Exam 2 Study Guide PDF

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Exam 2 Review Sheet Questions & Answers

Chapter 18 – Cost Behavior & Cost-Volume-Profit Analysis Fixed Cost, Variable Costs & Product Cost P. 800-801 Fixed Costs: remain unchanged despite variations in the volume of activity within a relevant range. 

Examples: depreciation, property taxes, office salaries, & many service department costs

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Does not apply to the per unit amount, but the fixed cost per unit of output decreases as volume increases

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If relevant range changes, the amount of fixed costs will likely change

Variable Costs: change in proportion to changes in volume of activity. 

Examples: direct materials, direct labor, sales commission, shipping costs, & some overhead costs

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Variable cost per unit remains constant but the total amount of variable cost changes with the level of production

Product Costs: Relevant Range P. 800 – Relevant range: the normal operating range for a business, within a volume of neither close to zero nor at maximum of capacity. 

Excludes extremely high or low operating levels that are unlikely to occur

Margin of Safety P. 808 – the excess of expected sales over the break-even sales level; the amount of sales that can drop before the company incurs a loss. Margin of Safety (%) = Expected Sales – Break-even Sales / Expected Sales Margin of Safety ($) = Actual Sales – Break-even Sales Cost Volume Profit Analysis Assumptions

ACG 2071 – Accounting 2

Exam 2 Review Sheet Questions & Answers P. 800 – CVP analysis helps managers predict how changes in costs & sales levels affect profit.

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Involves computing the sales level at which a company neither earns an income nor incurs a loss, called a break-even point

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Answers questions like: how much does income increase if we install a new machine to reduce labor costs? What is the change in income if selling prices decline & sales volume increases?

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Requires managers to classify costs as being fixed or variable with respect to volume of the activity

Contribution Margin P. 806 –the amount by which a product's unit selling prices exceeds its total variable cost per unit 

Contributes to covering fixed costs & generating profits

Contribution Margin per Unit = Selling Price per Unit – Total Variable Cost per Unit Contribution Margin Ratio: the percent of a unit's selling price that exceeds total unit variable cost o

Can be interpreted as the percent of each sales dollar that remains after deducting the total unit variable cost Contribution Margin (%) = Contribution Margin per Unit / Selling Price per Unit

Target Income P. 811 – Dollar Sales at Target Income (Pretax) = Fixed Costs + Target Income / Contribution Margin Ratio 

Unit sales can also be computed, which gives the number of units needed to be sold to reach the target income ACG 2071 – Accounting 2

Exam 2 Review Sheet Questions & Answers Unit Sales at Target Income = Fixed Costs + Target Income / Contribution Margin per Unit Break-even P. 807 – the sales level at which a company neither earns a profit nor incurs a loss. 

Applies to nearly all organizations, activities, & events

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Main concern is whether sales will at least cover total costs

Break-even Point in Units = Fixed Costs / Contribution Margin per Unit Break-even Point ($) = Fixed Costs / Contribution Margin Ratio

Degree of Operating Leverage P. 817 – the extent, or relative size, of fixed costs in the total cost structure is known as the operating leverage. A useful managerial measure to help assess the effect of changes in the level of sales on income is the DOL. DOL = Total Contribution Margin ($) / Pretax Income 

The DOL can also be used to measure the effect of changes in the level of sales on pretax income

Change in Income (%) = DOL x Change in Sales (%) High Low Method & the Estimated Variable Cost per Unit P. 804-805 – a way to estimate the cost equation using the highest & lowest volume levels.* 1. Identify the highest & lowest volume levels (might not be costs) 2. Compute the slope (Variable Cost per Unit) using the high & low activity levels 3. Compute the total fixed costs by computing the total variable cost at either the high or low activity level, & then subtracting that amount from the total cost at that activity level Variable Cost per Unit = Change in Cost / Change in Units ACG 2071 – Accounting 2

Exam 2 Review Sheet Questions & Answers Total Cost = Fixed Cost + (Variable Cost per Unit x Units) Cost Behavior P. 803-805 – All three methods use past data, resulting in cost estimates that are only as good as the data used for estimation. Scatter Diagrams & the High Low Method use two points, & sometimes these two extreme activity levels do not reflect the more usual conditions likely to recur. The High Low Method is ultimately the easiest to apply & is more useful for obtaining a quick cost equation estimation. Scatter Diagrams: display past cost & unit data in graphical form. Each individual point on a scatter diagram reflects the cost & number of units for a prior period. Estimated Line of Cost Behavior: is drawn on a scatter diagram to reflect the relation between cost & unit volume, i.e. the "line of best fit". 

Once selecting two random points on the horizontal axis (units), the estimated line of cost behavior is drawn and the variable cost can be determined by using the Variable Cost per Unit Formula.

High Low Method: see above* Least-Squares Regression: a statistical method for identifying cost behavior. Such computations are typically done in Excel. Revised Break-Even Point in Dollars & Percent P. 813 – Revised Break-even Point ($) = Revised Fixed Costs / Revised Contribution Margin Ratio Revised Margin of Safety (%) = Expected Sales – Break-even Sales / Expected Sales _____________________________________________________________________________________________ _

Chapter 19 – Variable Costing & Analysis Absorption & Variable Costing Methods ACG 2071 – Accounting 2

Exam 2 Review Sheet Questions & Answers P. 840 – Absorption Costing: the traditional approach; all manufacturing costs are assigned to products. 

Consists of: Direct Materials, Direct Labor, Variable Manufacturing Overhead, & Fixed Manufacturing Overhead

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Assumes that products absorb all costs incurred to produce them

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Widely used for external financial reporting (GAAP)

Variable Costing: only costs that change in total with changes in production level are included in product costs. 

Consists of: Direct Materials, Direct Labor, & Variable Manufacturing Overhead

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Fixed Overhead is treated as a period cost, & thus expensed at the time the units are produced

Unit Product Cost using Absorption & Variable Costing P. 841 – Absorption Costing Direct Materials

Variable Costing Direct Materials

Direct Labor

Direct Labor

Variable Overhead

Variable Overhead

Fixed Overhead Total Production Cost per Unit Special Orders

Total Production Cost per Unit

ACG 2071 – Accounting 2

Exam 2 Review Sheet Questions & Answers

Ending Inventory under Variable Costing

Total Variable Overhead

Net Income using Absorption Costing & Variable Costing P.842 – Absorption Costing Sales

Variable Costing Sales

(Cost of Goods Sold)

(Variable Expenses)

Gross Margin

Variable Production Costs

(Selling & Administrative Expenses)

Variable Selling & Administrative Expenses Contribution Margin (Fixed Expenses) Fixed Overhead Fixed Selling & Administrative Expenses

Net Income

Net Income

When will Income under Absorption Costing & Variable Costing be the same, greater than or less than each other? P.842-845 Income will be the same under Absorption Costing & Variable Costing when units produced equals units sold. Income will be greater under Absorption Costing than Variable Costing when Variable Costing expenses fixed manufacturing Overhead based on the number of units produced, & Absorption Costing expenses is based on the number of units sold, Net Income will be lower under Variable Costing because units produced exceeds units sold . When

ACG 2071 – Accounting 2

Exam 2 Review Sheet Questions & Answers units produced are less than units sold, Variable Costing Income will be greater than Absorption Costing Income. Budget, Continuous Budget, & Rolling Budgets P. 872-873 – Budget: a formal statement of a company's future plans. 

Expressed in monetary terms because the economic & financial aspects of the business are the primary factors driving management's decisions Budgeting: the process of planning future business actions & expressing them as formal plans

Continuous Budget: as monthly or quarterly budget period goes by, companies revise their entire set of budges for the months or quarters remaining & add new monthly or quarterly budgets to replace the ones that have lapsed. Rolling Budget: incremental extension of the existing budget model 

This means at any point, monthly or quarterly budgets are available for the next 12 months or 4 quarters

Bottom-up Process of Budget Development P.

Master Budget & its Components P. 874 – a formal, comprehensive plan for a company's future 

Contains several individual budgets that are linked with each other to form a coordinated plan

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Begins with the Sales Budget & ends with the Cash Budget & Budgeted Financial Statements Sales Production ACG 2071 – Accounting 2

Exam 2 Review Sheet Questions & Answers Direct Materials Capital Expenditure

Direct Labor Cash

Factory Overhead Selling & General &

Administrative Expenses Operating Budgets & its Components P. 876-882 – consists of the sales budget, production & manufacturing budgets, selling expense budget, & general & administrative expense budget Sales Budget: shows the planned sales units & the expected dollars from these sales; it is the starting point in the budgeting process because plans for most departments are linked to sales 

Based on forecasted economic & market conditions, business capacity, proposed selling expenses, & predictions of unit sales

Production Budget: shows the number of units to be produced in a period 

Based on the unit sales projected in the Sales Budget along with inventory considerations

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Does not show costs, it is always expressed in units of product Safety Stock: the quantity of inventory that provides protection against lost sales caused by unfulfilled demands from customers or delays in shipments from suppliers Total Units to be produced in the period = Budgeted Ending Inventory (Safety Stock) + Budgeted Sales Units for the period (from the Sales Budget) = Required Units needed for the period – Number of Units in Beginning Inventory

Direct Materials Budget: shows the budgeted costs for the Direct Materials that will need to be purchased to satisfy the estimated production for the period (1/3 Manufacturing Budget) 

Translates the units to be produced into budgeted costs

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Requires these inputs: 1. Number of units to produce (from the Production Budget ACG 2071 – Accounting 2

Exam 2 Review Sheet Questions & Answers 2. Materials requirements per Unit 3. Budgeted Ending Inventory of Direct Materials 4. Beginning Inventory (in units) of Direct Materials 5. Cost per Unit of Direct Materials Direct Labor Budget: shows the budgeted costs for the Direct Labor that will be needed to satisfy the estimated production for the period (2/3 Manufacturing Budget) 

Because there is no "inventory" of labor, it is easier to prepare that the Direct Materials Budget

Factory Overhead Budget: shows the budgeted costs for Factory Overhead that will be needed to complete the estimated production for the period (3/3 Manufacturing Budget) Selling Expense Budget: an estimate of the types & amounts of Selling Expenses expected during the budget period 

Based on the Sales Budget, plus a fixed amount of sales manager salaries

General & Administrative Expense Budget: plans the predicted operating expenses not included in the selling expenses not included in the Selling Expenses or Manufacturing Budgets Capital Expenditures Budget: shows dollar amounts estimated to be spent to purchase additional planet assets the company will use to carry out its budgeted business activities 

Also shows any amounts expected to be received from plan asset disposals, as companies replace old assets Capital Budgeting: the process of evaluating & planning for capital expenditures

Budgeted Financial Statements & its Components P. 885-886 Budgeted Income Statement: a managerial accounting report showing predicted amounts of sales & expenses for the budgeted period

ACG 2071 – Accounting 2

Exam 2 Review Sheet Questions & Answers Budgeted Sales in Units & Dollars Budgeted Purchases Budgeted Cost of Goods Sold Budgeted Materials Needed Expected Cash Receipts Total Selling Expenses on the Selling Expense Budget Budgeted Direct Labor Cost

ACG 2071 – Accounting 2...