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Encyclopedia of Business, 2nd Edition - Books24x7

CCACMCycleTime EncyclopediaofBusiness,2ndEdition byJaneA.Malonis(ed)

GaleGroup 2000Citation

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CostAccounting
Costaccountingisasubsetofaccountingthatdevelopsdetailedinformationaboutcostsastheyrelatetounits ofoutputandtodepartments,primarilyforpurposesofprovidinginventoryvaluation(productcosting)for financialstatements,control,anddecisionmaking. Manufacturingcostsflowthroughthreebasicresponsibilitycenters:therawmaterialsstoreroom,thefactory,and thefinishedgoodstoreroom.Theseinventoryaccountsareusuallyprovidedtoaccumulatecostsastheyrelate tothethreeresponsibilitycenters:rawmaterialinventory,workinprocessinventory,andfinishedgoodinventory. Whengoodsaresold,costsaretransferredfromthefinishedgoodsinventoryaccounttothecostofgoodssold account.TheflowofcoststhroughthemanufacturingprocessisillustratedinFigure1.

TypesofCostSystems
Eitherajobordercostsystemoraprocesscostsystemisusedtoassigncoststomanufacturedproductsfor purposesofcontrollingcostsandcostingproducts.Ajobordercostsystemaccumulatescostsofmaterial, labor,andmanufacturingoverheadexpensebyspecificorders,jobs,batches,orlots.Jobordercostsystems arewidelyusedinconstruction,furniture,aircraft,printing,andsimilarindustrieswherethecostsofaspecificjob dependontheparticularorderspecification. Processcostsystemsareusedbyfirmsthatmanufactureproductsthroughcontinuousflowsystemsorona massproductionbasis.Industriesthatuseprocesscostsystemsincludechemicals,petroleumproducts, textiles,cement,glass,mining,andmanyothers.Inaprocesscostsystem,costsforadepartmentorprocess areaccumulated.Perunitcostsareobtainedbydividingthetotaldepartmentalcostsbythequantityproduced duringagivenperiodinthedepartmentorprocess.

ManufacturingCosts
Manufacturingcostsincludedirectmaterial,directlabor,andmanufacturingoverheadcosts.Directmaterialand directlaborcostscanusuallybetraceddirectlytoparticularunitsmanufactured.Manufacturingoverheadcosts incurredduringaperiodareusuallyallocatedtounitsmanufacturedbasedonapredeterminedoverheadrate. Thisoverheadrateisbasedonthebudgetedoverheadcostsfortheperiodandtheestimatedlevelofactivity(for example,unitsproduced,directlaborhours,directlaborcosts).Thepredeterminedfactoryoverheadrateper directlaborhourwouldbecomputedasshownintheformulabelow(usingassumeddata): PredeterminedOverheadRate=EstimatedYearlyOverhead/EstimatedYearlyDirectLaborHours

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=$500,000/100,000 =$5perdirectlaborhour If400directlaborhourswereworkedonaparticularjob,$2,000(400x$5)inoverheadcostswouldbeassigned tothatjob.Anydifferencebetweenthetotaloverheadcostsactuallyincurredduringayearandthetotalamount assignedtounitsinproductioncanbechargedtocostofgoodssoldfortheyeariftheamountisnotmaterial.If material,thevariancecanbedistributedamongtheworkinprocessinventory,finishedgoodsinventory,andcost ofgoodssold.

StandardCostSystems
Standardcostsystemsarewidelyusedforbudgetingandperformanceevaluationpurposesinbothjoborder andprocesscostsystems.Standardcostsarepredeterminedtargetcosts,andareusedtoassistinthebudget process,identifytroubleareas,andevaluateperformance.Inastandardcostsystem,productcostingis achievedbyusingpredeterminedstandardcostsformaterial,directlabor,andoverhead.Standardcostsare developedonthebasisofhistoricalcostdataadjustedforexpectedchangesintheproduct,production techniques,engineeringestimates,andotherconsiderations.Standardsmaybeestablishedatanyoneofthe followinglevels: 1. Idealstandardsaresetforthelevelofmaximumefficiency. 2. Normalstandardsaresettoreflecttheconditionsthatareexpectedtoexistoveraperiodsufficient totakeintoconsiderationseasonalandcyclicalfluctuations. 3. Currentlyattainablestandardsaresetatalevelthatrepresentsanticipatedconditionsassuming efficientoperations. Becausepredeterminedstandardsusuallydifferfromactualcostsincurred,avariancetypicallyexists.An unfavorablevarianceresultswhenactualcostexceedsstandardcostafavorablevarianceresultswhen standardcostexceedsactualcost.Theusualapproachfollowedinstandardcostanalysisistoseparateprice factorsfromefficiencyfactors.Whentheactualamountpaiddiffersfromthestandardamount,thevarianceis referredtoasaprice,rate,orspendingvariance.Whentheactualinputquantity(e.g.,tons,laborhours)differs fromthestandardinputquantity,thevarianceisreferredtoasaquantity,volume,oryieldvariance.The relationshipsbetweenactualandstandardprice/quantityareillustratedinthediagraminFigure2.Thediagram showstwotypesofpricesandquantities:actualandstandard.Apricevarianceisconceptualizedasthe differencebetweenquadrant1and2.Aquantityvarianceisreflectedinthedifferencebetweenquadrants2and 4.

Theformulasfortypicaldirectmaterialanddirectlaborvariancesincludethefollowing: 1. Directmaterialpricevariance=Actualquantitiespurchased(ActualpriceStandardprice). 2. Materialquantity(usage,efficiency)variance=(ActualquantityusedStandardquantityallowed) Standardprice. 3. Directlaborratevariance=Actualhoursused(ActuallaborrateStandardlaborrate). 4. Directlaborefficiencyvariance=(ActualhoursusedStandardhoursallowed)Standardlabor rate. Controllingoverheadcostsisusuallymoredifficultthancontrollingdirectmaterialanddirectlaborcostsbecause

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itisdifficulttoassignresponsibilityforoverheadcostsincurred.Ageneralapproachtocontrollingoverhead costsinvolvescomputingtwovariances:thecontrollableoverheadvarianceandtheoverheadvolumevariance. Thecontrollableoverheadvarianceisthedifferencebetweentheactualoverheadcostsincurredandthefactory overheadbudgetedforthelevelofproductionachieved.Thisvariancemeasuresthedifferencebetweenthe overheadcostsactuallyincurredandthecoststhatshouldhavebeenincurredatthelevelofoutputattained.The overheadvolume(orusage)varianceisthedifferencebetweenthefactoroverheadbudgetedforthelevelof productionachievedandtheoverheadappliedtoproductionusingthestandardoverheadrate.Avolumevariance arisesifmoreorlessplantcapacitythannormalisactuallyused.Whentheexpectedcapacityusageis exceeded,theoverheadvolumevarianceisfavorable. Variancesshouldbeanalyzedifthecostofdoingsodoesnotexceedthebenefitsthatcanbeexpectedfromthe analysis.Ifthevariancesaretobeanalyzed,theyshouldbeexaminedtofindtheircauses.Atthispoint,it shouldbedeterminedwhatactionshouldbetaken,ifany.

JustinTimeCosting
Justintime(JIT)costingisusedinmanufacturingwherebyeachunitofproductisproducedonlyuponrequestor requisition.Thiscanresultinthemaintenanceofminimalinventorylevelsoffinishedgoods,workinprocess, andrawmaterial.WhenJITcostingisusedasacostingsystem,materialcostandworkinprocesscostsare combinedintoasingleresourcesinprocessaccount.Directlaborandoverheadarealsocombinedintoa conversioncostaccount.

ActivityBasedCosting
Underactivitybasedcosting(ABC)overheadcostsareallocatedtoproductsonthebasisoftheresources consumedineachactivityrelatingtothedesign,production,anddistributionofparticularproducts.Costsare assignedtohomogeneouscostpoolsthatrepresentspecificactivities.Theallocationofthesecoststoproducts isaccomplishedthroughappropriatecostdrivers.Costdriversaretransactionrelatedandvolumerelated,which representthecausesofcostsincurredinspecificactivities(seeTable1). Table1:ActivityBasedCosting Opentableasspreadsheet Activity Repairs,maintenance Cafeteria Materialhandling Personnelmanagement Warehouseactivities Deliveryofproducts Orderentry Billings Sellingcosts Administrativecosts Receivingdepartment Disbursing Machining Purchaseofmaterial CostDriver Repairhoursormachinehours Numberofemployees Poundsofmaterialmoved Numberofmaterialsmoved Numberofemployeesserved Poundsorcrateshandled Milesdriven Numberofproducts Ordersprocessed Numberofcustomers Numberofproducts Linestypedorbillsprocessed Unitssoldorsalesindollars Unitssoldorsalesindollars Numberofshipmentsreceived Numberofchecksissued Numberofmachinehours Numberofpurchase transactions
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JointProductsandByProducts
Jointcostsarecostsofsimultaneouslyproducingoracquiringtwoormoreproductsthatareproducedor acquiredtogether.Jointproductsresultingfromthesingleproductionprocessusuallyrequirefurtherprocessing. Typically,noneofthejointproductshavearelativevalueofsuchasizethatitcanbedesignatedamajor product.Jointproductshavecommoncostsincurredbeforethesplitoffpoint.Thesplitoffpointisthepointof productionwhenthejointproductscanbeidentifiedandremovedfromthecommonprocess. Byproductsarethoseproductsemergingatthesplitoffpointthathaveminorsalesvalueascomparedwith thoseofthemajorproducts.Inmanyoperations,byproductsarethesameasscrap.Byproductsfrequentlyare notallocatedtoanyofthetotaljointcostsincurredintheprocess.Ifadditionalcostsincurredalterthesplitoffto furtherprocessthebyproducts,thesecostsareusuallyassignedtothebyproduct.

CostofGoodsManufacturedStatement
Acostofgoodsmanufacturedstatementsummarizesthemanufacturingactivitiesofaperiod.Thestatementis illustratedinFigure3.

Costs
Costsareexpenditures(decreasesinassetsorincreasesinliabilities)madetoobtaineconomicbenefit,usually resourcesthatcanproducerevenues.Costcanalsobedefinedassacrificesmadetoacquireagoodorservice. Usedinthissense,acostrepresentsanasset.Anexpenseisacostthathasbeenusedbythecompanyinthe processofobtainingrevenue,i.e.,thebenefitsassociatedwiththegoodorservicehaveexpired.Costscanbe classifiedinmanywaysincluding: 1. Directandindirectcosts: Directcostsareoutlaysthatcanbeidentifiedwithaspecificproduct,departmentor activity.Forexample,thecostofmaterialandlaborthatareidentifiablewitha particularphysicalproductaredirectcostsfortheproduct. Indirectcostsarethoseoutlaysthatcannotbeindetifiedwithaspecificproduct, departmentoractivity.Taxes,insurance,andtelephoneexpensearecommon examplesofindirectcosts. 2. Productandperiodcosts: Productcostsareoutlaysthatcanbeassociatedwithproduction.Forexample,the directcostsofmaterialsandlaborusedintheproductionofanitemareproduct costs. Periodcostsareexpendituresthatarenotdirectlyassociatedwithproduction,butare associatedwiththepassageofatimeperiod.Thepresidentssalary,advertising
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expense,interest,andrentexpensesareexamplesofperiodcosts. 3. Fixed,variable,andmixedcosts: Fixedcostsarecoststhatremainconstantintotal(notperunit)regardlessofthe volumeofproductionorsales,overarelevantrangeofproductionorsales.Rentand depreciationaretypicallyfixedcosts. Variablecostsarecoststhatfluctuateintotal(notperunit)asvolumeofproduction orsalesfluctuates.Directlaboranddirectmaterialcostsusedinproductionandsales commissionsareexamplesofvariablecosts. Mixedcostsarecoststhatfluctuatewithproductionotsale,butnotdirectlyin proportiontoproductionorsales.Mixedcostscontainelementsoffixedandvariable costs.Costsofsupervisionandinspectionareusuallymixedcosts. 4. Controllableanduncontrollablecosts: Controllablecostsarecoststhatareidentifiedasaresponsibilityofanindividualor department,andthatcanberegulatedwithinagivenperiod.Officesupplieswould ordinarilybeconsideredcontrollablecostsforanofficemanager. Uncontrollablecostsarethosecoststhatcannotberegulatedbyanindividualor departmentwithinagivenperiod.Forexample,rentexpenseisanuncontrollablecost forthefactorymanager. 5. Outofpocketcostsandsunkcosts: Outofpocketcostsarecoststhatrequiretheuseofcurrenteconomicresources. Taxesandinsuranceareoutofpocketcosts. Sunkcostsareoutlaysorcommitmentsthathavealreadybeenincurred.Thecostof equipmentalreadypurchasedisasunkcost. 6. Incremental,opportunity,andimputedcosts: Incrementalcost(ordifferentialcost)costisthedifferenceintotalcostsbetween alternatives. Opportunitycostisthemaximumalternativebenefitthatcouldbeobtainedif economicresourceswereappliedtoanalternativeuse. Imputedcostsarecoststhatcanbeassociatedwithaneconomiceventwhenno exchangetransactionhasoccurred. 7. Relevantcostisanexpectedfuturecostandacostthatrepresentsthedifferenceincostsamong alternatives. CharlesWoelfel,updatedbyJoanK.Cousins

FurtherReading
Horngren,CharlesT.CostAccounting.PrenticeHall,1996. .ManagementandCostAccounting.PrenticeHall,1998. Polimeni,RalphS.,SheilaA.Handy,andJamesA.Cashin.SchaumsOutlineofTheoryandProblemsofCost Accounting.McGrawHill,1994.

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