Chapter 1

An Introduction to
Managerial Accounting
and Cost Concepts
 Work of Management

Planning
Directing and
Motivating

Controlling
 Planning

Identify
alternatives.

Select alternative that does

the best job of furthering
organization’s objectives.

Develop budgets to guide

progress toward the
selected alternative.
 Directing and Motivating
Directing and Motivating

Directing and motivating involves managing

day-to-day activities to keep the
organization running smoothly.
 Employee work assignments.
 Routine problem solving.
 Conflict resolution.
 Effective communications.
 Controlling

The control function ensures

that plans are being followed.

Feedback in the form of performance reports

that compare actual results with the budget
are an essential part of the control function.
 Planning and Control Cycle
Formulating long-
Begin
and short-term plans
(Planning)

Comparing actual
Implementing
to planned Decision plans (Directing
performance Making and Motivating)
(Controlling)

Measuring
performance
(Controlling)
Comparison of Financial and Managerial
Accounting
Financial Accounting Managerial Accounting
1. Users External persons who Managers who plan for
make financial decisions and control an organization

2. Time focus Historical perspective Future emphasis

3. Verifiability Emphasis on Emphasis on relevance
versus relevance verifiability for planning and control
4. Precision versus Emphasis on Emphasis on
timeliness precision timeliness

5. Subject Primary focus is on Focuses on segments

the whole organization of an organization
6. GAAP Must follow GAAP Need not follow GAAP
and prescribed formats or any prescribed format
7. Requirement Mandatory for Not
external reports Mandatory
 Learning Objective
LO1

To identify and give

examples of each of the
three basic
manufacturing cost
categories
 Manufacturing Costs

Direct Direct Manufacturing

Materials Labor Overhead

The Product
 Direct Materials

Raw materials that become an integral part of

the product and that can be conveniently
traced directly to it.

Example: A radio installed in an automobile

 Direct Labor

Those labor costs that can be easily traced to

individual units of product.

Example: Wages paid to automobile assembly workers

 Manufacturing Overhead

Manufacturing costs that cannot be traced directly to

specific units produced.
Examples: Indirect materials and indirect labor

Materials used to support Wages paid to employees

the production process. who are not directly
involved in production
Examples: lubricants and work.
cleaning supplies used in the Examples: maintenance
automobile assembly plant. workers, janitors and
security guards.
 Classifications of Costs

Manufacturing costs are often

classified as follows:
Direct Direct Manufacturing
Material Labor Overhead

Prime Conversion
Cost Cost
 Non-manufacturing Costs

Administrative
Selling Costs
Costs

Costs necessary to get All executive,

the order and deliver organizational, and
the product. clerical costs.
 Learning Objective
LO2

To distinguish between
product costs and
period costs and give
examples of each
Product Costs Versus Period Costs
Product costs include Period costs are not
direct materials, direct included in product
labor, and costs. They are
manufacturing expensed on the
overhead. income statement.
Cost of
Inventory Goods Sold
Expense

Sale

Balance Income Income

Sheet Statement Statement
 Product Costs Versus Period Costs

Balance Sheet
Product Costs
(manufacturing Current assets
costs) as and inventory
incurred
When goods
Income are sold.
Statement
Period Costs Revenue
(operating COGS
expenses and Gross profit
income taxes.) Expenses
as Net income.
incurred
 Quick Check 

Which of the following costs would be

considered a period rather than a product cost
in a manufacturing company?
A. Manufacturing equipment depreciation.
B. Property taxes on corporate headquarters.
C. Direct materials costs.
D. Electrical costs to light the production
facility.
E. Sales commissions.
 Quick Check 

Which of the following costs would be

considered a period rather than a product cost
in a manufacturing company?
A. Manufacturing equipment depreciation.
B. Property taxes on corporate headquarters.
C. Direct materials costs.
D. Electrical costs to light the production
facility.
E. Sales commissions.
 Comparing Merchandising and
Manufacturing Activities
Merchandisers . . . Manufacturers . . .
 Buy finished goods.  Buy raw materials.
 Sell finished goods.  Produce and sell
finished goods.

MegaLoMart
Inventories of a Manufacturing Business

Raw materials - inventory on

hand and available for use.

Finished Work in
goods- process -
completed partially
goods awaiting completed
sale. goods.
 The Flow of Physical Goods
Materials Factory
Direct Direct
Warehouse
materials materials
purchased used

Direct labor &

Manufacturing overhead
Finished
goods
Finished goods
Warehouse
Goods
sold
 The Flow of Manufacturing Costs

Direct Materials Direct Work in Process

materials Inventory materials Inventory
purchased used
$$$ $$$ $$$ $$$

Direct labor &

Manufacturing overhead
Cost of goods
manufactured
Cost of Finished Goods
Goods Sold Inventory

$$$ $$$ $$$

 Balance Sheet

Merchandiser Manufacturer
Current assets Current Assets
 Cash  Cash

 Receivables  Receivables
 Prepaid Expenses
 Prepaid expenses
 Inventories:
 Merchandise Raw Materials
inventory
Work in Process
Finished Goods
 Balance Sheet

Merchandiser Manufacturer
Current assets Current Assets
 Cash  Cash

 Receivables  Receivables
Materials waiting to
 Prepaid Expenses
be processed.
 Prepaid expenses
Partially complete  Inventories:
 Merchandise
products – some Raw Materials
inventory
material, labor, or Work in Process
overhead has been Finished Goods
added.
Completed products
awaiting sale.
 Learning Objective
LO3

To prepare an income
statement including
calculation of the cost of
goods sold
 The Income Statement
Cost of goods sold for manufacturers differs only
slightly from cost of goods sold for
merchandisers.
Merchandising Company Manufacturing Company

Cost of goods sold: Cost of goods sold:

Beg. merchandise Beg. finished
inventory $ 14,200 goods inv. $ 14,200
+ Purchases 234,150 + Cost of goods
Goods available manufactured 234,150
for sale $ 248,350 Goods available
- Ending for sale $248,350
merchandise - Ending
inventory (12,100) finished goods
= Cost of goods inventory (12,100)
sold $ 236,250 = Cost of goods
sold $236,250
 Inventory Flows

Withdrawals
Beginning Additions Ending
balance + to inventory = balance + from
inventory
 Quick Check 

If your inventory balance at the beginning of

the month was $1,000, you bought $100
during the month, and sold $300 during the
month, what would be the balance at the end
of the month?
A. $1,000.
B. $ 800.
C. $1,200.
D. $ 200.
 Quick Check 

If your inventory balance at the beginning of

the month was $1,000, you bought $100
during the month, and sold $300 during the
month, what would be the balance at the end
of the month?
A. $1,000. $1,000 + $100 = $1,100
B. $ 800. $1,100 - $300 = $800
C. $1,200.
D. $ 200.
 Learning Objective
LO4

To prepare the schedule

of cost of goods
manufactured
Schedule of Cost of Goods Manufactured

Calculates the cost of raw

material, direct labor and
manufacturing overhead
used in production.

Calculates the manufacturing

costs associated with goods
that were finished during the
period.
Schedule of Cost of Goods Manufactured
Manufacturing Work
The direct materials cost is not
Raw Materials Costs In Process
simply the cost of materials
Beginning raw
materials inventory
purchased during the period—
+ Raw materials rather it is the cost of materials
purchased
= Raw materials used during the period.
available for use
in production
– Ending raw materials
inventory
= Raw materials used
in production
Schedule of Cost of Goods Manufactured
Manufacturing Work
Conversion
Raw Materials Costs In Process
costs are costs
Beginning raw Direct materials incurred to
materials inventory + Direct labor convert the
+ Raw materials + Mfg. overhead
purchased = Total manufacturing direct material
= Raw materials costs into a finished
available for use product.
in production
– Ending raw materials
inventory
= Raw materials used As items are removed from raw
in production materials inventory and placed into
the production process, they are
called direct materials.
Schedule of Cost of Goods Manufactured
Manufacturing Work
Raw Materials Costs In Process

Beginning raw Direct materials Beginning work in

materials inventory + Direct labor process inventory
+ Raw materials + Mfg. overhead + Total manufacturing
purchased = Total manufacturing costs
= Raw materials costs = Total work in
available for use process for the
in production period
– Ending raw materials – Ending work in
inventory
All manufacturing costs incurred
process inventory
= Raw materials used during the period are added
= Cost to the
of goods
in production beginning balance of work in
manufactured.

process.
Schedule of Cost of Goods Manufactured
Manufacturing Work
Raw Materials Costs In Process

Beginning raw Direct materials Beginning work in

materials inventory + Direct labor process inventory
+ Raw materials + Mfg. overhead + Total manufacturing
purchased = Total manufacturing costs
= Raw materials costs = Total work in
available for use process for the
in production period
– Ending raw materials – Ending work in
inventory process inventory
Costs associated with the goods that
= Raw materials used = Cost of goods
areincompleted
production
during the period are manufactured.
transferred to finished goods
inventory.
 Cost of Goods Sold
Work
In Process Finished Goods

Beginning work in Beginning finished

process inventory goods inventory
+ Manufacturing costs + Cost of goods
for the period manufactured
= Total work in process = Cost of goods
for the period available for sale
– Ending work in - Ending finished
process inventory goods inventory
= Cost of goods Cost of goods
manufactured sold
 Manufacturing Cost Flows
Balance Sheet Income
Costs Inventories Statement
Material Purchases Raw Materials Expenses

Direct Labor Work in

Process
Manufacturing
Overhead Finished Cost of
Goods Goods
Sold

Selling and Period Costs Selling and

Administrative Administrative
 Quick Check 

Beginning raw materials inventory was

$32,000. During the month, $276,000 of raw
material was purchased. A count at the end of
the month revealed that $28,000 of raw
material was still present. What is the cost of
direct material used?
A. $276,000
B. $272,000
C. $280,000
D. $ 2,000
 Quick Check 

Beginning raw materials inventory was

$32,000. During the month, $276,000 of raw
material was purchased. A count at the end of
the month revealed that $28,000 of raw
material was still present.
Beg. What is the cost$of32,000
raw materials
direct material used? + Raw materials
purchased 276,000
A. $276,000 = Raw materials available
B. $272,000 for use in production $ 308,000
– Ending raw materials
C. $280,000 inventory 28,000
D. $ 2,000 = Raw materials used
in production $ 280,000
 Quick Check 

Direct materials used in production totaled

$280,000. Direct labor was $375,000 and
factory overhead was $180,000. What were
total manufacturing costs incurred for the
month?
A. $555,000
B. $835,000
C. $655,000
D. Cannot be determined.
 Quick Check 

Direct materials used in production totaled

$280,000. Direct labor was $375,000 and
factory overhead wasDirect Materials
$180,000. $ 280,000
What were
+ Direct Labor 375,000
total manufacturing +costs incurred for the 180,000
Mfg. Overhead
month? = Mfg. Costs Incurred
A. $555,000 for the Month $ 835,000

B. $835,000
C. $655,000
D. Cannot be determined.
 Quick Check 

Beginning work in process was $125,000.

Manufacturing costs incurred for the month
were $835,000. There were $200,000 of
partially finished goods remaining in work in
process inventory at the end of the month.
What was the cost of goods manufactured
during the month?
A. $1,160,000
B. $ 910,000
C. $ 760,000
D. Cannot be determined.
 Quick Check 

Beginning work in process was $125,000.

Manufacturing costs incurred for the month
were $835,000. There were $200,000 of
partially finished goods remaining in work in
process inventory at the Beginning
end work in
processthe
of month.$ 125,000
inventory
What was the cost of goods manufactured
+ Mfg. costs incurred
for the period 835,000
during the month? = Total work in process
A. $1,160,000 during the period $ 960,000

B. $ 910,000 – Ending work in

process inventory 200,000
C. $ 760,000 = Cost of goods
manufactured $ 760,000
D. Cannot be determined.
 Quick Check 

Beginning finished goods inventory was

$130,000. The cost of goods manufactured for
the month was $760,000. And the ending
finished goods inventory was $150,000. What
was the cost of goods sold for the month?
A. $ 20,000.
B. $740,000.
C. $780,000.
D. $760,000.
 Quick Check 

Beginning finished goods inventory was

$130,000. The cost of goods manufactured for
the month was $760,000. And the ending
finished goods inventory was $150,000. What
was the cost of goods sold for the month?
A. $ 20,000.
B. $740,000. $130,000 + $760,000 = $890,000
$890,000 - $150,000 = $740,000
C. $780,000.
D. $760,000.
 Learning Objective
LO5

To define and give

examples of variable
costs and fixed costs
Cost Classifications for Predicting Cost
Behavior

How a cost will react to

changes in the level of
business activity.
 Total variable costs
change when activity
changes.
 Total fixed costs remain
unchanged when activity
changes.
 Total Variable Cost

Your total long distance telephone bill is

based on how many minutes you talk.
Total Long Distance
Telephone Bill

Minutes Talked
 Variable Cost Per Unit

The cost per long distance minute talked is

constant. For example, 10 cents per minute.

Telephone Charge
Per Minute

Minutes Talked
 Total Fixed Cost

Your monthly basic telephone bill

probably does not change when you make
more local calls.
Telephone Bill
Monthly Basic

Number of Local Calls

 Fixed Cost Per Unit

The average fixed cost per local call

decreases as more local calls are made.

Monthly Basic Telephone

Bill per Local Call
Number of Local Calls
Cost Classifications for Predicting Cost
Behavior

Behavior of Cost (within the relevant range)

Cost In Total Per Unit

Variable Total variable cost changes Variable cost per unit remains
as activity level changes. the same over wide ranges
of activity.
Fixed Total fixed cost remains Average fixed cost per unit goes
the same even when the down as activity level goes up.
activity level changes.
 Quick Check 

Which of the following costs would be variable

with respect to the number of cones sold at a
Baskins & Robbins shop? (There may be
more than one correct answer.)
A. The cost of lighting the store.
B. The wages of the store manager.
C. The cost of ice cream.
D. The cost of napkins for customers.
 Quick Check 

Which of the following costs would be variable

with respect to the number of cones sold at a
Baskins & Robbins shop? (There may be
more than one correct answer.)
A. The cost of lighting the store.
B. The wages of the store manager.
C. The cost of ice cream.
D. The cost of napkins for customers.
 Learning Objective
LO6

To define and give

examples of direct and
indirect costs
 Assigning Costs to Cost Objects

Direct costs Indirect costs

 Costs that can be  Costs that cannot be
easily and conveniently easily and conveniently
traced to a unit of traced to a unit of
product or other cost product or other cost
object. object.
 Examples: direct  Example:
material and direct manufacturing
labor overhead
 Learning Objective
LO7

To define and give

examples of cost
classifications used in
making decisions:
differential costs,
opportunity costs, and
sunk costs
Cost Classifications for Decision Making

 Every decision involves a choice between at

least two alternatives.

 Only those costs and benefits that differ

between alternatives are relevant in a
decision. All other costs and benefits can
and should be ignored.
 Differential Costs and Revenues

Costs and revenues that differ among

alternatives.
Example: You have a job paying $1,500 per month in
your hometown. You have a job offer in a neighboring
city that pays $2,000 per month. The commuting cost
to the city is $300 per month.

Differential revenue is:

$2,000 – $1,500 = $500

Differential cost is:

$300
 Opportunity Costs
The potential benefit that
is given up when one
alternative is selected
over another.
Example: If you were
not attending college,
you could be earning
$15,000 per year.
Your opportunity cost
of attending college for
one year is $15,000.
 Sunk Costs
Sunk costs cannot be changed by any
decision. They are not differential costs and
should be ignored when making decisions.
Example: You bought an automobile that
cost $10,000 two years ago. The $10,000
cost is sunk because whether you drive it,
park it, trade it, or sell it, you cannot
change the $10,000 cost.
 Quick Check 

Suppose you are trying to decide whether to

drive or take the train to Portland to attend a
concert. You have ample cash to do either, but
you don’t want to waste money needlessly. Is
the cost of the train ticket relevant in this
decision? In other words, should the cost of the
train ticket affect the decision of whether you
drive or take the train to Portland?
A. Yes, the cost of the train ticket is relevant.
B. No, the cost of the train ticket is not
relevant.
 Quick Check 

Suppose you are trying to decide whether to

drive or take the train to Portland to attend a
concert. You have ample cash to do either, but
you don’t want to waste money needlessly. Is
the cost of the train ticket relevant in this
decision? In other words, should the cost of the
train ticket affect the decision of whether you
drive or take the train to Portland?
A. Yes, the cost of the train ticket is relevant.
B. No, the cost of the train ticket is not
relevant.
 Quick Check 

Suppose you are trying to decide whether to

drive or take the train to Portland to attend a
concert. You have ample cash to do either, but
you don’t want to waste money needlessly. Is
the annual cost of licensing your car relevant
in this decision?
A. Yes, the licensing cost is relevant.
B. No, the licensing cost is not relevant.
 Quick Check 

Suppose you are trying to decide whether to

drive or take the train to Portland to attend a
concert. You have ample cash to do either, but
you don’t want to waste money needlessly. Is
the annual cost of licensing your car relevant
in this decision?
A. Yes, the licensing cost is relevant.
B. No, the licensing cost is not relevant.
 Quick Check 

Suppose that your car could be sold now for

$5,000. Is this a sunk cost?
A. Yes, it is a sunk cost.
B. No, it is not a sunk cost.
 Quick Check 

Suppose that your car could be sold now for

$5,000. Is this a sunk cost?
A. Yes, it is a sunk cost.
B. No, it is not a sunk cost.
 Summary of the Types of Cost
Classifications

 Financial reporting
 Predicting cost behavior
 Assigning costs to cost objects
 Decision making
End of Chapter 1