Cost Accounting

Fundamentals ofCost Accounting

Michael W. MaherUniversity of California at Davis

William N. LanenUniversity of Michigan

Madhav V. RajanStanford University

Boston Burr Ridge, IL Dubuque, IA Madison, WI New YorkSan Francisco St. Louis Bangkok Bogot Caracas Kuala LumpurLisbon London Madrid Mexico City Milan Montreal New Delhi

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FUNDAMENTALS OF COST ACCOUNTING

Published by McGraw-Hill/Irwin, a business unit of The McGraw-Hill Companies, Inc., 1221 Avenue of the Americas, New York, NY 10020. Copyright 2006 by The McGraw-Hill Companies, Inc. All rights reserved. No part of this publication may be reproduced or distributed in any form or by any means, or stored in a database or retrieval system, without the prior written consent of The McGraw-Hill Companies, Inc., including, but not limited to, in any network or other electronic storage or transmission, or broadcast for distance learning.

Some ancillaries, including electronic and print components, may not be available to customers outside the United States.

This book is printed on acid-free paper.

1 2 3 4 5 6 7 8 9 0 WCK/WCK 0 9 8 7 6 5 4

ISBN 0-07-301837-6

Editorial director: Brent GordonPublisher: Stewart MattsonSenior sponsoring editor: Steve DeLanceySenior developmental editor: Kimberly D. HookerMarketing manager: Marc ChernoffMedia producer: Elizabeth MavetzProject manager: Jim LabeotsProduction supervisor: Gina HangosSenior designer: Adam RookePhoto research coordinator: Kathy ShivePhoto researcher: Mary ReegMedia project manager: Matthew PerrySupplement producer: Gina F. DiMartinoDeveloper, Media technology: Brian NacikTypeface: 10.5/12 Times New RomanCompositor: CenveoPrinter: Quebecor World Versailles Inc.

Library of Congress Cataloging-in-Publication DataMaher, Michael W., 1946-

Fundamentals of cost accounting / Michael W. Maher, William N. Lanen, Madhav V.Rajan.1st ed.

p.cm.Includes index.ISBN 0-07-301837-6 (alk. paper)1. Cost accounting. I. Lanen, William N. II. Rajan, Madhav V. III. Title.

HF5686.C8M224 2006657'.42dc22 2004061066

www.mhhe.com

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Dedication

I dedicate this book to my children, Krista and Andrea, andto my extended family, friends, and colleagues, who haveprovided their support and wisdom over the years.

Michael

To my wife, Donna, and my children, Cathy and Tom, forencouragement, support, patience, and general good cheerthroughout the years.

Bill

To my mentors, Stan and Srikant, for their inspiration; tomy parents, for their encouragement; to my family, fortheir love.

Madhav

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About the

Authors About

theAuthors

Michael Maher is a Professor of Management at theUniversity of California-Davis. He previously taught at the University of Michigan, the University of Chicago, and the University of Washington. He also worked onthe audit staff at Arthur Andersen & Company and was a self-employed financial consultant for small businesses.He received his BBA from Gonzaga University, whichnamed him Distinguished Alumnus in 1989, and his MBA and PhD from the University of Washington, and he earned the CPA from the state of Washington.

Michael is a past president of the ManagementAccounting Section of the American AccountingAssociation and has served on the editorial boards ofThe Accounting Review, Accounting Horizons, Journalof Management Accounting Research, and ManagementAccounting. He is coauthor of two leading textbooks,Cost Management, 3/e, and Managerial Accounting, 8/e.Maher has coauthored several additional books andmonographs, including Internal Controls in U.S.Corporations and Management Incentive CompensationPlans, and published articles in many journals, includingManagement Accounting, The Journal of Accountancy,The Accounting Review, Journal of Accounting Research,Financial Executive, and The Wall Street Journal.

For his research on internal controls, Michael was awarded the American Accounting AssociationsCompetitive Manuscript Award and the AICPA NotableContribution to Literature Award. He also received theaward for the Outstanding Tax Manuscript. He receivedthe Annual Outstanding Teacher Award three times fromhis students at the University of Californias GraduateSchool of Management and twice he has received aspecial award for outstanding service. Mahers currentresearch includes studies of the efficacy of online education, health care costs, and corporate corruption.

Michael W. MaherMichael W. Maher

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Madhav Rajan is Gregor G. Peterson Professor of Accounting at the Graduate School of Business,Stanford University. Madhav joined Stanford GSB in 2001, after 12 years on the faculty of the Wharton School of the University of Pennsylvania.Madhav received his MS, MBA, and PhD inAccounting from Carnegie Mellon University. His dissertation won Carnegie Mellons Alexander Henderson Award for Excellence in Economic Theory.

Madhav is an editor of The Accounting Review and an associate editor for ManagementScience. He also serves on the editorial boards of three other academic journals. Madhavs primary area of research interest is the economics-based analysis of issues in management accounting, using both analytical and empiricalmethodologies. His work has been published in leading journals in accounting, economics,finance, and operations management. In 2004, he received the American Accounting AssociationsNotable Contribution to Management AccountingLiterature award.

Madhav has taught courses in cost and managerialaccounting at the undergraduate, MBA, PhD, andexecutive MBA levels. He has won numerous undergraduate and MBA teaching awards at Wharton and Stanford GSB, including the David W. Hauck Award, the highest undergraduate teaching honor at Wharton.

Madhav V. Rajan

William Lanen is Professor of Accounting and Michael and Joan Sakkinen Scholar at the Stephen M. Ross School of Business at the University of Michigan Business School. He holds degrees in economics from the University of California, Berkeley and PurdueUniversity and earned a PhD in accounting from the Wharton School of the University of Pennsylvania.

Bill teaches management accounting in both the BBA and MBA programs at the University of Michigan. He also teaches management accounting in Global MBA Programs and Executive Education Programs in Asia, Europe, and Latin America. Before coming to the University of Michigan, Bill was on the faculty at the Wharton School of the University of Pennsylvania where he taught various financial and managerial accounting courses at the undergraduate, MBA, and Executive MBA levels. He has received teaching awards at both the University of Michigan and the Wharton School.

Bill has served on the Editorial Board of The Accounting Review and the Journal ofManagement Accounting Research. He has published in Journal of Accounting Research,Journal of Accounting and Economics, Accounting, Organizations, and Society, and The Accounting Review. Bill is past-president of the Management Accounting Section of the American Accounting Association.

William N. LanenWilliam N. Lanen

Madhav V. Rajan

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The business world presents an array of twists and turns, and getting through

them successfully takesinformed decisionmaking and a

perspective that takes in the wholepicture, not just the view immediatelyahead. Students entering the businessworld need to navigate a maze ofinformation systems, ambiguoussituations, and value- and nonvalue-added activities. Cost accounting givesthem the skills they need to find theirway through, and Fundamentals of CostAccounting is the best choice available tohelp them learn the cost concepts theymust know to succeed.

We based this text on the needs of accounting instructors and students. In a nationwide survey of cost accounting instructors, conducted in May 2004, we asked what the greatestchallenge and most difficult topics are in this course. The feedback we received from the market shaped this book. From the comments wereceived, it was clear that the ideal cost textbook needed to have three qualities: it needed to develop studentsproblem solving skills, be realistic, and be concise. By accomplishing these three goals, Fundamentals of Cost Accounting helps students through the maze.

HelpingStudents

through the Maze

HelpingStudents

through the Maze

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Students learn by doing, so Fundamentals of Cost Accounting provides a wide range of challenging and thought-provoking end-of-chapter material for them to practice on. The authors have written the problem material to match precisely the presentation of concepts in each chapter; there are no inconsistent terms or conflicting requirements.

Fundamentals of Cost Accounting is available with McGraw-Hills Homework Manager, the most powerful system for creating, assigning, and grading homework. With this tool, you can use the authors problem material to its full potential. McGraw-Hills Homework Manager can generate unlimited variations of the end-of-chapter material in Fundamentals of Cost Accounting, allowing you to create unique assignments, tests, or practice problems in minutes.

Students enter the cost accounting course with varying levels of preparedness, and some lack the experience to understand how cost accounting relates to all types of businesses and organizations. For this reason, Fundamentals of Cost Accountingpresents concepts in context, showing how cost accounting applies to a variety of service and manufacturing companies. Topic Tackler Plus, a multimedia tutorialavailable at the text Web site or on an optional CD-ROM, gives the students even more real-world flavor with video clips illustrating text concepts at work in actual companies.

By focusing on key concepts, we have kept Fundamentals of Cost Accounting brief and to the point. With such a concise book, students spend less time trying to memorize details and more time analyzing and applying fundamental principles.

ConciseConcise

Problem- SSkillsolving

RealisticRealistic

I have to say that this is the best cost text I have ever seenby far and I cant stress that enough. . . . The organizationof this text in general and the individual chapters isexcellent and the clarity of presentation is refreshing.

John GilesNorth Carolina State University

Problem- SSkillsolving

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In Action boxesThese examples, drawn from contemporary journals and the authors own experiences, illustrate how to apply cost accounting methods and tools.

Chapter opener/opening vignetteEach chapter opens with an engaging, realistic story of how an organization has used cost accounting principles. This sets the stage for the rest of the chapter and encourages students to think of concepts in context.

Fundamentals of Product

and Service Costing

LEARNING OBJECTIVES

After reading this chapter, you should be able to:

L.O.1 Explain the fundamental themes underlying the design of cost systems.

L.O.2 Explain how cost allocation is used in a cost management system.

L.O.3 Explain how a basic product costing system works.

5Chapter Five

240 Chapter 8 Activity-Based Costing

Activity-based costing is not just for manufacturing firms oreven only for-profit firms. Any organization that wants to bet-ter understand the costs of the goods and services it pro-vides can benefit from using it.

The following is a cost flow diagram from a proposedactivity-based cost system for a not-for-profit (sometimesreferred to as a nongovernment organization, or NGO) oper-ating in the Hong Kong Special Administrative Region of

China. Notice that the first stage separates costs into activi-ties (using number of employees) and then into services us-ing, for one of the activitiespreparing materials, percent ofeffort.

Source: P. Ip, P. Li, and J. Yau, Application of Activity-Based Cost-ing/(ABC): The Case of a Non-Government Organization, Interna-tional Journal of Management, v. 20 (3): 282.

Activity-Based Costing in a Not for ProfitIn Action

Courses fordomestic help

Preparingmaterials

Conductingcourses

AIDS programs Other

Other

OtherSalariesEquipment

First stage

Second stage

Number of employees

% Effort

This chapter provides an overview of alternative cost systemsfor product and service costing. Details and extensions to the basic models described hereare presented in the following three chapters. The fundamental approach and the prob-lems that arise from using cost data generated by these basic costing systems can be il-lustrated by the examples in this chapter. We follow two principles in our discussion: Thecost system should be oriented to the needs of the decision makers (that is users of the in

Working in a group in this executive education classhas been really helpful, but maybe not for the reasonthe instructor thought. About an hour ago, we brokeout in groups of three to establish a price for a prod-uct. We decided to start by determining the cost ofmaking the product. But the three of us in the groupwork in very different industries, so when we devel-oped the cost, we all approached it in a different way.We then spent more time talking about the costingsystems used in each of our companies than about

coming up with a solution for the case. Now, wto get back to the classroom. I hope the cost wmated makes sense.

Selene Theodakis, the production managerBoats, a manufacturer of custom-built pleasure talking during a break at a local college. The otheple in her group were Cathy Baxter, owner of Baxand Tom Adams, the marketing manager at ThomSports.

Your Guide toCost onceptsC

Your Guide toCost onceptsC

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End-of-chapter materialThe authors have tested the end-of-chapter material over time to ensure quality and consistency with the chapter content.

Integrative CasesThese involving cases ask students to apply the different techniques they have learned to a realistic situation.

(L. O. 1, 3, 5, 6)

Integrative Cases

8-38. Cost Allocation and Environmental ProcessesEthical Issues California Circuits Company (3C) manufactures a variety of components. Its Valley plant special-izes in two electronic components used in circuit boards. These components serve the same func-tion and perform equally well. The difference in the two products is the raw material. The XL-Dchip is the older of the two components and is made with a metal that requires a wash prior to as-sembly. Originally, the plant released the wastewater directly into a local river. Several years ago,the company was ordered to treat the wastewater before its release, and it installed relatively ex-pensive equipment. While the equipment is fully depreciated, annual operating expenses of$250,000 are still incurred for wastewater treatment.

Two years ago, company scientists developed an alloy with all of the properties of the raw ma-terials used in XL-D that generates no wastewater. Some prototype components using the new ma-terial were produced and tested and found to be indistinguishable from the old components in everyway relating to their fitness for use. The only difference is that the new alloy is more expensivethan the old raw material. The company has been test-marketing the newer version of the compo-nent, referred to as XL-C, and is currently trying to decide its fate.

Manufacturing both components begins in the Production Department and is completed in theAssembly Department. No other products are produced in the plant. The following provides infor-mation for the two components:

XL-D XL-C

Units produced . . . . . . . . . . . . . . . . . . . . . . . 100,000 25,000Raw material costs per unit . . . . . . . . . . . . . $12 $14Direct Labor-Hours per unitProduction . . . 0.1 0.1Direct Labor-Hours per unitAssembly . . . . 0.4 0.4Direct Labor Rate per hourall labor . . . . . . $20 $20Machine-Hours per unitproduction . . . . . . 1.6 1.6Machine-Hours per unitassembly . . . . . . . 0.4 0.4Testing Hours per unit (all in production) . . . 3.0 3.0Shipping weight per unit (pounds) . . . . . . . . 1.0 1.6Wastewater generated per unit (gallons) . . . 10.0 0.0

Annual overhead costs for the two departments follow:

Supervision . . . . . . . . . . . . . . . $ 100,000 $240,000 Material handling . . . . . . . . . . . 93,000 40,000Testing . . . . . . . . . . . . . . . . . . . 150,000 0Wastewater treatment . . . . . . . 250,000 0Depreciation on equipment . . . 400,000 100,000Shipping . . . . . . . . . . . . . . . . . . 7,000 120,000

Total . . . . . . . . . . . . . . . . . . $1,000,000 $500,000

The company president believes that its foolish to continue producing two essentially equiv-l t d t At th ti th t i i h t t i h d b f t i

AssemblyDepartment

ProductionDepartment

Integrative Cases

job shop, 000normal cost, 000

underapplied overhead, 000

Review Questions

6-1. What are characteristics of companies that are likely to use a job cost system?6-2. Direct labor-hours and direct labor dollars are the most common allocation b

the United States (indeed, throughout the world). Why do you suppose they arthan others?

Review Questions

Analysis and Discussion Questions

o most companies use normal or standard costing? After all, actual costing gives theost, so the firm could just wait until it knows what the cost will be.control of materials important from a managerial planning perspective?ing about the choice of an overhead allocation base is a waste of time. In the end,

overhead is charged to production. Do you agree? Why?w the manager of a construction company (for example, a company that does housection, remodeling, landscaping, or street or highway construction) about how the

ny bids on prospective jobs. Does it use cost information from former jobs that areto prospective ones, for example? Does it have a specialist in cost estimation whoes the costs of prospective jobs? Write a report to your instructor summarizing theof your interview.ew the manager of a campus print shop or a print shop in the local area about howmpany bids on prospective jobs. Does it use cost information from former jobs that

ilar to prospective ones, for example? Does it have a specialist in cost estimation

Critical Analysis and Discussion Questions

s

Costs to Jobs ansactions occurred in April at Darlington Workshops, a custom manufacturer of

,000 of materials.of supplies from the materials inventory.,600 of materials.

materials purchased in transaction (1).0 in direct materials to the production department.ct labor costs of $10,000, which were credited to Payroll Payable.cash for utilities, power, equipment maintenance, and other miscellaneous items

facturing plant.head on the basis of 125 percent of $10,000 direct labor costs.epreciation on manufacturing property, plant, and equipment of $5,000.

entries to record these transactions.

C t t J b

(L.O. 1, 2)

(L O 1 2)

with McGraw-Hills Homework Manager Exercises

Problems

6-25. Estimate Hours Worked from Overhead Data Griffin Corporation estimated that direct labor for the year would be 39,000 hours. Ghead (all fixed) is applied on the basis of direct labor-hours. The company estimatecosts at $156,000. During the year, all overhead costs were exactly as planned ($15was $5,200 in overapplied overhead.RequiredHow many direct labor-hours were worked during the period? Show computations.

6-26. Assigning CostsMissing Data The following T-accounts represent September activity.

(L.O. 3)

(L.O. 2, 3)

Materials Inventory

BB (9/1) 8,000(a) 4,300

(b)EB (9/30) 9,700

Finished Goods Inventory

Work-In-Process Inven

BB (9/1) 22,300180,500121,00094,000

EB (9/30) 17,700

Problems Available with McGraw-Hills Homework Manager

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Chapter 1 Cost Accounting: Information for Decision MakingThe text starts with a detailed overview of costaccounting that describes many of the decisions thatrequire cost accounting information. It also discussesethical decisions and problems students may face intheir careers.

Chapter 5 Fundamentals of Product and Service CostingThis chapter provides an overview of alternative costsystems for product and service costing presented inChapters 6, 7, and 8. The intuitive approach the chaptertakes highlights the basics of product costing systems.The fundamental approach and the problems that arisefrom using cost data generated by these basic costingsystems are illustrated by the examples in the chapter.Two principles are emphasized: the cost system shouldbe oriented to the needs of the decision makers (that is,users of the information) and the cost system should bedesigned so that its benefits exceed its costs.

Map throughthechapters

Chapter 4 Cost EstimationWhen managers make decisions, they need tocompare the costs (and benefits) among alternativeactions by estimating the costs associated with eachalternative. This chapter discusses how to estimate thecost data required for decision making and how costestimates can be an important element in makingdecisions that add value to the company.

Chapter 3 Fundamentals of Cost Analysis for Decision MakingUnlike typical cost accounting texts, this chapter incorporates the discussion of relevant cost and costanalysis into one chapter. Where most texts coverthese related concepts in multiple chapters, Fundamentals has grouped the discussion of CVP, decision making, and constraints into one comprehensive chapter at the beginning of the text.

Fundamentals of Cost Accounting is a cost accounting text for decisionmaking. Through real-world examplesand detailed illustrations, each chapterprovides comprehensive coverage of the basic concepts of cost accounting.

Chapter 2 Cost Concepts and BehaviorThis chapter discusses how cost accounting systemsprovide information to help managers make better decisions. Because cost accounting systems are tailored to the needs of individual companies, several terms are used in practice to describe the same or similar cost concepts, depending on the use or the audience.

Unlike most first chapters, it provides a good introduction. This is not a chapter Id skip!Patricia Derrick, Virginia Tech University

I see why your book is different. The work to integrate topics in the reading is great. This is a distinct challenge and I can see why it has not been done in this way before.Thomas Zeller, Loyola UniversityChicago

Incorporating relevant cost decisionsinto the chapter on cost analysisthis is conceptually sound and not usuallydone in texts.Margaret OReilly-Allen, Rider University

Chapter 6 Job Costing

Chapter 7 Process Costing

Chapter 8 Activity-Based CostingChapters 6, 7, and 8 use detailed flow charts andexamples of the various costing systems. Chapter 6discusses the product costing system, includingaccounting for the flows of costs through the inventoryaccounts. It describes a job costing system used inmany service and discrete manufacturing settings.Chapter 7 deepens the discussion by describing thedevelopment of a process costing system. Operationscosting systems are described at the end of the chapter.Chapter 8 describes innovations to the basic costingsystems, including activity-based costing (ABC), whichhas been implemented or considered by manufacturingfirms such as General Motors and Chrysler, financialservice firms such as Citibank, and even agencies ofthe U.S. government.

Good explanation of equivalent units.Really like the way the reader is lead tothe need for EQUs. In my experience,students get the concept if they cometo see the need for them by themselvesthrough an example. Good discussion ofallocation bases. . . . Nice logical flow.Its not rushed (as is often the case inmany texts).Patricia Derrick, Virginia Tech University

This chapter is written very well on a very, very difficult topic for students. Jeanne Harrington, Middle Tennessee University

Map throughthechapters

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Chapter 9 Fundamentals of Cost ManagementWhile Chapter 8 discusses the use of activity-based costing to compute the costs of products and services,Chapter 9 considers the use of these methods tomanage and control costs. Activity-based managementdoes not focus on the detailed calculation of productcosts using activity-based costing already covered inChapter 8, but explores managements uses of activity-based costing methods to identify ways to assesscustomer profitability. The chapter also describes theassignment of capacity costs and measuring the costof quality.

Chapter 13 Business Unit PerformanceMeasurementChapter 13 develops and analyzes the performancemeasures for investment centers or business units. As the chapter develops the performance measures, thediscussion centers around three questions:

1) Is the performance measure consistent with the decision authority of the manager?2) Does the measure reflect the results of the actions that improve the performance of the organization?3) What actions can the manager take that improve reported performance, but are detrimental to organizational performance?

I think this chapter is a major contribution compared to most old texts.Kathleen Sevigny, Bridgewater State College

Chapter 10 Service Department and Joint Cost AllocationChapter 10 discusses the allocation of servicedepartment costs to production departments. It alsoconsiders product costing when multiple products areproduced from inputs in fixed proportions. Thechapter describes several methods of allocating jointcosts and includes multiple examples.

Chapter 11 Fundamentals of ManagementControl SystemsStudents explicitly recognize how individuals respond to methods used for performancemeasurement. Thus, the discussion of the design and use of management control systems usesconcepts from human and organizational behavior as well as accounting and economics. This chapterdevelops basic issues and a coherent framework forassessing management control issues.

Having service department allocations and joint cost allocations in one chapter is very efficient, and facilitates understanding of the material.Ola Smith, Western Michigan University

Resists temptation to fill with fluff. Presents the material well, grounds it well, but doesnt add the management control system du jour, which quickly dates the book.Patricia Derrick, Virginia Tech University

Chapter 14 Transfer PricingChapter 14 explains the basic issues involved withtransfer pricing by presenting real-world examples toshow the costs of dysfunctional decision making thatarise when local managers, making decisions based onlocal interests, make choices that are suboptimal for the organization as a whole.

This is a relatively new and important topic . . . well done in this chapter.Margaret OReilly-Allen, Rider University

The exercises and problems were veryinteresting as they have a high global andsegment reporting content; the examplesused were very realistic. They wouldmake the classroom experience veryenriching. Kim Tan, California State University-Stanislaus

Chapter 15 Fundamentals of Variance AnalysisChapter 15 discusses the control and evaluation activityfor profit and cost centers. Comparing actual performanceto budgets, students learn how to better understand whytargets are not achieved. This helps maintain control byidentifying areas for improvement. It also allows firms to assess the performance of managers in differentdepartments.

Chapter 17 Nonfinancial and Multiple Measures of PerformanceThis chapter discusses how financial performancemeasures are commonly used to evaluate employeeperformance. In recent years, however, more and morecompanies have begun using nonfinancial measuressuch as customer satisfaction and product qualitymeasures. This chapter shows innovative ways toevaluate performance beyond the numbers bypresenting a framework used to ensure that theperformance measures developed are consistent withthe rest of the management control system.

Chapter 12 Planning and BudgetingThis chapter focuses on the planning purposes of the budgeting process. It shows how a master budget is developed and how it fits into the overall plan for achieving organizations goals. Before investigating the details of developing a master budget, this chapter discusses how strategic planning can increase competitiveness and affect global operations.

Chapter 16 Special Topics in Variance AnalysisThis chapter discusses additional variances to illustratesome of the ways the basic variance analysis model can beextended and adapted to specific circumstances. The basicprinciples are the same as those presented in Chapter 15.

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Technology Technology OnePassIt can be a challenge remembering allthe different access for the many online

assets available with Managerial Accounting. Tomake life easier for your students, McGraw-Hill ispleased to introduce OnePass. With McGraw-HillsOnePass, just one access code gets your studentstotal access to McGraw-Hills Homework Manager,Topic Tackler Plus, NetTutor, and the onlineversion of the textbook. Moreover, the OnePasscard fits in your students wallets for safekeeping.

McGraw-Hills HomeworkManagerThis Web-based supplement duplicatesproblems directly from the textbook end-of-

chapter material, using algorithms to provide alimitless supply of online self-graded practice forstudents, or assignments and tests with uniqueversions of every problem. You now have thepower and flexibility youve been waiting for increating assignments.

The enhanced version of McGraw-Hills HomeworkManager integrates all of Fundamentals of CostAccountings online and multimedia assets to allowyour students to brush up on a topic before doingtheir homework. You now have the option to giveyour students prepopulated hints and feedback.The test bank has been added to HomeworkManager so you can create online quizzes andexams and have them autograded and recorded inthe same gradebook as your homeworkassignments. Lastly, the enhanced version providesyou with the option of incorporating the completeonline version of the textbook, so your studentscan easily reference the chapter material as they dotheir homework assignment, even when theirtextbook is far away.

McGraw-Hills Homework Manager is also a usefulgrading tool. All assignments can be delivered overthe Web and are graded automatically, with theresults stored in your private grade book. Detailedresults let you see at a glance how each student doeson an assignment or an individual problemyoucan even see how many tries it took them to solve it.

Students receive full access to McGraw-HillsHomework Manager when they purchase OnePass,or you can have Homework Manager pass codesshrinkwrapped with the textbook. Students can alsopurchase access to Homework Manager directlyfrom your course home page.

McGraw-Hills Homework Manager is powered byBrownstone.

Topic Tackler PlusThis program is a complete tutorialfocusing on those areas in the costaccounting course that give studentsthe most trouble. Providing help ontwo key topics for every singlechapter, this program delves into thematerial via the following:

Video clips Audio-narrated PowerPoint slides Interactive quizzes

This highly engaging presentation will give yourstudents command of the most fundamental aspectsof managerial accounting. Students can accessTopic Tackler Plus through the Online LearningCenter or an optional CD-ROM.

Online Learning Center (OLC) www.mhhe.com/maher1eMore and more students are studying online. Thatswhy we offer an Online Learning Center (OLC) thatfollows Fundamentals of Cost Accounting chapterby chapter. It doesnt require any building ormaintenance on your part. Its ready to go themoment you and your students type in the URL.

As your students study, they can refer to the OLCWeb site for such benefits as:

Internet-based activities Self-grading quizzes Links to text references Links to professional resources on the Web and

job opportunity information Learning objectives Chapter overviews

A secured Instructor Resource Center stores youressential course materials to save you prep timebefore class. The Instructors Manual, SolutionsManual, and audio-narrated PowerPoints are acouple of clicks away. You will also find usefulpackaging information and transition notes.

OnePass gives students total access to all OLCfeatures, including premium content like theFundamentals of Cost Accounting online textbook.

NetTutor Students have other commitments outside of class,making it difficult for them to get help during regularhours. NetTutor is a breakthrough program thatconnects your students with qualified tutors online,so they can get help at their convenience. Studentscommunicate with tutors through the live tutorcenter, where students view tutor-createdspreadsheets, T-accounts, and instant responses totheir questions, or through the Q&A Center, whichallows students to submit questions anytime andreceive answers within 48 hours. With OnePass,students receive unlimited access to NetTutor forthe length of the course.

This icon marks any topic given further coverage in Topic Tackler.

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Instructors Supplements:

PrintupplementsS

PrintupplementsS

Student Supplements:Instructors Supplements: Instructors Resource CD-ROM 0073018384An all-in-one class resource that allows you to createstimulating custom presentations from your ownmaterials or from the many text-specific materialsprovided in the CD. The CD includes the followingresources: Instructors Manual, Solutions Manual,Computerized Test Bank, and Audio-NarratedPowerPoints.

Instructors Resource Manual 0073018406 Each chapter and appendix includes:

Chapter Learning Objectives Chapter Outline Comments and observations for each key concept,

methods of presentation, and usefulness of specificassignment material.

Suggested assignments, demonstration problems,and chapter quizzes organized by learningobjectives.

Solutions Manual: 0073018392This comprehensive manual provides solutions to all Discussion Questions, Exercises, Problems, andIntegrative Cases. These solutions are also madeavailable on the texts Online Learning Center:www.mhhe.com/maher1e

Solutions Transparencies: 0073018422 These are acetates of solutions to all Exercises and Problems found in the Solutions Manual.

Online Learning Center (www.mhhe.com/maher1e)All the essential instructor supplements are availablehere, password protected. The OLC works in tandemwith our course delivery portal, PageOut, and theOLC material can also be converted into files for usewith Blackboard and WebCT.

Test Bank: 0073018414With an abundance of objective questions and shortexercises, this is a valuable resource for instructorswho prepare their own quizzes and examinations.

Instructor Excel Spreadsheet Templates Solutions to spreadsheet problems found in text end-of-chapter material, housed on Instructors ResourceCD-ROM and password protected on instructor sideof Online Learning Center.

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cknowledgements Acknowledgements AA special thank youto the following individuals who helped develop and critique the book and ancillarypackage: Barbi Wiggins, BW Consulting;Kimberly Richardson, George Mason University;Cathy Claiborne, California State UniversityChannel Islands; Chiaho Chang, MontclairUniversity; Robert Gruber, University ofWisconsinWhitewater; Michael Haselkorn,Bentley College; Beth Woods, Accuracy Counts;Alice Sineath, Forsyth Tech Community College;and Ilene Persoff, CW Post CampusSchool of Professional Accountancy at Long Island University.

We are grateful for the outstanding support of McGraw-Hill/Irwin. In particular, we wouldlike to thank Brent Gordon, Editorial Director;Stewart Mattson, Publisher; Steve Delancey,Senior Sponsoring Editor; Kimberly Hooker,Senior Developmental Editor; Marc Chernoff,Marketing Manager; Mark LaCien, Director ofAdvertising and Promotions; Daniel Wiencek,Senior Copywriter; Jim Labeots, Project Manager;Adam Rooke, Senior Designer; Gina Hangos,Production Supervisor; Elizabeth Mavetz, MediaProducer; Matt Perry, Media Project Manager;Gina DiMartino, Supplement Producer; and KathyShive, Photo Research Coordinator.

Finally, we wish to thank all the professors who reviewed Fundamentals of Cost Accounting. Their detailed comments, suggestions and words of encouragement were invaluable in creating this book.

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eviewers Reviewers RRowland Atiase

University of Texas at Austin

Charles BettsDelaware Technical Community College

Timothy B. BiggartUniversity of North Carolina

Rodger BrannanUniversity of Minnesota at Duluth

Wayne BremserVillanova University

Nat BriscoeNorthwestern State University

Roberta CablePace University

Chiaho ChangMontclair State University

Kerry ColtonAims Community College

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PART ONE: Introduction and Overview

Chapter One Cost Accounting: Information for Decision Making 2

Chapter Two Cost Concepts and Behavior 28

PART TWO: Cost Analysis and Estimation

Chapter Three Fundamentals of Cost Analysis for Decision Making 66

Chapter Four Cost Estimation 106

PART THREE: Cost Management Systems

Chapter Five Fundamentals of Product and Service Costing 138

Chapter Six Job Costing 162

Chapter Seven Process Costing 192

Chapter Eight Activity-Based Costing 230

Chapter Nine Fundamentals of Cost Management 268

Chapter Ten Service Department and Joint Cost Allocation 298

PART FOUR: Management Control Systems

Chapter Eleven Fundamentals of Management Control Systems 337

Chapter Twelve Planning and Budgeting 362

Chapter Thirteen Business Unit Performance Measurement 400

Chapter Fourteen Transfer Pricing 428

Chapter Fifteen Fundamentals of Variance Analysis 458

Chapter Sixteen Special Topics in Variance Analysis 502

Chapter Seventeen Nonfinancial and Multiple Measures of Performance Evaluation 532

Appendix: Capital Investment Decisions: An Overview 552

Glossary 563Photo Credits 569Index 571

Brief Contents

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CHAPTER ONE

Cost Accounting: Information for DecisionMaking 2

VALUE CREATION IN ORGANIZATIONS 3Value Chain 3Supply Chain 4

ROLE OF INFORMATION IN THEORGANIZATION 4

The Managers Job Is to Make Decisions 4Decision Making Requires Information 4Managers Are Not Owners 5Using Cost Information to Increase Value 5In Action: Palliative Care Unit 5Finding and Eliminating Activities That DontAdd Value 5Strategic Cost Analysis 6

COST DATA FOR MANAGERIALDECISIONS 6

Costs for Decision Making 6Costs for Control and Evaluation 7Different Data for Different Decisions 9

ACCOUNTING SYSTEMS 10Financial Accounting 10Cost Accounting 10Cost Accounting and GAAP 11Customers of Cost Accounting 11Ethical Issues and Cost Accounting 12

TRENDS IN COST ACCOUNTING 12Cost Accounting in High-Tech Production Settings 12Just-in-Time Methods 13Lean Production 13Emphasis on Quality 13

Benchmarking and Continuous Improvement 13Activity-Based Costing and Management 13Enterprise Resource Planning 14Six Sigma 14Performance Measurement 14Creating Value in the Organization 14

KEY FINANCIAL PLAYERS IN THEORGANIZATION 15

CHOICES: ETHICAL ISSUES FORACCOUNTANTS 16

What Makes Ethics So Important? 16In Action: Channel Surfing 16What Should You Do If You Discover UnethicalConduct? 17Sarbanes-Oxley Act of 2002 and Ethics 17

COST ACCOUNTING AND OTHER BUSINESSDISCIPLINES 18Summary 18Key Terms 19Appendix 1A: Institute of Management Accountants Codeof Ethics 19Review Questions 21Critical Analysis and Discussion Questions 21Exercises 22Problems 23Solutions to Self-Study Questions 26

CHAPTER TWO

Cost Concepts and Behavior 28

WHAT IS A COST? 29Cost versus Expenses 30

PRESENTATION OF COSTS IN FINANCIALSTATEMENTS 30

Service Organizations 31Retail and Wholesale Companies 31

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Manufacturing Companies 33Direct and Indirect Product Manufacturing (Product) Costs 33Prime Costs and Conversion Costs 34Nonmanufacturing (Period) Costs 34In Action: Indirect Costs in Banking 35

COST ALLOCATION 35Direct versus Indirect Costs 36

DETAILS OF MANUFACTURING COSTFLOWS 37

HOW COSTS FLOW THROUGH THESTATEMENTS 38

Income Statements 38Cost of Goods Sold 38Direct Materials 39Work in Process 39Finished Goods Inventory 40Cost of Goods Sold Statement 40

COST BEHAVIOR 41Fixed versus Variable Costs 41

COMPONENTS OF PRODUCT COSTS 43Unit Fixed Costs Can Be Misleading for DecisionMaking 44

HOW TO MAKE COST INFORMATION MOREUSEFUL FOR MANAGERS 48

Gross Margin versus Contribution Margin IncomeStatements 48Developing Financial Statements for DecisionMaking 48

Summary 50Key Terms 51Review Questions 51Critical Analysis and Discussion Questions 52Exercises 52Problems 59Solutions to Self-Study Questions 63

CHAPTER THREE

Fundamentals of Cost Analysis for DecisionMaking 66

COST-VOLUME-PROFIT ANALYSIS 67Profit Equation 67CVP Example 69

Graphic Presentation 71Profit-Volume Model 72Use of CVP to Analyze the Effect of Different CostStructures 73In Action: Effect of Cost Structure on Operatingand Investing Decisions 74Margin of Safety 75CVP Analysis with Spreadsheets 75Extensions of the CVP Model 76Income Taxes 76Multiproduct CVP Analysis 76

DIFFERENTIAL ANALYSIS 77Differential Costs versus Total Costs 78Differential Analysis and Pricing Decisions 79Short-Run versus Long-Run Pricing Decisions 79Short-Run Pricing Decisions: Special Orders 80Long-Run Pricing Decisions 81Long-Run versus Short-Run Pricing: Is There aDifference? 82Cost Analysis for Pricing 82In Action: Take Back Laws in Europe 83

USE OF DIFFERENTIAL ANALYSIS FORPRODUCTION DECISIONS 83

Make-It or Buy-It Decisions 83Make-or-Buy Decisions Involving DifferentialFixed Costs 83Opportunity Costs of Making 86Decision to Add or Drop a Product Line or Close a Business Unit? 87Product Choice Decisions 88

Summary 90Key Terms 91Appendix: Theory of Constraints 91Review Questions 92Critical Analysis and Discussion Questions 93Exercises 93Problems 98Solutions to Self-Study Questions 103

CHAPTER FOUR

Cost Estimation 106

WHY ESTIMATE COSTS? 107

BASIC COST BEHAVIOR PATTERNS 107

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WHAT METHODS ARE USED TO ESTIMATECOST BEHAVIOR? 107

Engineering Method 108Account Analysis Method 108Statistical Cost Estimation 110In Action: Using Regression to Evaluate CostBehavior 116Multiple Regression 116Practical Implementation Problems 117In Action: Learning Curves 118

HOW IS AN ESTIMATION METHOD CHOSEN? 120

Data Problems 120Effect of Different Methods on Cost Estimates 121

Summary 122Key Terms 123Appendix 4A: Using Microsoft Excel to Estimate RegressionCoefficients 123Review Questions 127Critical Analysis and Discussion Questions 128Exercises 128Problems 132Solutions to Self-Study Questions 137

CHAPTER FIVE

Fundamentals of Product and Service Costing 138

COST MANAGEMENT SYSTEMS 139Reasons to Calculate Product or Service Costs 139In Action: Importance of Distinguishing betweenProduction Costs and Overhead Costs 140Cost Allocation and Product Costing 140Cost Flow Diagram 140

FUNDAMENTAL THEMES UNDERLYING THEDESIGN OF COST SYSTEMS FORMANAGERIAL PURPOSES 141

COSTING IN A SINGLE PRODUCT,CONTINUOUS PROCESS INDUSTRY 142

Basic Cost Flow Model 142Costing with No Work-in-Process Inventories 142Costing with Ending Work-in-Process Inventories 142

COSTING IN A MULTIPLE PRODUCT, DISCRETEPROCESS INDUSTRY 144

Predetermined Overhead Rates 146Product Costing of Multiple Products 146Choice of the Allocation Base for PredeterminedOverhead Rate 147Choice among Possible Allocation Bases 148

MULTIPLE ALLOCATION BASES AND TWO-STAGE SYSTEMS 149

Choice of Allocation Bases 150DIFFERENT COMPANIES, DIFFERENTPRODUCTION, AND COSTING SYSTEMS 151

Operations Costing: An Illustration 152Summary 153Key Terms 154Review Questions 154Critical Analysis and Discussion Questions 155Exercises 155Problems 158Integrative Case 158Solutions to Self-Study Questions 159

CHAPTER SIX

Job Costing 162

DEFINING IS A JOB? 163

USING ACCOUNTING RECORDS IN A JOB SHOP 163COMPUTING THE COST OF A JOB 164

Production Process at InShape 164Record of Costs at InShape 165How Manufacturing Overhead Costs Are Recordedat InShape 168In Action: Effect of Overhead Rates on ProductionDecisions 168Over- and Underapplied Overhead 171Multiple Allocation Bases: The Two-StageApproach 173Summary of Steps in a Job Costing System 173

USING JOB COSTING IN SERVICE ORGANIZATIONS 173

ETHICAL ISSUES AND JOB COSTING 175Misstating Stage of Completion 176Charging Costs to the Wrong Jobs 176Misrepresenting the Cost of Jobs 176

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MANAGING PROJECTS 176In Action: Determination of Costs of LargeProjects and Ethical Implications 178

Summary 178Key Terms 178Review Questions 178Critical Analysis and Discussion Questions 179Exercises 179Problems 182Integrative Case 191Solutions to Self-Study Questions 191

CHAPTER SEVEN

Process Costing 192

DETERMINING EQUIVALENT UNITS 194USING PRODUCT COSTING IN A PROCESS INDUSTRY 194

Step 1: Measure the Physical Flow of Resources 195Step 2: Compute the Equivalent Units ofProduction 196Step 3: Identify the Products Costs for which to Account 196Time Out! We Need to Make an Assumption aboutCosts and the Work-in-Process Inventory 197Step 4: Compute Costs per Equivalent Unit:Weighted Average 198Step 5: Assign Product Cost to Batches of Work:Weighted-Average Process Costing 198

REPORTING THIS INFORMATION TOMANAGERS: THE PRODUCTION COSTREPORT 199

Sections 1 and 2: Managing the Physical Flow ofUnits 200Sections 3, 4, and 5: Managing Costs 200

ASSIGNING COSTS USING FIRST-IN, FIRST-OUT (FIFO) PROCESS COSTING 200

Step 1: Measure the Physical Flow of Resources 201Step 2: Compute the Equivalent Units ofProduction 201Step 3: Identify the Costs for Which to Account 203Step 4: Compute Costs per Equivalent Unit: FIFO 203

Step 5: Assign Product Cost: FIFO 204How This Looks in T-Accounts 205

DETERMINING WHICH IS BETTER: FIFO ORWEIGHTED AVERAGE? 205

COMPUTING PRODUCT COSTS: SUMMARY OFTHE STEPS 206

USING COSTS TRANSFERRED IN FROM PRIORDEPARTMENTS 208

Who Is Responsible for Costs Transferred in fromPrior Departments? 208

CHOOSING BETWEEN JOB AND PROCESSCOSTING 208

OPERATION COSTING 209Product Costing in Operations 209Operation Costing Illustration 210

COMPARING JOB, PROCESS, AND OPERATIONCOSTING 212Summary 213Key Terms 214Review Questions 214Critical Analysis and Discussion Questions 214Exercises 215Problems 220Solutions to Self-Study Questions 226

CHAPTER EIGHT

Activity-Based Costing 230

REPORTED PRODUCT COSTS AND DECISIONMAKING 231

Dropping a Product 231The Death Spiral 233

TWO-STAGE COST ALLOCATION 234Two-Stage Cost Allocation and the Choice of CostDrivers 235Plantwide versus Department-Specific Rates 238Choice of Cost Allocation Methods: A Cost-BenefitDecision 238

ACTIVITY-BASED COSTING 239In Action: Activity-Based Costing in a Not forProfit 240Developing Activity-Based Costs 240

COST HIERARCHIES 242

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ACTIVITY-BASED COSTING ILLUSTRATED 243

Step 1: Identify the Activities 243Step 2: Identify the Cost Drivers 243Step 3: Compute the Cost Driver Rates 244Step 4: Assign Costs Using Activity-Based Costing 244Unit Costs Compared 246

COST FLOWS THROUGH ACCOUNTS 246

CHOICE OF ACTIVITY BASES IN MODERNPRODUCTION SETTINGS 248

In Action: Evidence on the Benefits of Activity-Based Costing 249

ACTIVITY-BASED COSTING INADMINISTRATION 249

WHO USES ABC? 250Summary 251Key Terms 252Review Questions 252Critical Analysis and Discussion Questions 252Exercises 252Problems 257Integrative Cases 263Solutions to Self-Study Questions 266

CHAPTER NINE

Fundamentals of Cost Management 268

USING ACTIVITY-BASED COST MANAGEMENTTO ADD VALUE 269

Using Activity-Based Cost Information to ImproveProcesses 271Using Cost Hierarchies 271

MANAGING THE COST OF CUSTOMERS ANDSUPPLIERS 272

Using Activity-Based Costing to Determine theCost of Customers and Suppliers 273Determining Why the Cost of Customers Matters 275Using Cost of Customer Information to ManageCosts 275In Action: Customer, Not Product, Profitability 276Determining the Cost of Suppliers 276Capturing the Cost Savings 277

MANAGING THE COST OF CAPACITY 277Using and Supplying Resources 278Computing the Cost of Unused Capacity 279Assigning the Cost of Unused Capacity 281Seasonal Demand and the Cost of Unused Capacity 281

MANAGING THE COST OF QUALITY 283How Can Traditional Managerial AccountingSystems Limit the Impact of Total Quality Management 283What Is Quality? 284The Cost of Quality 284Trade-Offs, Quality Control and Failure Costs 286In Action: Cost Elements included n ReportedQuality Costs 287


CHAPTER TEN

Service Department and Joint Cost Allocation 298

SERVICE DEPARTMENT COSTALLOCATION 299

METHODS OF ALLOCATING SERVICEDEPARTMENT COSTS 301

Allocation Bases 301Direct Method 301Step Method 305In Action: Step Method at Stanford University 307Reciprocal Method 307Comparison of the Direct, Step, and ReciprocalMethods 310

ALLOCATION OF JOINT COSTS 311Joint Costing Defined 311

REASONS FOR ALLOCATING JOINTCOSTS 311

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JOINT COST ALLOCATION METHODS 312Net Realizable Value Method 312Physical Quantities Method 315Evaluation of Joint Cost Methods 315

DECIDING WHETHER TO SELL GOODS NOWOR PROCESS THEM FURTHER 316

In Action: Different Demands for Different Parts 316

WHAT TO DO WITH BY-PRODUCTS 316Summary 318Key Terms 319Appendix 10A: Calculation of the Reciprocal Method UsingComputer Spreadsheets 319Review Questions 321Critical Analysis and Discussion Questions 321Exercises 322Problems 326Integrative Case 332Solutions to Self-Study Questions 333

CHAPTER ELEVEN

Fundamentals of Management ControlSystems 336

WHY A MANAGEMENT CONTROLSYSTEM? 337

Alignment of Managerial and OrganizationalInterests 337Evolution of the Control Problem: An Example 337

DECENTRALIZED ORGANIZATIONS 338Why Decentralize the Organization? 338Advantages of Decentralization 339Disadvantages of Decentralization 339

FRAMEWORK FOR EVALUATINGMANAGEMENT CONTROL SYSTEMS 340

Organizational Environment and Strategy 340Results of the Management Control System 340Elements of a Management Control System 340Balancing the Elements 341

DELEGATED DECISION AUTHORITY:RESPONSIBILITY ACCOUNTING 342

Cost Centers 342Discretionary Cost Centers 342

Revenue Centers 342Profit Centers 342Investment Centers 343Responsibility Centers and Organization Structure 343

MEASURING PERFORMANCE 344Two Basic Questions 344In Action: Teacher Pay and Student Performance 345Cost Centers 345Revenue Centers 345Profit Centers 345Investment Centers 346

EVALUATING PERFORMANCE 346Relative Performance versus Absolute PerformanceStandards 346Evaluating Managers Performance versusEconomic Performance of the ResponsibilityCenter 347Relative Performance Evaluations in Organizations 347

COMPENSATION SYSTEMS 348In Action: Beware of the Kink 348Illustration: Corporate Cost Allocation 349Incentive Problems with Allocated Costs 349Effective Corporate Cost Allocation 350

DO PERFORMANCE EVALUATION SYSTEMS CREATE INCENTIVES TO COMMIT FRAUD? 351Summary 352Key Terms 353Review Questions 353Critical Analysis and Discussion Questions 353Exercises 354Problems 355Integrative Case 357Solutions to Self-Study Questions 360

CHAPTER TWELVE

Planning and Budgeting 362

HOW STRATEGIC PLANNING INCREASESCOMPETITIVENESS 363

OVERALL PLAN 364

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Organization Goals 364Strategic Long-Range Profit Plan 364Master Budget (Tactical Short-Range Profit Plan):Tying the Strategic Plan to the Operating Plan 364

HUMAN ELEMENT IN BUDGETING 365Value of Employee Participation 366

DEVELOPING THE MASTER BUDGET 366

WHERE TO START? 366Sales Forecasting 366

COMPREHENSIVE ILLUSTRATION 368Forecasting Production 368Forecasting Production Costs 369Direct Labor 371Overhead 371Completing the Budgeted Cost of Goods Sold 372Revising the Initial Budget 373

MARKETING AND ADMINISTRATIVE BUDGET 373

PULLING IT TOGETHER INTO THE INCOMESTATEMENT 374

KEY RELATIONSHIPS: THE SALES CYCLE 375

USING CASH FLOW BUDGETS TO ESTIMATECASH NEEDS 376

Multiperiod Cash Flows 377In Action: The Curse of Growth 378

PLANNING FOR THE ASSETS AND LIABILITIES ON THE BUDGETED BALANCESHEETS 379

BIG PICTURE: HOW IT ALL FITS TOGETHER 379

BUDGETING IN RETAIL AND WHOLESALEORGANIZATIONS 379

BUDGETING IN SERVICE ORGANIZATIONS 381

In Action: Budget is the Law of Government 382ETHICAL PROBLEMS IN BUDGETING 382

BUDGETING UNDER UNCERTAINTY 383


CHAPTER THIRTEEN

Business Unit Performance Measurement 400

In Action: What Determination whether Firms UseDivisional Measures for Measuring DivisionalPerformance 401

ACCOUNTING INCOME 402Computing Divisional Income 402Advantages and Disadvantages of DivisionalIncome 402Some Simple Financial Ratios 403

RETURN ON INVESTMENT 404Performance Measures for Control: A Short Detour 405Limitations of ROI 405

RESIDUAL INCOME MEASURES 408Limitations of Residual Income 409

ECONOMIC VALUE ADDED (EVA) 410Limitations of EVA 411In Action: Does Using Residual Income as aPerformance Measure Affect ManagersDecisions? 412

MEASURING THE INVESTMENT BASE 412Gross Book Value versus Net Book Value 412Historical Cost versus Current Cost 413Beginning, Ending, or Average Balance 415

OTHER ISSUES IN DIVISIONALPERFORMANCE MEASUREMENT 415Summary 416Key Terms 416Review Questions 416Critical Analysis and Discussion Questions 417Exercises 417Problems 420Integrative Case 423Solutions to Self-Study Questions 426

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CHAPTER FOURTEEN

Transfer Pricing 428

WHAT IS TRANSFER PRICING AND WHY IS ITIMPORTANT? 429

DETERMINING THE OPTIMAL TRANSFERPRICE 430

The Setting 430Determining Whether a Transfer Price Is Optimal 430Case 1: A Perfect Intermediate Market 432In Action: Transfer Pricing in State-OwnedEnterprises 434Case 2: No Intermediate Market 434

OPTIMAL TRANSFER PRICE: A GENERALPRINCIPLE 435

Other Market Conditions 436

APPLYING THE GENERAL PRINCIPLE 436

HOW TO HELP MANAGERS ACHIEVE THEIRGOALS WHILE ACHIEVING THEORGANIZATIONS GOALS 437

TOP-MANAGEMENT INTERVENTION INTRANSFER PRICING 438

CENTRALLY ESTABLISHED TRANSFER PRICEPOLICIES 438

Establishing a Market Price Policy 438Establishing a Cost-Basis Policy 439Alternative Cost Measures 440Remedying Motivational Problems of TransferPricing Policies 441

NEGOTIATING THE TRANSFER PRICE 441

IMPERFECT MARKETS 442

GLOBAL PRACTICES 442In Action: Management Control and TaxConsideration in Transfer Pricing 443

MULTINATIONAL TRANSFER PRICING 443

SEGMENT REPORTING 444Summary 445Key Terms 446Review Questions 446Critical Analysis and Discussion Questions 446

Exercises 447Problems 449Integrative Cases 454Solutions to Self-Study Questions 456

CHAPTER FIFTEEN

Fundamentals of Variance Analysis 458

USING BUDGETS FOR PERFORMANCEEVALUATION 459

PROFIT VARIANCE 460Why Are Actual and Budgeted Results Different? 461

FLEXIBLE BUDGETING 461

COMPARING BUDGETS AND RESULTS 463Sales Activity Variance 463In Action: Using the Sales Activity Variance toExplain Results 464

PROFIT VARIANCE ANALYSIS AS A KEY TOOLFOR MANAGERS 464

Sales Price Variance 466Variable Production Cost Variances 466Fixed Production Cost Variance 466Marketing and Administrative Variances 466

PERFORMANCE MEASUREMENT ANDCONTROL IN A COST CENTER 466

Variable Production Costs 467

VARIABLE COST VARIANCE ANALYSIS 468General Model 468Direct Materials 469Direct Labor 471Variable Production Overhead 472Variable Cost Variances Summarized in GraphicForm 474

FIXED COST VARIANCES 475Fixed Cost Variances with Variable Costing 475Absorption Costing: The Production VolumeVariance 476

SUMMARY OF OVERHEAD VARIANCES 478Key Points 478In Action: Does Standard Costing lead to Waste? 479

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Summary 479Key Terms 480Appendix A Recording Costs in a Standard Cost System 480Review Questions 483Critical Analysis and Discussion Questions 484Exercises 484Problems 490Integrative Case 496Solutions to Self-Study Questions 499

CHAPTER SIXTEEN

Additional Topics in Variance Analysis 502

PROFIT VARIANCE ANALYSIS WHEN UNITSPRODUCED DO NOT EQUAL UNITS SOLD 503

In Action: Financial Analysis and VarianceAnalysis 505Reconciling Variable Costing Budgets and Full-Absorption Income Statements 505

MATERIALS PURCHASES DO NOT EQUALMATERIALS USED 506

MARKET SHARE VARIANCE AND INDUSTRYVOLUME VARIANCE 508

SALES ACTIVITY VARIANCES WITH MULTIPLEPRODUCTS 509

Evaluating Product Mix 509Evaluating Sales Mix and Sales Quantity 510In Action: Sales Mix and financial Reporting 511

PRODUCTION MIX AND YIELD VARIANCES 512

Mix and Yield Variances in Manufacturing 512

VARIANCE ANALYSIS INNONMANUFACTURING SETTINGS 515

Using the Profit Variance Analysis in Service andMerchandise Organizations 515Efficiency Measures 515Mix and Yield Variances in Service Organizations 516

KEEPING AN EYE ON VARIANCES ANDSTANDARDS 516

How Many Variances to Calculate 516When to Investigate Variances 517Updating Standards 518

Summary 518Key Terms 518

Review Questions 519Critical Analysis and Discussion Questions 519Exercises 519Problems 522Integrative Case 526Solutions to Self-Study Questions 528

CHAPTER SEVENTEEN

Nonfinancial and Multiple Measures ofPerformance 532

BEYOND THE ACCOUNTING NUMBERS 533

ORGANIZATIONAL ENVIRONMENT ANDBUSINESS STRATEGY 534

RESPONSIBILITIES ACCORDING TO LEVEL OFORGANIZATION 534

BUSINESS MODEL 535

MULTIPLE MEASURES OR A SINGLE MEASUREOF PERFORMANCE? 536

Balanced Scorecard 536In Action: Using Balanced Scorecard Informationto Evaluate Multiple Divisions 539Continuous Improvement and Benchmarking 539In Action: Sources and uses of Benchmarking Data 541

PERFORMANCE MEASUREMENT FORCONTROL 542

SOME COMMON NONFINANCIALPERFORMANCE MEASURES 542

Customer Satisfaction Performance Measures 542Functional Performance Measures 543Nonfinancial Performance and Activity-BasedManagement 544Objective and Subjective Performance Measures 544

EMPLOYEE INVOLVEMENT 545Summary 546Key Terms 547Review Questions 547Critical Analysis and Discussion Questions 547Exercises 548Problems 549Solutions to Self-Study Questions 551

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APPENDIX

Capital Investment Decisions: An Overview 552

GLOSSARY 563

PHOTO CREDITS 569

INDEX 571

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Cost Accounting