CMA Part 1 Sec C

Cost Management
Muhammed Shakeer MBA , CPA, FCCA, CMA, UAECA
Reference: Hock International

Overall Topics
• Overheads cost allocation
• Process Costing
• Job Order Costing
• Operation Costing
• Activity Based Costing
• Life Cycle Costing
• Joint Products and byproducts costing
• Variable and Absorption Costing
• Shared Service Cost Allocation
• Estimating Fixed and variable costs
• Supply Chain Managmenet
• Business Process Improvement
Basic Definitions
Cost: Resources given up to achieve an objective
Expenses: Costs that have been charged against a revenue in a specific period
“Cost’ is an economic concept while “expense” is an accounting concept. A cost need

not be an expense, but every expense was a cost before it became an expense.
Some costs do not reach income statement. Eg: opportunity costs.

Basic Definitions
Direct costs are costs that can be traced directly to a specific cost object. Eg: Direct
material, direct labor etc.
A cost object is anything for which a separate cost measurement is recorded. It can
be a function, an organizational subdivision, a contract etc.
Indirect costs are costs that cannot be identified with a specific cost object. In
manufacturing, overhead is an indirect cost. Other indirect costs include support
functions such as IT, maintenance and security and managerial functions such as
executive management and other supervisory functions.
Cost classification
Fixed costs do not change within the relevant range of production. As long as the
production volume remains within the relevant range, the total amount of these
costs does not change with a change in production volume. However, the cost per
unit decreases as production increases and increases as production.
Variable cost increases as production increases and decreases as production

decreases. The per unit variable cost remains unchanged as production
increases or decreases.
Note: Over a large enough time period, all costs will behave like variable costs. In the
short term, some costs may be fixed (such as a factory), but over a longer period of
time, the company may be able to change its factory situation so that the factory cost
also becomes variable.
Cost classification
Mixed costs have both a fixed and a variable component. An example is a data plan
on a smartphone.
Mixed Costs may be semi fixed (faculty for each 30 students, nurses for each 25
patients) costs or semi variable costs (utilities).
TC = FC + (VC x total production)
Variable and fixed portion of mixed costs
a. Regression Method – more accurate

b. High – low method
Cost at highest activity level – cost at lowest activity level
Driver at highest activity level – driver at lowest activity level
Cost classification
A company has the following cost data:
Month Machine Hours Maintenance costs

April 1,000 2,275
May 1,600 3,400
June 1,200 2,650
July 800 1,900
August 1,200 2,650
September 1,000 2,275
Variable portion based on high low method = (3400-1900) / (1600-800)

= $1.875 per Machine hour
Fixed cost = Total cost – Total VC
= 1900 – (800*1.875)
Cost classification
Regression method
SUMMARY OUTPUT
Regression Statistics
Multiple R 1
R Square 1
Adjusted R Square 1
Standard Error 7.10543E-14
Observations 6
ANOVA
df SS MS F Significance F
Regression 1 1312500 1312500 2.59967E+32 8.87797E-65
Residual 4 2.01948E-26 5.04871E-27
Total 5 1312500
Coefficients Standard Error t Stat P-value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 400 1.3495E-13 2.96407E+15 7.77318E-62 400 400 400 400
X Variable 1 1.875 1.1629E-16 1.61235E+16 8.87797E-65 1.875 1.875 1.875 1.875
Cost classification
Product vs Period Costs
Product costs / Production costs / inventoriable costs: those costs that go

directly into the production process, without which the product could not be made.
Product costs are “attached” to each unit and will be carried on the balance sheet as
inventory when production is completed. When the item is sold, the cost will be
transferred from the balance sheet to the income statement where it is classified as
cost of goods sold, which is an expense.
Period costs: costs for activities other than production of the product. Eg: salary of
admin staffs etc. Period costs are usually expensed as they are incurred and not part
of COGS. However, for internal decision-making, some period costs may be allocated
to the production departments and then to the individual units.
Cost classification
Direct labor: the costs of labor that can be directly traced to the production of a
product.
Direct material: the materials that are directly put into the finished product.
Manufacturing overhead: the company’s costs related to the production process

that are not direct material or direct labor but are necessary costs of production.
Examples are indirect labor, indirect materials, rework costs, electricity and other
utilities, depreciation of plant equipment, and factory rent.
Note: If an expenditure can be allocated to a cost center or cost object in an economically feasible way then it is called direct otherwise the
cost component will be termed as indirect (ICAI definition)
Cost classification
Indirect labor: the labor that is part of the overall production process but does not
come into direct contact with the product. The maintenance department is a
common example. Indirect labor is a manufacturing overhead cost.
Indirect material: Similar to indirect labor, indirect materials are materials that are
not the main components of the finished goods. Examples are glue, screws and nails
and other materials that may not even be physically incorporated into the finished
good (machine oils, lubricants, and miscellaneous supplies). Indirect materials are a
manufacturing overhead cost.
Cost classification
Prime Costs = Direct Material + Direct Labor
Manufacturing (factory) cost = Prime costs + manufacturing overheads applied
Conversion costs = costs to convert direct material into the final product. i.e. Direct
labor + manufacturing overheads
Sunk costs: costs that have already been incurred and cannot be recovered. Sunk
costs are irrelevant in any decision-making process because they have already been
incurred.
Cost classification
Qh. The estimated unit costs for a company using absorption (full) costing and
planning to produce and sell at a level of 12,000 units per month are as follows.
Cost Item Estimated Unit Cost

Direct materials $32
Direct labor 20
Variable manufacturing o/h 15
Fixed manufacturing o/h 6
Variable selling 3
Fixed selling 4
Cost classification
Question 1: Estimated conversion costs per unit are:

a) $35
b) $41.
c) $48
d) $67
Question 2: Estimated prime costs per unit are:

a) $73
b) $32
c) $67
d) $52.
Cost classification
Question 3: Estimated total variable costs per unit are:

a) $38
b) $70.
c) $52
d) $18
Question 4: Estimated total costs that would be incurred during a month with a
production level of 12,000 units and a sales level of 8,000 units are:
a) $692,000
b) $960,000
c) $948,000 .
d) $932,000
Cost classification
Cost of Goods Manufactured

The COGM represents the cost of the units completed and transferred out of work-
in-process during the period. For a manufacturing company this amount will be part
of the cost of goods sold calculation.
COGM does not include the cost of work that was done on units that were not
finished during the period.
Direct Materials Used

+ Direct Labor Used
+ Manufacturing Overhead Applied
= Total Manufacturing (factory) Costs
+ Beginning Work-in-Process Inventory
− Ending Work-in-Process Inventory
= Cost of Goods Manufactured
Cost classification
Calculating Cost of Goods Sold

COGS represents the cost to produce or purchase the units that were sold during the
period.
Beginning finished goods inventory

+ Purchases (for a reseller) or cost of goods manufactured (for a manufacturer)
− Ending finished goods inventory
= Cost of Goods Sold
Cost classification
Q 5h: The Profit and Loss Statement of Madengrad Mining Inc. includes the following
information for the current fiscal year.
Sales $160,000
Gross profit 48,000
Year-end finished goods inventory 58,300
Opening finished goods inventory 60,190
The cost of goods manufactured by Madengrad for the current fiscal year is
a) $46,110
b) $49,890
c) $110,110.
d) $113,890
Costing system
There are three main ways (plus one variation) in which costs (both direct and
indirect) are allocated to units manufactured. The four systems are:
1) Standard
2) Normal
3) Extended normal
4) Actual costing systems
Standard Costing
A standard cost system assigns standard, or planned, costs to units produced. Direct
materials and direct labor are applied to production by multiplying the standard
price or rate per unit of direct materials/direct labor by the standard amount of
direct materials/direct labor allowed for the actual output.
Costing system
The actual costs incurred will probably be different from the standard costs. The
difference is called a variance. The difference is also called an “under-applied” or
“over-applied” cost. At the end of each accounting period, variances are accounted
for in one of two basic ways: either they are closed out 100% to Cost of Goods Sold
expense on the income statement, or they are prorated among Cost of Goods Sold
and the relevant Inventory accounts on the balance sheet. If the variances are closed
out 100% to Cost of Goods Sold, the cost of the goods in Inventories will be equal to
their standard cost only.
Normal Costing
Direct materials and direct labor costs are applied at their actual rates multiplied by
the actual amount of the direct inputs used for production.
To allocate overhead, a normal cost system uses a predetermined annual

manufacturing overhead rate
Costing system
However, under normal costing, that predetermined rate (normal / budgeted rate) is
multiplied by the actual amount of the allocation base that was used in
producing the product, whereas under standard costing, the predetermined rate is
multiplied by the amount of the allocation base allowed for producing the product.
Extended Normal Costing

In extended normal costing (a variation on normal costing), the costs for direct
materials and direct labor are applied to production by multiplying estimated or
normal rates (not the actual rates that are used in normal costing) by the actual
amount of the direct inputs used.
Actual Costing
The actual direct labor and materials costs and the actual manufacturing overhead
costs are allocated to the units produced. Actual costing is seldom used because it
can produce costs per unit that fluctuate significantly.
Costing system
Log Homes for Dogs, Inc. (LHD) manufactures doghouses made from logs. It offers only one
size and style of doghouse. For the year 20X4, the company planned to manufacture 20,000
doghouses. Overhead is applied on the basis of direct labor hours. The company’s planned
costs were as follows:
Direct materials $45 per doghouse (5 units of DM/doghouse @ $9/ unit)

Direct labor $30 per doghouse (2 DLH/doghouse @ $15/ DLH)
Variable overhead $10 per doghouse (2 DLH/doghouse @ $5/DLH
Fixed overhead $260,000, or $13 per doghouse (2 DLH/doghouse @ $6.50 per DLH)
LHD actually produced and sold 21,000 doghouses during 20X4.
LHD’s actual costs incurred were:

Direct materials $882,000: 5.25 units of DM used per doghouse @ $8/unit of DM
Direct labor $617,400: 2.1 DLH used per doghouse @ $14/DLH
Variable overhead $224,910
Fixed overhead $264,600
Costing system
Total Costs Applied Under Standard Costing:
Direct materials cost applied: $9 std. cost/unit of DM×5 units allowed/house×21,000 = $945,000
Direct labor applied: $15 std. rate/DLH × 2 DLH allowed/house × 21,000 = $630,000
Variable overhead applied: $5 std. rate/DLH × 2 DLH. allowed/house × 21,000 = $210,000
Fixed overhead applied: $6.50 std. rate/DLH × 2 DLH. allowed/house × 21,000 = $273,000
Total Costs Applied Under Normal Costing:

Direct materials cost applied: $8 actual rate/DM unit×5.25 units used/house×21,000 = $882,000
Direct labor cost applied: $14 actual rate/DLH. × 2.1 DLH. used/house × 21,000 = $617,400
Variable overhead applied: $5 est. rate/DLH × 2.1 DLH used/house × 21,000 = $220,500
Fixed overhead applied: $6.50 est. rate/DLH × 2.1 DLH used/house × 21,000 = $286,650
Costing system
Total Costs Applied Under Extended Normal Costing:
Direct materials cost applied: $9 est. rate/DM unit × 5.25 units used/house × 21,000 = $992,250
Direct labor cost applied: $15 est. rate/DLH × 2.1 DLH used/house × 21,000 = $661,500
Variable overhead applied: $5 est. rate/DLH × 2.1 DLH used/house × 21,000 = $220,500
Fixed overhead applied: $6.50 est. rate/DLH × 2.1 DLH used/house × 21,000 = $286,650
Total Costs Applied Under Actual Costing:

Direct materials cost applied: $8 actual rate/DM unit×5.25 units used/house×21,000 = $882,000
Direct labor cost applied: $14 actual rate/DLH × 2.1 DLH used/house × 21,000 = $617,400
Variable overhead applied: $5.101 actual rate/DLH × 2.1 DLH used/house× 21,000 = $224,910
Fixed overhead applied: $6.002 actual rate/DLH × 2.1 DLH used/house×21,000 = $264,600
Costing system
Cost Applied per Unit Under Standard Costing:
Direct materials ($9 std. cost/unit of DM × 5 units of DM allowed) $45.00
Direct labor ($15 std. rate/DLH × 2 DLH allowed) 30.00
Variable overhead ($5/DLH allowed × 2 DLH allowed) 10.00
Fixed overhead ($6.50/DLH allowed × 2 DLH allowed) 13.00
Total cost per unit $98.00
Cost Applied per Unit Under Normal Costing:

Direct materials ($8 actual cost/DM unit × 5.25 units used) $42.00
Direct labor ($14 actual rate/DLH × 2.1 DLH used) 29.40
Variable overhead ($5 est. rate/DLH × 2.1 DLH used) 10.50
Fixed overhead ($6.50 est. rate/DLH × 2.1 DLH used) 13.65
Costing system
Cost Applied per Unit Under Extended Normal Costing:
Direct materials ($9 est. cost/DM unit × 5.25 units used) $47.25
Direct labor ($15 est. rate/DLH × 2.1 DLH used) 31.50
Variable overhead ($5 est. rate/DLH × 2.1 DLH used) 0.50
Fixed overhead ($6.50 est. rate/DLH × 2.1 DLH used) 13.65
Cost Applied per Unit Under Actual Costing:

Direct materials ($8 actual cost/DM unit × 5.25 units) $42.00
Direct labor ($14 actual rate/DLH × 2.1 DLH used) 29.40
Variable overhead ($5.10 actual rate/DLH × 2.1 DLH used) 10.71
Fixed overhead ($6.00 actual rate/DLH × 2.1 DLH used) 12.60
Cost Accumulation Methods
Process costing is used when many identical or similar units of a product or service are being
manufactured, such as on an assembly line. Costs are accumulated by department or by process.
Process costing is appropriate when all of the units are produced in the same way, using the same
resources, usually in an assembly-line fashion. The cost of one unit of finished goods is an average:
it is the total accumulated manufacturing cost for all the units in the batch divided by the number of
units of output in the batch. Mass-produced consumer goods are accounted for using process
costing.
Job order costing / job costing is used when units of a product or service are distinct and
separately identifiable. Costs are accumulated by job. Job costing is used widely in service industries
such as printing companies, advertising agencies, hospitals, repair shops, consulting firms,
accounting firms, and law firms. The term “job” may not be used in a service firm but instead it
might be called “client accounting” or “project accounting.”
Operation costing is a hybrid system in which job costing is used for direct materials costs while a
departmental (process costing) approach is used to allocate conversion costs (direct labor and
over-head) to products or services. Industries suitable for operation costing are apparel
manufacturing, food processing, furniture manufacturing, and electronic equipment manufacturing.
Methods of Allocating Overhead
Volume-based / traditional methods allocate overhead on the basis of a cost driver that is
volume-based, such as number of units produced, number of direct labor hours, or number of
machine hours etc.
Activity-based methods allocate manufacturing overhead to units or jobs using multiple cost
drivers based on cause-and-effect criteria. Activity-based costing uses some volume-based cost
drivers and some non-volume-based cost drivers to allocate overhead more accurately by better
reflecting resource consumption.
Accounting for Direct Manufacturing Inputs in Standard Costing
In a standard cost system, the costs that are applied to the products as they are being manufactured
are the standard costs allowed for the actual amount produced.
In a standard cost system, differences between actual costs and standard costs for direct materials
and direct labor are accounted for using variance accounts in the general ledger. The differences are
accumulated in these variance accounts throughout the reporting period, and at the end of the
period, they are transferred out in the closing entries.
1. Materials Price Variances Recognized When Materials Are Purchased
If the standard cost for Material A is $0.55 per unit but the price when 10,000 units of Material A
are purchased is $0.60 per unit, following entry will be passed.
Dr Raw Materials Inventory 5,500

Dr Materials Price Variance 500
Cr Accounts Payable 6,000
The difference, $500, will remain there until it is resolved at the end of the period in the closing entries.
As production takes place and the materials are put into production, the standard cost of the raw
materials allowed for the actual production is moved to the Work-In-Process Inventory account.
The standard cost per unit for the amount of materials allowed for the actual number of units
produced is debited to WIP Inventory. However, the amount of raw materials actually used to
produce those units will probably be either greater than or less than the standard amount allowed
for the number of units produced. The Raw Materials Inventory account will be credited for the
number of units of raw materials actually used at the standard cost per unit. The difference in cost
due to the difference between the amount used and the amount allowed is a materials usage
variance.
let’s say that 4,000 units of product are produced, and each unit is allowed two units of Material A.
Thus, 8,000 units of Material A at $0.55 per unit were allowed for the 4,000 units of product actually
produced. The company actually uses 8,500 units of Material A to produce 4,000 units of product.
Dr Work-In-Process Inventory 4,400

Dr Materials Usage Variance 275
Cr Raw Materials Inventory 4,675
2. Materials Price Variances Recognized When Materials Are Used In Production
Dr Raw Materials Inventory 6,000

Cr Accounts Payable 6,000
When Material A is used to produce 4,000 units, WIP Inventory will be debited for $0.55 × 8,000, or
$4,400, the standard amount allowed for 4,000 units at the standard per-unit cost of $0.55.
However, the actual usage of Material A was 8,500 units, and the actual cost of Material A was $0.60
per unit. So Raw Materials Inventory will be credited for 8,500 units of Material A at $0.60, or
$5,100, since the full cost of Material A was debited to Raw Materials Inventory when it was
received. The difference, $700, is partly a materials price variance and partly a materials usage
variance. The price variance is $0.05 × 8,500, or $425. The usage variance is $0.55 × 500, or $275.
Dr Work-In-Process Inventory 4,400
Dr Materials Price Variance 425
Dr Materials Usage Variance 275
Cr Raw Materials Inventory 5,100
At the end of the period, variances in the cost of materials caused by price variances and usage
variances may be 100% debited or credited to Cost of Goods Sold, if the variances are immaterial in
relation to the total cost. If the variances are significant in relation to the total cost, they should be
distributed among Raw Materials Inventory, Work-in-Process Inventory, Finished Goods Inventory
and Cost of Goods Sold.
Direct Labor
Since there is no inventory account for direct labor, unlike raw materials, there is only one way of
accounting for differences between the actual hourly rate (price) paid and the standard hourly rate
(price). The variances are accounted for when the direct labor is used.
A company may use a payroll clearing account for the initial debits for salaries and wages earned,
with the credits going to accrued payroll. The amount for direct labor used is then moved out of the
payroll clearing account. Work-In-Process Inventory is debited for the standard direct labor cost
for the actual amount produced, calculated as the standard wage rate × the standard number of
direct labor hours allowed for the actual production. However, the actual cost of the direct labor
used is credited to the payroll clearing account.
Variances in the cost of direct labor caused by rate variances or usage variances may be 100%
debited or credited to Cost of Goods Sold, if the variances are immaterial in relation to the total cost.
If the variances are significant in relation to the total cost, they should be distributed among Raw
Materials inventory, Work-in-Process Inventory, Finished Goods Inventory and Cost of Goods Sold.
Overhead Allocation
In general, overheads are costs that cannot be traced directly to a specific product or unit.
Manufacturing overheads are overheads that are related to the production process (factory rent
and electricity, for example), whereas nonmanufacturing overheads are not related to the
production process. Examples of nonmanufacturing overheads are accounting, advertising, sales,
legal counsel and general corporate administration.
Manufacturing Overhead Allocation
The company must allocate the overheads to the different products that are produced so that the
full costs of production and operation are known in order to set the selling prices for the different
products.
Furthermore, generally accepted accounting principles require the use of absorption costing for
external financial reporting. In absorption costing, all overhead costs associated with
manufacturing a product become a part of the product’s inventoriable cost along with the direct
costs. Therefore, all manufacturing overhead costs must be allocated to the units produced.
Overhead Allocation
The categories of costs included in factory overhead (OH) are:
Indirect materials – materials not identifiable with a specific product or job, such as cleaning
supplies, small or disposable tools, machine lubricant and other supplies.
Indirect labor – salaries and wages not directly attributable to a specific product or job, such as
those of the plant superintendent, janitorial services and quality control.
General manufacturing overheads, such as facilities costs (factory rent, electricity and utilities)
and equipment costs, including depreciation and amortization on plant facilities and equipment.
Overhead Allocation
Traditionally, manufacturing overhead costs have been allocated to the individual products based
on either the direct labor hours, machine hours, materials cost, units of production, weight of
production or some similar measure that is easy to measure and calculate.
Plant-Wide Overhead Allocation

Company may put all of its overhead costs into one cost pool and then allocate the costs in that cost
pool to products using one allocation basis, usually machine hours or labor hours.
Departmental Overhead Allocation

company chooses to have a cost pool for each department that the products pass through in
production.
For example, if Department A uses very little direct labor but a lot of machine time, Department A’s
overhead costs would probably be allocated to products on the basis of machine hours. If
Department B uses a lot of direct labor and very little machine time, Department B’s overhead costs
would probably be allocated to products on the basis of direct labor hours. Or a department that
paints might allocate overhead costs based on square footage or meterage of the painted products,
while a department that assembles products may allocate costs based on the number of parts in
each product.
Overhead Allocation
Once the method, or basis, of manufacturing overhead allocation is determined, the predetermined
manufacturing overhead allocation rate is calculated. The rate that is used to allocate overhead is
usually calculated at the beginning of the year, based upon budgeted overhead for the coming
year and the budgeted level of activity for the coming year.
Determining the Level of Activity

Theoretical, or ideal capacity – the level of activity that will occur if the company produces at its
absolute most efficient level at all times.
Practical (or currently attainable) capacity – the theoretical level reduced by allowances for
unavoidable interruptions such as shutdowns for holidays or scheduled maintenance, though not
de-creased for any expected decrease in sales demand.
Master budget capacity utilization (expected actual capacity utilization) – the amount of
output actually expected during the next budget period based on expected demand.
Normal capacity utilization – the level of activity that will be achieved in the long run, taking into
account seasonal changes in the business as well as cyclical changes.
Overhead Allocation
Example: A company that allocates overhead on the basis of machine hours has the following
budgeted and actual results for 20XX:
Budgeted Actual
Overhead cost $250,000 $288,000
Production volume (units) 100,000 125,000
Total machine hours 200,000 240,000
How much overhead would have been allocated to the production under standard, normal,
extended normal and actual costing?
Standard Normal Extended Normal Actual
Predetermined OH Rate: $1.25 $1.25 $1.25
Actual OH Rate: $1.20
Allocation Base:
Std no. of machine hours 250,000
Actual no. of Machine hrs 240,000 240,000 240,000
OH applied to production $312,500 $300,000 $300,000 $288,000
Overhead Allocation
Accounting for Factory Overhead
Factory overhead includes all costs, both fixed and variable, that cannot be traced to the production
of a specific unit or group of units.
As factory overhead costs are actually incurred, the actual incurred costs are debited to a factory
overhead (OH) control account with the following journal entry:
Dr Factory Overhead Control .............................................. XXX

Cr Cash (or Accounts Payable) .................................................. XXX
As each unit is produced, some of the cost that has accumulated in the Factory Overhead Control
account is transferred to the Work-in-Process (WIP) account with the following journal entry, using
the calculated, predetermined overhead rate and the amount of the allocation base that is allowed
for the actual output.
Dr WIP Inventory .................................................................. XXX

Cr Factory Overhead Control ................................................. XXX
Overhead Allocation
The credit may instead be to an account called Factory Overhead Applied, simply to keep the debits
in one account and the credits in a different account. The Factory Overhead Applied account follows
the Factory Overhead Control account in the chart of accounts. The net of the balances in the two
accounts at any point in time represents under-applied or over-applied overheads.
Over-Applied and Under-Applied Manufacturing Overhead
If the Factory OH Control account has a debit balance it means that we under-applied factory
overhead to the products. If two accounts are being used, the net of the two accounts will be a debit
balance.
If the Factory OH Control account has a credit balance it means we over-applied factory overhead
to the products. If two accounts are being used, the net of the two accounts will be a credit balance.
Actual Costs Incurred

− Factory Overhead Applied During the Period
= Under (Over) Applied Factory Overhead
Overhead Allocation
The remaining balance (the amount over- or under-applied) in the factory overhead control account
must be removed from the account(s) as part of the period end closing entries.
If the amount is immaterial, tis will be debited or credited to COGS.
If the amount of overhead that was over- or under-applied is material, it must be distributed among
the WIP Inventory, Finished Goods Inventory and Cost of Goods Sold accounts. The variances are
pro-rated according to the amount of overhead included in each that was allocated to the current
period’s production.
Whenever costs are allocated proportionately among inventories and cost of goods sold, the cost
per unit for those costs will be the same as if the actual costs per unit instead of the budgeted costs
per unit had been allocated to production during the year.
Overhead Allocation
Question 6: A company allocates overhead to jobs in process using direct labor costs, raw material
costs and machine hours. The overhead application rates for the current year are:
100% of direct labor.

20% of raw materials.
$117 per machine hour.
A particular production run incurred the following costs:
Direct labor, $8,000
Raw materials, $2,000
A total of 140 machine hours were required for the production run.
What is the total cost that would be charged to the production run?
a) $18,000
b) $18,400
c) $24,780
d) $34,780.
Overhead Allocation
Question 7: On January 1, 2005, the first year of operations, Medina Co. had the following annual
budget.
Units produced 20,000
Sales $120,000
Minus:
Total variable expenses70,000
Total fixed expenses 25,000
Net income $ 25,000
Factory overhead:
Variable $40,000
Fixed 20,000
At the end of the first year, there were no units in progress and the actual total factory overhead
incurred was $45,000. There was also $3,000 of over-applied factory overhead. Factory overhead
was allocated on a basis of budgeted units of production. How many units did Medina produce this
year?
a) 14,000, b) 16,000, c) 20,000, d) 23,333
Process Costing
Process costing is used to allocate costs to individual products when the products are all relatively
similar and are mass-produced.
The basic exercise is to allocate all of the incurred costs to either the finished goods that left the
department or to the ending work-in-process (EWIP) that is still in the department.
Issues to be considered
a. Equivalent Units of Production

b. Timing of materials added to the process
c. FIFO / Weighted Avg method of cost allocation
Units in Beginning WIP + Units Transferred In = Units in Ending WIP + Units Completed/Transferred Out
Process Costing
Essentially, there are three different amounts of work that may apply to an individual unit during the period.
1) Completed (beginning work-in-process inventory that has been completed) meaning that some of the work
was done in the previous period.
2) Started and Completed (calculated above), meaning that the unit was started on or transferred in during the
period and was completely finished during this period.
3) Started, meaning that these are units that were started on or transferred in during the period, but were not
finished at the end of the period and thus have not yet been transferred out of the process.
Question 8: Ben Company had 4,000 units in its work-in-process (WIP) on January 1. Each unit was 50%
complete in respect to conversion costs. During the first quarter, 15,000 units were completed. On March 31,
there were 5,000 units in ending WIP that were 70% complete in respect to conversion cost. For this product, all
of the direct materials are added when the unit enters the facility. How many units did Ben start during the first
quarter?
a) 13,000
b) 15,000
c) 16,000.
d) 16,500
Process Costing
Equivalent units of production are partially completed units expressed in terms of finished goods.
At the end of the month, a factory has produced 1,000 units of finished goods and had 500 units in production.
These 500 units are at an intermediate stage. Half the direct labor, direct material, and manufacturing overheads
required to complete the production process have already been consumed.
As 50% of the total cost involved in the manufacturing process has already been incurred, the equivalent units of
production of these 500 units is 250 units.
Example: If there are 100 units in beginning WIP and each unit is 25% complete, if there are no other units
added to the system this period, and at the end of the period there are 100 complete units, the number of EU
produced this period is 75.
Let us assume that in addition to the 100 units in beginning WIP (still 25% complete), there were also 100 units
transferred in during the period, and at the end of the period there are 10 units in ending WIP that are 40%
complete. Calculate
1) The number of units completed,

2) The number of units started and completed, and
3) The number of EUP during the period.
Process Costing
Answers. 190, 90 and 169
Question 9: Ben Company operates a production facility that has three departments. The following
information is in respect to the second production department for the month of May:
Number of units in BWIP 200

% complete for BWIP 20%
Number of units started 1,300
Number of units completed 1,100
Number of units in EWIP 400
% complete for EWIP 80%
The equivalent units of production for Ben Company for May was:
a) 900
b) 1,260
c) 1,380
.
d) 1,620
Process Costing
In EUP questions you must also pay attention to when materials are added to the process to
calculate EUP for materials in both beginning WIP Inventory and ending WIP Inventory.
Question 10: Hoeppner Corp. uses process costing to allocate costs. In the Pressing Department all of the
materials are added at the very beginning of the process. After this first addition, no additional materials are
added during the process. At the end of January, Hoeppner was presented with the following information:
Beginning WIP (60% complete for conversion costs) 2,000

Units started in January 5,000
Transferred out from Pressing during January 6,000
Ending WIP (40% complete for conversion costs) 1,000
What are the equivalent units of production for the month of January?
Materials Conversion
a) 5,000 5,200 .
b) 5,000 5,600
c) 5,200 5,400
d) 5,200 5,200
Process Costing
Cost allocation methods
In FIFO we assume that in each period we finish what is in BWIP before starting any new units.
In WAVG we do not assume that the units in BWIP are finished first and as a result, all of the units (both those
from BWIP and those transferred in or started this period) will be treated the same.
Under FIFO, the cost per EUP calculation will include three elements:
1) The units in BWIP

2) The units started and completed
3) The units in the EWIP
Under WAVG, the cost per EUP calculation will include two elements:
1) The units completed

2) The units in the EWIP
Process Costing
Question 11: The following data pertain to a company's cracking-department operations in December.
Units Completion
Work-in-process, December 1 20,000 50%
Units started 170,000
Units completed and transferred

to the distilling department 180,000
Work-in-process, December 31 10,000 50%
Materials are added at the beginning of the process and conversion costs are incurred uniformly
through-out the process. Assuming use of the FIFO method of process costing, the equivalent units of
conversion performed during December were:
a) 170,000 equivalent units

b) 175,000 equivalent units
.
c) 180,000 equivalent units

d) 185,000 equivalent units
Process Costing
Levittown Company employs a process cost system for its manufacturing operations. All direct
materials are added at the beginning of the process, and conversion costs are added
proportionately. The production schedule for November is:
Units
WIP on November 1 (60% complete as to conversion costs) 1,000
Units started during November 5,000
Total units to account for 6,000
Units completed and transferred out from BI 1,000

Units started and completed during November 3,000
WIP on November 30 (20% complete as to conversion costs) 2,000
Total units accounted for 6,000
Question 12: Using FIFO, the EUP for direct materials for November are:
a) 5,000 units
.
b) 6,000 units
c) 4,400 units
d) 3,800 units
Process Costing
Question 13: Using FIFO, the EUP of conversion costs for November are:
a) 3,400 units
b) 3,800 units
.
c) 4,000 units
d) 4,400 units
Question 14: Using weighted-average, the EUP for materials for November are:
a) 3,400 units
b) 4,400 units
c) 5,000 units
d) 6,000 units
.
Question 15: Using weighted-average, the EUP for conversion costs for November are:
a) 3,400 units
b) 3,800 units
c) 4,000 units
d) 4,400 units
.
Process Costing
A sporting goods manufacturer buys wood as a direct material for baseball bats. The Forming
Department processes the baseball bats, which are then transferred to the Finishing Department
where a sealant is applied. The Forming Department began manufacturing 10,000 "Casey Sluggers"
during the month of May. There was no beginning inventory.
Costs for the Forming Department for the month of May were as follows:
Direct materials $33,000

Conversion costs 17,000
Total $50,000
A total of 8,000 bats were completed and transferred to the Finishing Department; the remaining
2,000 bats were still in the forming process at the end of the month. All of the Forming
Department's direct materials were placed in process, but, on average, only 25% of the conversion
cost was applied to the ending work-in-process inventory.
Process Costing
Question 16: The cost of the units transferred to the Finishing Department is:
a) $50,000
b) $40,000
c) $53,000
d) $42,400 .
Question 17: The cost of the work-in-process inventory in the Forming Department at the end of
May is:
a) $10,000
b) $2,500
c) $20,000
d) $7,600.
Process Costing
Kimbeth Manufacturing uses a process cost system to manufacture Dust Density Sensors for the
mining industry. The following information pertains to operations for the month of May.
Units
Beginning work-in-process inventory, May 1 16,000
Started in production during May 100,000
Completed production during May 92,000
Ending work-in-process inventory, May 31 24,000
The beginning inventory was 60% complete for materials and 20% complete for conversion costs.
The ending inventory was 90% complete for materials and 40% complete for conversion costs.
Costs pertaining to the month of May are as follows:
• Beginning inventory costs are materials, $54,560; direct labor, $20,320; and factory overhead,
$15,240.
• Costs incurred during May are materials used, $468,000; direct labor, $182,880; and factory
overhead, $391,160.
Process Costing
Question 19: Using the weighted-average method, the equivalent unit cost of materials for May is
a) $4.12
b) $4.50
c) $4.60
.
d) $5.02
Question 20: Using the weighted-average method, the equivalent unit conversion cost for May is
a) $5.65
b) $5.83
c) $6.00
.
d) $6.20
Process Costing
Spoilage
Normal spoilage: the costs that have been allocated to the normally spoiled units are added to the
costs of the good units that are transferred out to finished goods (or the next department).
Abnormal Spoilage: expensed on the income statement in that period as a loss from abnormal
spoilage.
Question 22: A company that manufactures baseballs begins operations on January 1. Finished
baseballs are inspected and defective ones are pulled out. Defective baseballs cannot be
economically salvaged and are destroyed. Normal spoilage is 3% of the number of baseballs that
pass inspection. Cost and produc-tion reports for the first week of operations are: Raw materials
cost - $840 and Conversion cost - $315. During the week 2,100 baseballs were completed and 2,000
passed inspection. There was no ending WIP. Calculate abnormal spoilage.
a) $33
b) $20.35
c) $22.
d) $1,100
Process Costing
Question 23: A company employs a process cost system using the FIFO method. The product
passes through both Department 1 and Department 2 in order to be completed. Units enter
Department 2 upon completion in Department 1. Additional direct materials are added in
Department 2 when the units have reached the 25% stage of completion with respect to conversion
costs. Conversion costs are added proportionally in Department 2. The production activity in
Department 2 for the current month was:
Beginning work-in-process inventory (40%

complete with respect to conversion costs) 15,000
Units transferred in from Department 1 80,000
Units to account for 95,000
Units completed and transferred to finished goods 85,000

Ending work-in-process inventory (20%
complete with respect to conversion costs) 10,000
Units accounted for 95,000
Process Costing
How many equivalent units for direct materials were added in Department 2 for the current
month?
a) 70,000 units
.
b) 80,000 units
c) 85,000 units
d) 90,000 units
Question 24: Assume 5,500 units were worked on during a period when a total of 5,000 good units
were completed. Normal spoilage consisted of 300 units; abnormal spoilage, 200 units. Total
production costs were $2,200. The company accounts for abnormal spoilage separately on the
income statement as loss due to abnormal spoilage. Normal spoilage is not accounted for
separately. What is the cost of the good units produced?
a) $2,080
b) $2,120.
c) $2,200
d) $2,332
Process Costing
Question 25: During May 20X5, Mercer Company completed 50,000 units costing $600,000,
exclusive of spoilage allocation. Of these completed units, 25,000 were sold during the month. An
additional 10,000 units, costing $80,000, were 50% complete at May 31. All units are inspected
between the completion of manufacturing and transfer to finished goods inventory. Normal
spoilage for the month was $20,000, and abnormal spoilage of $50,000 was also incurred during
the month. The portion of total spoilage that should be charged against revenue in May is
a) $50,000
b) $20,000
c) $70,000
d) $60,000.
Job Order Costing
Job-order costing is a cost system in which all of the costs associated with a specific job (or client)
are accumulated and charged to that job (or client).
This method can be used when all of the products or production runs are unique and identifiable
from each other. A good example of this is an audit or legal firm.
Question 26: Lucy Sportswear manufactures a line of T-shirts using a job-order cost system.
During March, the following costs were incurred completing Job ICU2: direct materials, $13,700;
direct labor, $4,800; administrative, $1,400; and selling, $5,600. Factory overhead was applied at
the rate of $25 per machine hour, and Job ICU2 required 800 machine hours. If Job ICU2 resulted in
7,000 good shirts, the cost of goods sold per unit would be:
a) $6.50
b) $6.30
c) $5.70
d ) $5.50
..
Operation Costing
Operation costing is a hybrid, or combination, of job-order costing and process costing. In this
method of costing, a company applies the basic operation of process costing to a production
process that produces batches of items. These different batches follow a similar process, but the
direct materials that are input to each batch are different.
Examples of a system where this would be appropriate are clothing, furniture, shoes and similar
items.
In operation costing the direct materials are charged to the specific batch where they are used, but
conversion costs are accumulated and distributed using a predetermined conversion cost per unit.
These conversion costs are allocated by batch.
Activity-Based Costing
According to the Statement of Management Accounting, activity-based costing:
“identifies the causal relationship between the incurrence of cost and activities, determines the
underlying driver of activities, establishes cost pools related to individual drivers, develops costing
rates, and applies cost to product on the basis of resources consumed (drivers).”
• An activity is an event, task or unit of work with a specified purpose. Examples of activities are
designing products, setting up machines, operating machines, making orders or distributing
products.
• A cost object is anything for which costs are accumulated for managerial purposes. Examples of
cost objects are a specific job, a product line, a market or certain customers.
• A cost driver is anything (it can be an activity, an event or a volume of something) that causes
costs to be incurred each time the driver occurs.
Traditional costing systems allocate costs according to general usage of resources, such as usage of
machine hours or direct labor used. These resources used may or may not have a connection with
the costs being allocated.
With ABC, the cost allocations are not based on usage of resources. Instead, they are based on
activities performed and what those activities cost. ABC is much more detailed than traditional
costing, because it uses many more cost pools and each cost pool has its own cost driver.
The manufacturing overhead costs that the company incurs are accumulated in cost pools. Each
cost pool is associated with one of the cost drivers (activities). A cost pool is similar to the
traditional overhead account for each activity, or cost driver. These cost pools collect the costs
associated with the various activities (drivers) that incur the costs, and then the costs are allocated
as the drivers are used or consumed in the production of the product.
Categories of Activities
Unit-level activities – These activities are performed for each unit that is produced. Some
examples are hours of work, inspecting each item, operating a machine and performing a specific
assembly task.
Batch-level activities – These activities occur each time a batch is produced. Some examples are
machine setup, purchasing, scheduling, materials handling and batch inspection.
Product-sustaining activities – These activities are incurred in order to support the production of
a different product from what is currently produced. Examples include product design and
engineering changes.
Facility-sustaining activities – These activities are incurred to support production in general,

such as security, maintenance, plant management, depreciation of the factory and property taxes.
Zeta Company is preparing its annual profit plan. As part of its analysis of the profitability of
individual products, the controller estimates the amount of manufacturing overhead that should be
allocated to the individual product lines from the information given as follows:
Wall Mirrors Specialty Windows

Units produced 25 25
Material moves per product line 5 15
Direct labor hours per unit 200 200
Budgeted materials handling costs - $50,000 in total
Question 28: Under a costing system that allocates manufacturing overhead on the basis of direct
labor hours, the materials handling costs allocated to one unit of wall mirrors would be:
a ) $1,000
.
b) $500
c) $2,000
d) $5,000
Question 29: Under activity-based costing (ABC), the materials handling costs allocated to one
unit of wall mirrors would be:
a) $1,000
b ) $500
.
c) $1,500
d) $2,500
Believing that its traditional cost system may be providing misleading information, an organization
is considering an activity-based costing approach. It now employs a full cost system and has been
applying its manufacturing overhead on the basis of machine hours.
The organization plans on using 50,000 direct labor hours and 30,000 machine hours in the coming
year. The following data shows the budgeted manufacturing overhead.
Budgeted activity Budgeted costs
Activity Cost Driver
Material handling No. of parts handled 6,000,000 720,000
Setup costs No. of setups 750 315,000
Machining costs Machine hours 30,000 540,000
Quality control No. of batches 500 225,000
Total Manufacturing Overhead Cost $1,800,000
Cost, sales and production for one of the organization’s products for the coming year are as follows:
Prime Costs
Direct material cost per unit $4.40
Direct labor cost per unit = 0.05 DLH @ $15/DLH 0.75
Total Prime Cost $5.15
Sales and Production Data
Expected sales 2,000,000 units

Batch size 5,000 units
Setups 2 per batch
Total parts per finished unit 5 parts
Machine hours required 80 MH per batch
Question 30: If the organization uses the traditional full cost system, the cost per unit for this
product for the coming year will be:
a) $5.39
b) $5.44
c ) $6.11
.
d) $6.95
Question 31: If the organization employs an activity-based costing system, the cost per unit for the
product described for the coming year will be:
a) $6.00
b) $6.08
c) $6.21
d ) $6.30
.
Life-Cycle Costing
The company takes a much longer view to the cost of production and attempts to allocate all of the
research and development, marketing, development, after-sale service and support costs and any
other cost that is associated with this product during its life cycle.
All of the costs in the life cycle of the company can be broken down into three categories.
Upstream Costs (before production)

• Research and Development
• Design – prototyping (the first model), testing, engineering, quality development
Manufacturing Costs
• Purchasing
• Direct and indirect manufacturing costs (labor, materials and overhead)
Downstream Costs (after production)

• Marketing and distribution
• Services and warranties
Joint Products and Byproducts
Joint products occur when one production process leads to the production of two or more finished
products.
An example of joint products would be the processing of pineapple. As a pineapple goes through
processing at the factory it becomes juice and pineapple slices that will be canned. These are two
products that arise from the same process and as such the joint costs of processing the pineapple
need to be allocated to the juice and to the slices.
The main issue with joint products is how to account for the joint costs (those costs incurred prior
to the split off point) and how to allocate these costs to the different products. Accurate allocation
is needed primarily for financial reporting purposes and pricing decisions. We need to accurately
determine the inventory cost of each unit of each joint product so that the balance sheet will be
accurate. And since the inventory cost of each unit becomes its cost of goods sold when it is sold,
we need to know the amount of cost to be expensed to COGS for each unit sold.
Byproducts are the low-value products that occur naturally in the process of producing higher
value products. They are, in a sense, accidental results of the production process.
Methods of Allocating Costs to Joint Products
1. Relative Sales Value at Split off Method (or Gross Market Value Method)
Joint costs are allocated on the basis of the sales values of each product at the split off point,
relative to the total sales value of all the joint products.
Amount allocated to the individual Joint Product = Sales value of product X ÷ Total Sales value of all
joint products * Joint Costs
2. Estimated Net Realizable Value (NRV) Method
This method is essentially the same as the Relative Sales Value method, and the allocation is done
in the same way, except an estimated Net Realizable Value (NRV) is used for the product or
products that must be or will be processed further.
Estimated Net Realizable Value = Sales price of items produced that will be sold in the future (-)
Separable costs that are incurred after the split off point
Eg: Simpli Chili Company produces three flavors of its chili in a joint process: mild, original and extra
spicy. 500,000 gallons of unspiced chili are produced per batch, and then varying amounts and types
of spices are added to produce the mild, original and extra spicy flavors. The three types of chili are
packaged in 16-ounce cans. The total joint cost of the unspiced chili is $1,850,000.
One batch results in 500,000 gallons of unspiced chili. The unspiced chili is, of course, not marketable
at that point. It needs spices.
After the spices have been added, Simpli has 800,000 cans of mild chili, 2,000,000 cans of original
chili, and 1,200,000 cans of extra spicy chili. The cost per can of adding the spices and blending them
into the unspiced chili are as follows:
Mild 0.065
Original 0.075
Extra spicy 0.080
The mild chili sells for $0.98 per can. The original chili sells for $1.05 per can. The extra spicy chili
sells for $1.09 per can.
Using the Net Realizable Value method of allocating the joint costs, how much of the joint costs will be
allocated to each type of chili?
Cost of
further
Product no. of Cans Price / Can Sales processing NRV % of NRV
Mild 800,000 0.98 784000 52,000 732,000 18.8%
Original 2,000,000 1.05 2100000 150,000 1,950,000 50.1%
Extra Spicy 1,200,000 1.09 1308000 96,000 1,212,000 31.1%
4,000,000 3,894,000 100%
Mild 347,766
Original 926,425
Extra Spicy 575,809

3. Physical Measure and Average Cost Methods
In the Physical Measure method, the joint cost allocation is done based on the weight, volume, or
other physical measure of the joint products, such as pounds, tons, or gallons. In the Average Cost
method, the joint cost allocation is done based on the physical units of output.
Eg: Simpli produces three flavors of its chili in a joint process: mild, original, and extra spicy.
500,000 gallons of unspiced chili are produced per batch, and then varying amounts and types of
spices are added to produce the mild, original and extra spicy flavors.
Each of the three types of chili is packaged in a choice of can sizes: 12-ounce, 16-ounce and 20-
ounce cans. 100,000 gallons are used to produce the mild chili, 250,000 gallons are used for the
original chili, and 150,000 gallons are used for the extra spicy chili. The total joint cost of the
unspiced chili (including direct materials, direct labor and overhead) is $1,850,000. The joint cost
is allocated as follows:
Physical Allocation of Joint

Product measures Proportion costs
Mild 100,000 20% 370,000
Original 250,000 50% 925,000
Extra Spicy 150,000 30% 555,000
500,000 100% 1,850,000
4. Constant Gross Profit (Gross-Margin) Percentage Method
This method allocates the joint costs so that all of the joint products will have the same gross
margin percentage.
Step 1: Calculate the gross margin percentage for the total of all of the joint products. This is done
for all of the joint products produced during the period, not for all of the joint products sold during
the period. This is the total gross margin percentage.
Step 2: Calculate the gross profit for each of the individual products by multiplying the total gross
margin percentage calculated in Step 1 by each individual product’s final sales value.
Step 3: Subtract the gross profit calculated in Step 2 and any separable costs from each individual
product’s final sales value. The result of this subtraction process will be the amount of joint costs to
allocate to each product.
Eg: Pineapple Co. produces pineapple juice and canned slices at its Pineapple Processing Plant in
Hawaii. The information about the process and the two joint products is as follows:
• 10,000 pineapples are processed.

• The process results in 2,500 kg of juice and 7,500 kg of slices.
• The juice can be sold for $10 per kg and the slices can be sold for $15 per kg.
• The joint costs of production are $120,000.
• The juice can be processed further into a premium juice. This will cost an additional $8,000, but the
sales price per kg will be $15.
• The slices can be further processed into chunks. This will cost $4,000 and the chunks can be sold for
$2 per kg more than the slices.
Ans.
GP total – 20% (165K-12K-120K)/165K

Individual GP required 7,500 & 25,500
Join cost allocated is 22K and 98K
Accounting for Byproducts
1. The Production Method: Inventory the Byproduct Costs
Byproducts are inventoried in a separate inventory account at their estimated net realizable value.
Inventoried costs allocated to the main product or joint products are reduced by the NRV allocated to
the byproduct. When the byproduct is sold, the company recognizes no revenue or cost of goods sold
but simply debits cash or accounts receivable and credits Byproduct Inventory.
2. The Sales Method: Revenue from the Byproduct
In the Sales Method, the byproduct costs are not put into inventory separately from the main product
or joint products. Instead, all of the costs of production are allocated to the main product or joint
products in inventory. When the main product or joint products are sold, their COGS will be higher
than it would have been under the Production Method. Since the byproduct is not put into inventory
at all, when it is sold the sale is recorded the way service revenue would be recorded, with no
associated COGS. So the company debits cash or accounts receivable and credits revenue for the
amount of the sale.
Question 32: Lankin Corp. produces two main products and a byproduct out of a joint process. The
ratio of output quantities to input quantities of direct materials used in the joint process remains
consistent from month-to-month. Lankin has employed the physical-volume method to allocate joint
production costs to the two main products. The net realizable value of the byproduct is used to reduce
the joint production costs before the joint costs are allocated to the two main products. Data
regarding Lankin’s operations for the current month are presented in the chart below. During the
month, Lankin incurred joint production costs of $2,520,000. The main products are not marketable
at the splitoff point and, thus, have to be processed further.
1st Main Product 2nd Main Product Byproduct

Monthly input in pounds 90,000 150,000 60,000
Selling price per pound $30 $14 $2
Separable process costs $540,000 $660,000
The amount of joint production cost that Lankin would allocate to the Second Main Product by using
the physical-volume method to allocate joint production costs would be:
a) $1,200,000 b) $1,260,000 c ) $1,500,000 d) $1,575,000

.
Question 33: Sonimad Sawmill manufactures two lumber products from a joint milling process. The
two products developed are mine support braces (MSB) and unseasoned commercial building lumber
(CBL). A standard production run incurs joint costs of $300,000 and results in 60,000 units of MSB
and 90,000 units of CBL. Each MSB sells for $2 per unit, and each CBL sells for $4 per unit.
If there are no further processing costs incurred after the splitoff point, the amount of joint cost
allocated to the mine support braces (MSB) on a relative sales value basis would be:
a ) $75,000
.
b) $180,000
c) $225,000
d) $120,000
Question 34: A company manufactures products X and Y using a joint process. The joint processing
costs are $10,000. Products X and Y can be sold at splitoff for $12,000 and $8,000, respectively. After
splitoff, product X is processed further at a cost of $5,000 and sold for $21,000, whereas product Y is
sold without further processing. If the company uses the relative sales value method for allocating
joint costs, the joint cost allocated to X is:
a) $5,000
b ) $6,000
.
c) $6,667
d) $10,000
Variable and Absorption Costing
Variable and absorption costing are two different methods of inventory costing. Under both variable
and absorption costing, all variable manufacturing costs (both direct and indirect) are inventoriable
costs. The only two differences between the two methods are in:
1) Their treatment of fixed manufacturing overhead

2) The income statement presentation of the different costs
In absorption costing, Fixed factory overheads are allocated to the units produced at a
predetermined rate as if they were variable costs, even though they are not variable costs.
FOH allocation rate = Budgeted Dollar Amount of Manufacturing Overhead ÷ Budgeted Activity Level
Under variable costing, fixed factory overheads are a period cost that are expensed in the period
when they are incurred. This means that no matter what the level of sales, all of the fixed factory
overheads will be expensed in the period when incurred.
For external reporting purposes, GAAP requires the use of absorption costing for fixed
manufacturing cost allocation.
Effects of Changing Inventory Levels
Because fixed factory overheads are treated differently in these two methods, it is most certain that
these two methods (variable and absorption) will result in different amounts of net income or net
loss for the same period of time.
Only when production and sales are equal in a period (meaning that there is no change in inventory
levels and everything that was produced was sold) there will not be a difference between the incomes
reported under these two methods.
Whenever inventory changes over a period of time, the two methods will give different levels of net
income.
If production is greater than sales, the net income calculated under the absorption method is
greater because some of the fixed factory overheads were inventoried under this method.
If production is lower than sales, the variable method will result in a greater net income.
Because sales were greater than production, some of the products that were produced in previous
years were sold in the current period.
The following information is for the next two questions:
Product sales: 1,000 units at $10 each

Variable manufacturing costs: $5.50 per unit
Fixed manufacturing overhead (planned and actual): $1,200
Variable selling and administrative costs: $0.50 per unit sold
Fixed selling and administrative costs: $1,000
Units produced (planned and actual): 1,200
Beginning inventory 0 units
Question 36: Operating income under variable (direct) costing is:
a) $600 b) $700 c ) $1,800

. d) $2,300
Question 37: Assuming operating income under variable costing is $1,800, operating income under
absorption costing is:
a) $1,800 b) $1,967 c ) $2,000

. d) $2,167
Question 39: Nance Corp began operations in January. The company produced 50,000 units and sold
45,000 units in its first year of operations. Costs for the year were as follows:
Fixed Manufacturing Costs $250,000

Variable Manufacturing Costs 180,000
Fixed General and Selling Costs 75,000
Variable General and Selling Costs 80,000
How would the net income of Nance compare between the variable method and full absorption
costing methods?
a) Variable would be $25,000 higher.

b ) Absorption would be $25,000 higher.
.
c) Variable would be $32,500 higher.

d) Absorption would be $32,500 higher.
The following information is for the next two questions: Osawa planned to produce and actually
manufactured 200,000 units of its single product in its first year of operations. Variable
manufacturing costs were $30 per unit of product. Planned and actual fixed manufacturing costs were
$600,000, and the selling and administrative costs totaled $400,000. Osawa sold 120,000 units of
product at a selling price of $40 per unit.
Question 41: Osawa’s operating income using absorption costing is:
a) $200,000 b ) $440,000
. c) $600,000 d) $840,000
Question 42: Osawa’s operating income using variable costing is:
a ) $200,000
. b) $440,000 c) $800,000 d) $600,000
The following information is for the next six questions: Valyn Corporation employs an absorption
costing system for internal reporting purposes; however, the company is considering using variable
costing. Data regarding Valyn's planned and actual operations for the calendar year is:
Planned Activity Actual Activity
Beginning finished goods inventory in units 35,000 35,000
Sales in units 140,000 125,000
Production in units 140,000 130,000
The planned per unit cost figures shown in the next schedule were based on the estimated production
and sale of 140,000 units for the year. Valyn uses a predetermined manufacturing overhead rate for
applying manufacturing overhead to its product; therefore, a combined manufacturing overhead rate
of $9.00 per unit was employed for absorption costing purposes. Any over- or under-applied
manufacturing overhead is closed to the cost of goods sold account at the end of the reporting year.
The beginning finished goods inventory for absorption costing purposes was valued at the previous
year's planned unit manufacturing cost, which was the same as the current year's planned unit
manufacturing cost. There are no work-in-process inventories at either the beginning or the end of
the year. The planned and actual selling price per unit for the current year was $70.00 per unit.
Per Unit Cost Planned total Costs Incurred Cost
Direct materials 12 1,680,000 1,560,000
Direct labor 9 1,260,000 1,170,000
Variable manufacturing
OH 4 560,000 520,000
Fixed manufacturing OH 5 700,000 715,000
Variable selling expenses 8 1,120,000 1,000,000
Fixed selling expenses 7 980,000 980,000

Variable administrative
Exp 2 280,000 250,000
Fixed administrative Exp 3 420,000 425,000

Total 50 7,000,000 6,620,000
Question 43: The value of Valyn Corporation's current year actual ending finished goods inventory
under the absorption-costing basis was:
a) $900,000 b ) $1,200,000 c) $1,220,000

. d) $1,350,000
Question 44: The value of Valyn Corporation's actual ending finished goods inventory on the variable
costing basis was:
a) $1,400,000 b) $1,125,000 c ) $1,000,000 d) $750,000

.
Question 45: Valyn Corporation's total fixed costs expensed under the absorption costing basis were:
a ) $2,095,000
. b) $2,120,000 c) $2,055,000 d) $2,030,000
Question 46: Valyn Corporation's actual manufacturing contribution margin calculated under the
variable costing basis was:
a) $4,375,000 b) $4,935,000 c) $4,910,000 d ) $5,625,000

.
Question 47: The total variable cost currently expensed by Valyn Corporation under the variable
costing basis was:
a ) $4,375,000 b) $4,500,000 c) $4,325,000

. d) $4,550,000
Question 48: The difference between Valyn Corporation's operating income calculated on the
absorption costing basis and calculated on the variable costing basis was:
a) $65,000 b ) $25,000
. c) $40,000 d) $90,000
Shared Services Cost Allocation
Shared services are administrative services that are provided by a central department to the
company’s operating units. Usage of the services by the individual departments (cost objects) can be
traced in a meaningful way based upon a cost driver that fairly represents their usage of the service.
Note: Allocation of shared service costs to products does not change the fact that for external
financial reporting purposes, the costs of service departments are period expenses and are expensed
as they are incurred. Allocation of shared service costs does not make them product costs. The
allocation of service costs to the production departments is strictly an internal function that is used
for decision-making, and it is not reflected in the company’s external financial statements.
Allocating Costs of A Single (One) Service or Support Department to Multiple Users
Single-Rate Method – The single-rate method does not separate fixed costs of service departments
from their variable costs. It puts all of the service department costs into one cost pool and allocates
the costs using one allocation base.
Dual-Rate Method – The dual-rate method breaks the cost of each service department into two
pools, a variable-cost pool and a fixed-cost pool, and allocates each cost pool using a different cost-
allocation base.
Allocation bases for either the single-rate method or the dual-rate method can be:
• Budgeted rate and budgeted hours to be used by the operating divisions.

• Budgeted rate and actual hours used by operating divisions.
Allocating Costs of Multiple Service or Support Departments
The three methods of allocation are:
1) The direct method

2) The step (or step-down) method
3) The reciprocal method
The direct method
Under the direct method the reciprocal services that are provided by the different shared service
departments to each other are ignored. The company will simply allocate all of the shared service
departments’ costs directly to the production departments.
The Step-Down or Sequential Method

In the step-down method we attempt to recognize the services that the shared service departments
provide to each other, but we only make one allocation of the costs of each service department. After a
particular service department has had its costs allocated, it will not receive any costs from other
service departments.
The Reciprocal Method

The reciprocal method is the most complicated and advanced of these methods because it recognizes
all of the services that are provided by the shared service departments to the other shared service
departments.
The managers of Rochester Manufacturing are discussing ways to allocate the cost of support
departments such as Quality Control and Maintenance to the production departments. To aid them,
they were provided the following information:
Quality
Control Maintenance Machining Assembly Total
Budgeted overhead costs

before allocation 350,000 200,000 400,000 300,000 1,250,000
Budgeted machine hours 50,000 50,000
Budgeted direct labor hours 25,000 25,000
Budgeted hours of service:
Quality Control 7,000 21,000 7,000 35,000
Maintenance 10,000 18,000 12,000 40,000

Question 50: If Rochester uses the direct method of allocating support department costs, the total
support costs allocated to the Assembly Department would be:
a) $80,000 b) $87,500 c) $120,000 d ) $167,500

.
Question 51: If Rochester uses the direct method, the total amount of overhead allocated to each
machine hour at Rochester would be:
a) $2.40 b) $5.25 c) $8.00 d ) $15.65

.
Question 52: If Rochester uses the step-down method of allocating support costs beginning with
quality control, the maintenance costs allocated to the Assembly Department would be:
a) $70,000 b ) $108,000
. c) $162,000 d) $200,000
Question 53: If Rochester uses the reciprocal method of allocating support costs, the total amount of
quality control costs to be allocated to the other departments would be:
a) $284,211 b) $336,842 c) $350,000 d ) $421,053

.
Question 54: If Rochester decides not to allocate support costs to the production departments, the
overhead allocated to each direct labor hour in the Assembly Department would be:
a) $3.20 b) $3.50 c ) $12.00

. d) $16.00
Supply Chain Management
Supply chain management is the active management of supply chain activities by the members of a
supply chain with the goals of maximizing customer value and achieving a sustainable competitive
advantage. The supply chain firms endeavor to develop and run their supply chains in the most
effective and efficient ways possible. Supply chain activities cover product development, sourcing,
production, logistics, and the information systems needed to coordinate these activities.
Lean Manufacturing
Lean manufacturing is a philosophy and system of manufacturing that was developed originally by
Toyota. The emphasis in lean manufacturing is on cutting out waste in the manufacturing process.
“Waste” is anything other than the minimum amount of equipment, materials, parts, and working
time that is absolutely essential to add value to the customer. Waste is anything that does not add
value to the customer or anything the customer is not willing to pay for. Identifying and eliminating
waste is a primary focus of lean manufacturing.
Kaizen is part of the lean manufacturing philosophy. The term kaizen is a Japanese word that means
“improvement.” As used in business, it implies “continuous improvement”.
Just-In-Time (JIT) production and inventory management are also used in lean manufacturing.
JIT is a process for synchronizing materials, operators, and equipment so that the people and the
materials are where they need to be, when they need to be there, and in the state they need to be in.
Kanban is a Japanese inventory system. The word “kanban” means “card” or “sign” or “visual record”
in Japanese. Kanban is an integral part of lean manufacturing and JIT systems. Kanban provides the
physical inventory control cues that signal the need to move raw materials from the previous process.
A kanban can be a card, a labeled container, a computer order, or some other device that is used to
signal that more products or parts are needed from the previous production process. The kanban
contains information on the exact product or component specifications that are needed for the next
process.
However, if production is being controlled perfectly, there will be no need for kanban because the
needed parts will arrive where they are needed at just the right time. The number of kanban should
be decreased over time.
kanban can be extended beyond being a lean manufacturing and JIT technique because it can also
support industrial reengineering and HR management.
Introduction to MRP, MRPII, and ERP
MRP, MRPII, and ERP are all integrated information systems that have evolved from early database
management systems. MRP stands for Material Requirements Planning; MRPII refers to
Manufacturing Resource Planning, and ERP stands for Enterprise Resource Planning. MRP and MRPII
systems are predecessors of ERP systems, though MRP and MRPII are still used widely in
manufacturing organizations.
Material Requirements Planning (MRP)
MRP is an approach to inventory management that uses computer software to help manage a
manufacturing process. It is a system for ordering and scheduling of dependent demand inventories.
Dependent demand is demand for items that are components, or subassemblies, used in the
production of a finished good. The demand for them is dependent upon the demand for the finished
goods.
MRP is a “push-through” inventory management system. In a push-through system, finished goods are
manufactured for inventory on the basis of demand forecasts. MRP makes it possible to have the
needed materials available when they are needed and where they are needed.
When demand forecasts are made by the sales group, the MRP software breaks out the finished
products to be produced into the required components and determines total quantities to be ordered
of each component and when each component should be ordered, based upon information about
inventory of each component already on hand, vendor lead times and other parameters that are input
into the software.
Although MRP is a push inventory system, it can also be used in a “demand-pull” situation, if an
unexpected order is received.
Manufacturing Resource Planning (MRPII)
Manufacturing Resource Planning (MRPII) is a successor to Material Requirements Planning. While

MRP is concerned mainly with raw materials for manufacturing, MRPII’s concerns are more extensive.
MRPII integrates information regarding the entire manufacturing process, including functions such as
production planning and scheduling, capacity requirement planning, job costing, financial
management and forecasting, order processing, shop floor control, time and attendance, performance
measurement, and sales and operations planning.
If a firm wants to integrate information on its non-manufacturing functions with the information on
its manufacturing functions, it needs an ERP system.
Enterprise Resource Planning (ERP)
Enterprise Resource Planning (ERP) is a successor to Manufacturing Resource Planning. It is usually a

suite of integrated applications that is used to collect, store, manage and interpret data across the
organization. Often the information is available in real-time. The applications share data, facilitating
information flow among business functions.
Increasingly, ERP systems are being extended outside the organization as well, for example enabling
supply chain management solutions in which vendors can access production schedules and materials
inventory levels so they know when to ship more raw materials.
Theory of Constraints (TOC)
A constraint is anything that prevents the system from achieving its goal. There are many ways that
constraints can show up, but a core principle within TOC is that there are not tens or hundreds of
constraints. There is at least one, but at most only a few in any given system. Constraints can be
internal or external to the system. An internal constraint is in evidence when the market demands
more from the system than it can deliver. If this is the case, then the focus of the organization should
be on discovering that constraint and following the five focusing steps to open it up (and potentially
remove it). An external constraint exists when the system can produce more than the market will
bear. If this is the case, then the organization should focus on mechanisms to create more demand for
its products or services.
Types of (internal) constraints

Equipment: The way equipment is currently used limits the ability of the system to produce more
salable goods/services.
People: Lack of skilled people limits the system. Mental models held by people can cause behaviour
that becomes a constraint.
Policy: A written or unwritten policy prevents the system from making more.
Theory of Constraints says that constraint processes are the only areas where improvements in their
performance will bring about a meaningful change in overall profitability.
Manufacturing cycle time, also called manufacturing lead time or throughput time, is usually
defined as the amount of time between the receipt of a customer order and the shipment of the order.
Manufacturing cycle efficiency, is the ratio of the actual time spent on production to the total cycle
time.
MCE = Value-Adding Manufacturing Time ÷ Total Manufacturing Cycle Time
Notice that only actual manufacturing time, time when value is being added to the product, is
included in the numerator. Waiting time, time spent on equipment maintenance and other non-value
adding time is not included in the numerator. For example, if the actual time spent on manufacturing
is 3 days while the total manufacturing cycle time is 10 days, the MCE is 30%. Companies would like
their MCE to be as close to 1 as possible, because that means very little time is being spent on non-
value-adding activities.
5 steps in managing constraint operations in TOC
1. Identify the constraint.
2. Determine the most profitable product mix given the constraint. The product with the highest throughput contribution
margin per minute in the constraint will be the most profitable.
3. Maximize the flow through the constraint.
4. Add capacity to the constraint (elevate the constraint).
5. Redesign the manufacturing process for flexibility and fast cycle time.
Drum: The drum is the process that takes the longest time. It is the constraint.
Rope: The rope consists of all of the processes that lead up to the drum, or the constraint. Activities
preceding the drum must be carefully scheduled so that they do not produce more output than can be
processed by the constraint, because this creates excess inventory and its associated costs with-out
increasing throughput contribution margin. But at the same time, the constraint must be kept
working with no down time.
Buffer: The buffer is a minimum amount of work-in-process inventory (a “buffer” inventory) of jobs
waiting for the constraint that is maintained to make sure the constraint process is kept busy at all
times.
Example: A company manufactures garments. The manufacture of a jacket involves four separate
processes:
1) Cutting the fabric pieces

2) Stitching the fabric pieces together
3) Hemming the sleeves and the bottom of the jacket
4) Finishing the jacket, folding it and packaging it in clear plastic.
The process that takes the most time is the hemming of the sleeves and the bottom of the jacket.
The garment manufacturer sells only to wholesalers, who in turn sell to retailers. The time required for
each process for one jacket and the available time is as follows. The total hours available per month is
calculated by assuming 22 work days per person per month and 7 hours work per person per day.
Minutes required per Total available hours per
unit No. of employees month
Cutting 18 20 3,080
Stitching 20 23 3,542
Hemming 30 28 4,312
Finishing, folding and
packaging 10 11 1,694
The demand per month averages 10,000 jackets per month. The constraint process is the process for
which the demand exceeds the hours available. Here are the total hours required to produce 10,000
jackets per month using the current number of employees and the current equipment. The total hours
required is 10,000 × minutes required per unit ÷ 60.
Total hours
Total hours required available Excess / shortgae
Cutting 3000 3080 -80
Stitching 3334 3542 -208
Hemming 5000 4312 688
Finishing, folding
and packaging 1667 1694 -27
Since the work the employees is doing is not specialized to their jobs, this shows that some of the
employees currently doing other jobs could be shifted to the hemming process, since they have some
extra time and the hemming process requires more time than is currently available. One employee
currently doing cutting could spend half time doing hemming instead. And 1 employee could be shifted
from stitching to hemming. The company has enough equipment to accommodate those changes. The
number of employees per process will change to 19.5 for Cutting, 22 for Stitching, and 29.5 for
Hemming. That would create the following changes in total hours available and the differences:
The demand per month averages 10,000 jackets per month. The constraint process is the process for
which the demand exceeds the hours available. Here are the total hours required to produce 10,000
jackets per month using the current number of employees and the current equipment. The total hours
required is 10,000 × minutes required per unit ÷ 60.
Total hours
Total hours required available Excess / shortgae
Cutting 3000 3080 -80
Stitching 3334 3542 -208
Hemming 5000 4312 688
Finishing, folding
Since the work the employees is doing is not specialized to their jobs, this shows that some of the
employees currently doing other jobs could be shifted to the hemming process, since they have some
extra time and the hemming process requires more time than is currently available. One employee
currently doing cutting could spend half time doing hemming instead. And 1 employee could be shifted
from stitching to hemming. The company has enough equipment to accommodate those changes. The
number of employees per process will change to 19.5 for Cutting, 22 for Stitching, and 29.5 for
Hemming. That would create the following changes in total hours available and the differences:
Total hours Total hours
required available Excess / shortgae
Cutting 3000 3003 -3
Stitching 3334 3388 -54
Hemming 5000 4543 457
Finishing, folding
The production capability of the whole department is dependent upon the production capability of the
constraint, which is the hemming process. The production line cannot move any faster than its slowest
process. After making these duty reassignments, the company still does not have the capacity to produce
10,000 units per month. With 4,543 hours available, the company can produce only 9,086 jackets per
month (4,543 hours available × 60 minutes per hour ÷ 30 minutes to hem one jacket).
In the long term, if the company wants to meet the full demand, it will need to either hire more
hemming employees and invest in equipment for them to use, or it will need to find some way to
increase the speed of the hemming process. The company finds it can invest in attachments for the
hemming machines that will reduce the time for the hemming from 30 minutes per jacket to 27
minutes per jacket. After analyzing the costs of the two alternatives, management determines it will
cost less to purchase the attachments for the hemming machines in order to make better use of the
4,543 hours available with current employees and equipment. With hemming requiring only 27
minutes per jacket, the time required for 10,000 jackets will be 4,500 hours.
In TOC terms, inventory costs are limited to costs that are strictly variable, called “super-variable,”
and these are usually only direct materials. “Operating cost” is defined as the cost of converting the
inventory into throughput. All of these operating costs are treated as period costs that are being
expensed as incurred, and they are not inventoried. Direct labor is not included in the calculation
of throughput contribution margin, and thus it is considered an operating cost.
EEK Industries produces thingamajigs. The thingamajigs sell for $200 per unit. The product goes
through three processes. The processes, costs and volumes are as follows:
Molding Heat Transfer Trimming
Direct labor required per unit @ $25/hr. 0.5 hrs. (2 units/hr.) 0.25 hrs. (4 units/hr.) 0.5 hrs. (2 units/hr.)
Direct labor hours available per day 225 100 200

Direct materials per unit 100 20 0
Annual fixed manufacturing OH 1,000,000 750,000 250,000

Fixed selling & dist exp (allocated based on
DL hrs) 428,571 190,476 380,953
Daily capacity in units based on DL hrs.
available 450 400 400
Annual capacity in units (260 working days
per year) 117,000 104,000 104,000
Annual production & sales 104,000 104,000 104,000
EEK has a policy of not laying off idle workers but instead finds other work for them to do such as
maintenance on equipment. The company can sell all it can produce.
Question 55: What is the throughput contribution per unit according to the theory of constraints?
a) $48.75 b) $80.00 c) $30.59 d) $29.52
Question 56: What is the throughput contribution per day?
a) $36,000 b) $19,500 c) $12,236 d) $32,000
Question 57: What are the annual operating costs?
a) $3,412,500 b) $1,000,000 c) $6,412,500 d) $5,412,500

Business Process Improvement
A business process is a related group of activities encompassing several functions that produces a
specific product or service of value to a customer or customers.
Competitive Advantage is an advantage that a company has over its competitors that it gains by
offering consumers greater value than they can get from its competitors. The greater value may be in
lower prices for the same product or service; or it may be in offering greater benefits and service than
its competitors do, thereby justifying higher prices.
The Value Chain
The value chain describes the company’s chain of activities for transforming inputs into the outputs
that customers will value. This process of transformation includes all of the primary activities
(business functions) that add value to the product or service, as well as support activities.
Profit Margin = Value Created and Captured – Cost of Creating that Value
Profit Margin = Value Created and Captured – Cost of Creating that Value
Value chain analysis can help an organization gain competitive advantage by identifying the ways in
which the organization creates value for its customers. Value chain analysis identifies the steps or
activities that do and do not increase the value to the customers. Once those areas are identified, the
organization can maximize the value by increasing the related benefits or reducing (even eliminating)
non-value-adding activities.
The resulting increase in value to the customer and/or decrease in production costs will make the
company more profitable and competitive.
The firm should analyze each step in its operations carefully to determine how each activity
contributes to the company’s profits and its competitiveness. The goal of value chain analysis is to
provide maximum value to the customer for the minimum possible cost.
Business Process Reengineering
BPR involves analyzing and radically redesigning the workflow. Radical redesign means throwing out
the old procedures and inventing new ways of getting the work done. Reengineering is not about
making incremental improvements but it is about making quantum leaps.
The philosophy of “reengineering” business processes was set forth by Michael Hammer and James
Champy. They recommend that in reengineering, the work should be organized around outcomes, not
tasks. In other words, think about what you want to accomplish, then think of ways to accomplish it
rather than thinking of tasks to be done.
The processes in the organization should first be identified, then they should be prioritized for
reengineering according to three criteria: (1) which processes are the most dysfunctional, (2) which
will have the greatest impact on customers, and (3) for which ones reengineering is most feasible.
They emphasize the use of technology: not to make old processes work better, but to break the rules
and create new ways of working. One of the primary “rules” in the use of technology is that
information should be captured only once, and it should appear simultaneously every place it is
needed. If someone is taking information from one system and inputting it into another, that is a
process that is broken and needs to be reengineered.
Benchmarking
Benchmarking is the process of measuring the organization against the products, practices and
services of some of its most efficient global competitors or against those of other segments of the
firm. The company can use these standards, also called best practices, as a target or model for its
own operations.
Activity-Based Management (ABM)
Activity-based management uses activity analysis and activity-based costing data to improve the
value of the company’s products and services and to increase the company’s competitiveness.
The Costs of Quality
The cost of quality includes not only the cost of producing quality products, but it is also the cost of
not producing quality products.
Calculating the Costs of Quality
The costs of quality (conformance and nonconformance) can be quantified and documented on a cost
of quality report. A cost of quality report shows the financial impact of implementing processes for
prevention and appraisal and for responding to internal and external failures.
Activity-based costing simplifies preparation of a COQ report, because an ABC system identifies costs
with activities.
Total Quality Management (TQM)
TQM describes an approach that is committed to customer satisfaction and continuous improvement
of products or services. The basic premise of TQM is that quality improvement is a way of increasing
revenues and decreasing costs. As such, a company should always strive for improvement in
performing its job and producing its product correctly the first time. Total Quality Management is a
prevention technique. The costs of implementing a TQM program are classified on a Cost of Quality
Report as prevention costs.
The objectives of TQM include:
• Enhanced and consistent quality of the product or service

• Timely and consistent responses to customer needs
• Elimination of non-value-adding work or processes, which leads to lower costs
• Quick adaptation and flexibility in response to the shifting requirements of customers
Fishbone (Cause-and-Effect) Anaysis
A cause-and-effect diagram, or Ishikawa, diagram, organizes causes and effects visually to sort out
root causes and identify relationships between causes. Operating personnel and management hold a
series of meetings, called “brainstorming sessions,” in which they attempt to figure out what is
causing the problems.
Question 65: Listed below are selected line items from the Cost of Quality Report for Watson Products
for last month.
Category Amount
Rework $ 725
Equipment maintenance 1,154
Product testing 786
Product repair 695
What is Watson's total prevention and appraisal cost for last month?
a) $2,665
b) $1,154
c) $786
d) $1,940

CMA Part 1 Sec C

Uploaded by

Copyright:

Available Formats

CMA Part 1 Sec C

Uploaded by

Document Information

Original Description:

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

CMA Part 1 Sec C

Uploaded by

Copyright:

Available Formats

Cost Management

Muhammed Shakeer MBA , CPA, FCCA, CMA, UAECA

Reference: Hock International

Cost: Resources given up to achieve an objective

“Cost’ is an economic concept while “expense” is an accounting concept. A cost need

Some costs do not reach income statement. Eg: opportunity costs.

Variable cost increases as production increases and decreases as production

TC = FC + (VC x total production)

Variable and fixed portion of mixed costs

a. Regression Method – more accurate

A company has the following cost data:

Month Machine Hours Maintenance costs

Variable portion based on high low method = (3400-1900) / (1600-800)

Product vs Period Costs

Product costs / Production costs / inventoriable costs: those costs that go

Manufacturing overhead: the company’s costs related to the production process

Prime Costs = Direct Material + Direct Labor

Manufacturing (factory) cost = Prime costs + manufacturing overheads applied

Cost Item Estimated Unit Cost

Question 1: Estimated conversion costs per unit are:

Question 2: Estimated prime costs per unit are:

Question 3: Estimated total variable costs per unit are:

Cost of Goods Manufactured

Direct Materials Used

Calculating Cost of Goods Sold

Beginning finished goods inventory

To allocate overhead, a normal cost system uses a predetermined annual

Extended Normal Costing

Direct materials $45 per doghouse (5 units of DM/doghouse @ $9/ unit)

LHD actually produced and sold 21,000 doghouses during 20X4.

LHD’s actual costs incurred were:

Total Costs Applied Under Normal Costing:

Total Costs Applied Under Actual Costing:

Cost Applied per Unit Under Normal Costing:

Cost Applied per Unit Under Actual Costing:

1. Materials Price Variances Recognized When Materials Are Purchased

Dr Raw Materials Inventory 5,500

Dr Work-In-Process Inventory 4,400

Dr Raw Materials Inventory 6,000

Manufacturing Overhead Allocation

The categories of costs included in factory overhead (OH) are:

Plant-Wide Overhead Allocation

Departmental Overhead Allocation

Determining the Level of Activity

Dr Factory Overhead Control .............................................. XXX

Dr WIP Inventory .................................................................. XXX

Over-Applied and Under-Applied Manufacturing Overhead

Actual Costs Incurred

100% of direct labor.

a. Equivalent Units of Production

1) The number of units completed,

Number of units in BWIP 200

Beginning WIP (60% complete for conversion costs) 2,000

1) The units in BWIP

1) The units completed

Units started 170,000

Units completed and transferred

Work-in-process, December 31 10,000 50%

a) 170,000 equivalent units