. All rights reserved. 20

Managerial Accounting, 13th Edition

Exercise 2-1 (10 minutes) 1. Directing and motivating 2. Budgets 3. Planning 4. Precision; Timeliness 5. Managerial accounting; Financial accounting 6. Managerial accounting 7 Financial accounting; Managerial accounting 8. Feedback 9. Controller 10. Performance report

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Exercise 2-2 (10 minutes) 1. The cost of a hard drive installed in a computer: direct materials. 2. The cost of advertising in the Puget Sound Computer User newspaper: selling. 3. The wages of employees who assemble computers from components: direct labor. 4. Sales commissions paid to the company’s salespeople: selling. 5. The wages of the assembly shop’s supervisor: manufacturing overhead. 6. The wages of the company’s accountant: administrative. 7. Depreciation on equipment used to test assembled computers before release to customers: manufacturing overhead. 8. Rent on the facility in the industrial park: a combination of manufacturing overhead, selling, and administrative. The rent would most likely be prorated on the basis of the amount of space occupied by manufacturing, selling, and administrative operations.

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Managerial Accounting, 13th Edition

Exercise 2-3 (15 minutes)

Product Period Cost Cost 1. Depreciation on salespersons’ cars ........................ 2. Rent on equipment used in the factory .................. 3. Lubricants used for machine maintenance ............. 4. Salaries of personnel who work in the finished goods warehouse .............................................. 5. Soap and paper towels used by factory workers at the end of a shift ............................................... 6. Factory supervisors’ salaries .................................. 7. Heat, water, and power consumed in the fa ctory ... 8. Materials used for boxing products for shipment overseas (units are not normally boxed) ............. 9. Advertising costs .................................................. 10. Workers’ compensation insurance for factory employees ......................................................... 11. Depreciation on chairs and tables in the factory lunchroom ......................................................... 12. The wages of the receptionist in the administrative offices ............................................................... 13. Cost of leasing the corporate jet used by the company's executives ........................................ 14. The cost of renting rooms at a Florida resort for the annual sales conference ............................... 15. The cost of packaging the company’s product ........

X X X X X X X X X X X X X X X

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Exercise 2-4 (15 minutes) CyberGames Income Statement Sales...................................................... Cost of goods sold: Beginning merchandise inventory .......... Add: Purchases .................................... Goods available for sale ........................ Deduct: Ending merchandise inventory .. Gross margin .......................................... Selling and administrative expenses: Selling expense .................................... Administrative expense......................... Net operating income..............................

$1,450,000 $ 240,000 950,000 1,190,000 170,000

1,020,000 430,000

210,000 180,000 $

390,000 40,000

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Managerial Accounting, 13th Edition

Exercise 2-5 (15 minutes) Lompac Products Schedule of Cost of Goods Manufactured Direct materials: Beginning raw materials inventory........... $ 60,000 Add: Purchases of raw materials ............. 690,000 Raw materials available for use ............... 750,000 Deduct: Ending raw materials inventory .. 45,000 Raw materials used in production............ Direct labor .............................................. Manufacturing overhead............................ Total manufacturing costs ......................... Add: Beginning work in process inventory .. Deduct: Ending work in process inventory .. Cost of goods manufactured ......................

$ 705,000 135,000 370,000 1,210,000 120,000 1,330,000 130,000 $1,200,000

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Exercise 2-6 (15 minutes) A few of these costs may generate debate. For example, some may argue that the cost of advertising a rock concert is a variable cost because the number of people who come to the rock concert depends on the amount of advertising. However, one can argue that if the price is within reason, any rock concert in New York City will be sold out and the function of advertising is simply to let people know the event will be happening. Moreover, while advertising may affect the number of persons who ultimately buy tickets, the causation is in one direction. If more people buy tickets, the advertising costs don’t go up.

Cost Behavior Variable Fixed

Cost (Measure of Activity) 1.The cost of X-ray film used in the radiology lab at Virginia Mason Hospital in Seattle (Number of X-rays taken) .................................................................... 2.The cost of advertising a rock concert in New York City (Number of rock concert tickets sold) ................ 3.The cost of renting retail space for a McDonald’s restaurant in Hong Kong (Total sales at the restaurant) ............................................................. 4.The electrical cost of running a roller coaster at Magic Mountain (Number of times the roller coaster is run) 5.Property taxes paid by your local cinema theater (Number of tickets sold).......................................... 6.The cost of sales commissions paid to salespersons at a Nordstrom store (Total sales at the store) ............. 7.Property insurance on a Coca Cola bottling plant (Number of cases of bottles produced) .................... 8.The costs of synthetic materials used to make a particular model of running shoe (Number of shoes of that model produced) ......................................... 9.The costs of shipping Panasonic televisions to retail stores (Number of televisions sold) .......................... 10.The cost of leasing an ultra-scan diagnostic machine at the American Hospital in Paris (Number of patients scanned with the machine) .........................

X X

X X X X X X X

X

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Managerial Accounting, 13th Edition

Exercise 2-7 (15 minutes)

1. 2. 3. 4. 5. 6. 7. 8.

Cost

Cost Object

The wages of pediatric nurses Prescription drugs Heating the hospital

The pediatric department A particular patient The pediatric department The pediatric department A particular pediatric patient A particular patient

The salary of the head of pediatrics The salary of the head of pediatrics Hospital chaplain’s salary Lab tests by outside contractor Lab tests by outside contractor

Direct Cost

Indirect Cost

X X X X X X

A particular patient X A particular department X

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Exercise 2-8 (15 minutes)

Item

Differential Cost

1. Cost of the old X -ray machine ... 2. The salary of the head of the Radiology Department ............ 3. The salary of the head of the Pediatrics Department ............ 4. Cost of the new color laser printer ................................... 5. Rent on the space occupied by Radiology .............................. 6. The cost of maintaining the old machine ................................ 7. Benefits from a new DNA analyzer ................................. 8. Cost of electricity to run the Xray machines .........................

Opportunity Cost

Sunk Cost X

X

X X X

Note: The costs of the salaries of the head of the Radiology Department and Pediatrics Department and the rent on the space occupied by Radiology are neither differential costs, nor opportunity costs, nor sunk costs. These costs do not differ between the alternatives and therefore are irrelevant in the decision, but they are not sunk costs because they occur in the future.

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Managerial Accounting, 13th Edition

Exercise 2-9 (15 minutes) 1. 2. 3. 4. 5. 6. 7. 8. 9. 10.

Product cost; variable cost Conversion cost Opportunity cost Prime cost Sunk cost Period cost; variable cost Product cost; period cost; fixed cost Product cost Period cost Fixed cost; product cost; conversion cost

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Exercise 2-10 (15 minutes)

Cost Item 1. Hamburger buns at a Wendy’s outlet ........ 2. Advertising by a dental office ............ 3. Apples processed and canned by Del Monte..................... 4. Shipping canned apples from a Del Monte plant to customers ............... 5. Insurance on a Bausch & Lomb factory producing contact lenses ..................... 6. Insurance on IBM’s corporate headquarters .......... 7. Salary of a supervisor overseeing production of printers at HewlettPackard .................. 8. Commissions paid to Encyclopedia Britannica salespersons ........... 9. Depreciation of factory lunchroom facilities at a General Electric plant ...................... 10. Steering wheels installed in BMWs ....

Cost Behav ior Variable Fixed

Selling and Administrative Cost

X

Product Cost X

X

X

X

X

X

X

X

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X X

X X

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Managerial Accounting, 13th Edition

Exercise 2-11 (30 minutes) 1. Mason Company Schedule of Cost of Goods Manufactured Direct materials: Beginning raw materials inventory .................. Add: Purchases of raw materials ..................... Raw materials available for use....................... Deduct: Ending raw materials inventory .......... Raw materials used in production ................... Direct labor ...................................................... Manufacturing overhead ................................... Total manufacturing costs ................................. Add: Beginning work in process inventory ..........

$ 7,000 118,000 125,000 15,000

Deduct: Ending work in process inventory ......... Cost of goods manufactured .............................

$110,000 70,000 80,000 260,000 10,000 270,000 5,000 $265,000

2. The cost of goods sold section of Mason Company’s income statement: Beginning finished goods inventory ............ Add: Cost of goods manufactured .............. Goods available for sale ............................. Deduct: Ending finished goods inventory .... Cost of goods sold .....................................

$ 20,000 265,000 285,000 35,000 $250,000

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Exercise 2-12 (30 minutes) 1. a. Batteries purchased ........................................................ Batteries drawn from inventory ....................................... Batteries remaining in inventory ...................................... Cost per battery.............................................................. Cost in Raw Materials Inventory at April 30 ......................

8,000 7,600 400 × $10 $4,000

b. Batteries used in production (7,600 – 100)....................... Motorcycles completed and transferred to Finished Goods (90% × 7,500) ............................................................ Motorcycles still in Work in Process at April 30 ................. Cost per battery.............................................................. Cost in Work in Process Inventory at April 30 ...................

7,500 6,750 750 × $10 $7,500

c. Motorcycles completed and transferred to Finished Goods (see above) ................................................................. Motorcycles sold during the month (70% × 6,750) ............................................................ Motorcycles still in Finished Goods at April 30................... Cost per battery.............................................................. Cost in Finished Goods Inventory at April 30 ....................

4,725 2,025 × $10 $20,250

d. Motorcycles sold during the month (above) ...................... Cost per battery.............................................................. Cost in Cost of Goods Sold at April 30 ..............................

4,725 × $10 $47,250

e. Batteries used in salespersons’ motorcycles.................