Cost Management

Session 5

Overview

• Theory

• Exercise: 2.26, 2.33, 2.41, 2.42, 10.32

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Theory

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Total Costs = Direct Costs + Indirect Costs

cost that are directly related to production of the goods

costs which cannot be directly assigned to a single product rather it has to be assigned in some proportion to all products

Direct labour, direct material Building rent, supervisory salaries

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Opportunity CostsSunk CostsCommitted costsVariable costsFixed costsProduct cost vs period cost

Cost behaviour means how a cost will react to changes in the level of business activity.

– Total variable costs change when activity level changes.

– Total fixed costs remain unchanged when activity level changes.

Cost behaviour means how a cost will react to changes in the level of business activity.

– Total variable costs change when activity level changes.

– Total fixed costs remain unchanged when activity level changes.

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Prime cost Conversion cost3 major categories of manufacturing costs

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Exercise 2.26 (pag.71)

(a) Cost of raw material purchased during the year

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Beginning raw- material inventory+ Raw material purchased=Direct material used +Ending raw- materialinventory

328,000

1,732,000

366,000

???

Raw material purchased = 1,732,000 + 366,000 – 328,000= 1,770,000

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(b)Cost of goods manufactured

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Beginning finished-goods inventory+Cost of goods manufactured=Cost of goods sold+Ending finished-goods inventory

146,000

6,000,000

150,000

?????

Cost of goods manufactured = 6,000,000 + 150,000 – 146,000 = 6,004,000

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(c) Total manufacturing costs

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Beginning work –in-process Inventory+Total manufacturing costs=Cost of goods Manufactured+Ending work -in-processinventory

362,000

6,004,000

354,000

???

Total manufacturing costs = 6,004,000 + 354,000 – 362,000= 5,996,000

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Exercise 2.33(pg 73)

What is the difference in this year’s divisional operating profit if the new machine is rented and installed on 31 december of this year?

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This year’s statement of income:Baseline (Status Quo) Rent

EquipmentDifference

REVENUE €1,590,000 €1,590,000 0Operating costs:

 Variable (190,000) (190,000) 0 Fixed (cash expenditures)

(750,000) (750,000 0

Equipment depreciation

(150,000) (150,000) 0

Other depreciation (125,000) 125,000) 0Loss from equipment

write-off

Operating profit (before taxes)

0

€  375,000

(850,000)

(475000)

€850,000 lower

€850,000lower

Next year’s statement of income

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Baseline (Status Quo)

RentEquipment

Difference

REVENUE €1,590,000 €1,749,000 €159,000

Operating costs:Equipment

rental0 (230,000) 230,000

higher

 Variable (190,000) (190,000) 0

Fixed (cash expenditures)

(750,000) (712,500) 37,500lower

Equipment depreciation

(150,000) 0 150,000lower

Other depreciation

(125,000) (125,000) 0

Operating profit (before taxes)

€  375,000 €491,500 €116,500higher

Would you rent the machine?

• Despite the effect on next year’s statement of income, the company should not rent the new machine because net cash inflow as a result of installing the new machine (€159,000 + €37,500) does not cover cash outflow for equipment rental.

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Exercise 2.41(pg 77)

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a.Variable manufacturing cost=manufacturing overhead + direct labour +direct material

=CHF 30 + 10 + 40 = CHF 80

b. Variable cost = all variable unit costs

=CHF 5 + 30 + 10 + 40 = CHF 85

c. Accrual cost per unit = fixed and variable manufacturing overhead + direct labour + direct material

= CHF 15 + 30 + 10 +40 = CHF 95

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d.Direct cost per unit = direct labour + direct material

= CHF 10 + 40 = CHF 50

e. Conversion cost per unit = direct labour + manufacturing overhead=CHF 10 + (30 + 15) =CHF 55

f. Profit margin per unit =sales price – full cost

= CHF 175 – 120 = CHF 55

g. Gross margin per unit = sales price – accrual cost

= CHF 175 – 95 = CHF 80

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h. As the number of units increases (reflected in the denominator), the fixed manufacturing cost per unit decreases

Exercise 42 (pg77)

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a. Direct cost = direct material + direct labour

Direct material =beginning inventory + purchases – ending inventory

= €9,000 + €22,000 – €8,500 = €22,500

Direct labour is given as €14,000

Direct cost= €22,500 + €14,000= €36,500

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b. Conversion cost = direct labour + manufacturing overheadConversion cost = €14,000 + €20,000 = €34,000

c. Total manufacturing cost=direct material + direct labour + manufacturing overhead

=€22,500 (from question a) + €14,000 + €20,000 = €56,500

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d. Cost of goods manufactured =beginning WIP* + total manufacturing costs – ending WIP

= beginning WIP + direct material + direct labour + manufacturing overhead – ending WIP

=€4,500 + €22,500 + €14,000 + €20,000 – €3,000=€4,500 + €56,500 (from req. c above) – €3,000=€58,000

e.Cost of goods sold = cost of goods manufactured + beginning finished-goods inventory –Ending finished -goods inventory

= €58,000 (from d above) + €13,500 – €18,000= €53,500

Exercise 10.32 (pg 508)

• Applying overhead using a predetermined rate

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OB + TI – TO = CB

CB=€5,000 + (€30,000 + €20,000 + €16,000) – €60,000CB=€11,000 Factory overhead = 80% x €2,500 = €2,000

Total cost = direct material + direct labour + factory overhead

€11,000 = direct material + €2,500 + €2,000Direct material = €11,000 – €2,500 – €2,000Direct material = €6,500

See you next week!

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