A&MIS 212 – Session 2

1. A&MIS 212 – Session 2 William F. Bentz January 10, 2002 Fisher College of Business W. F. Bentz

2. Thursday’ Agenda • Chapter 2, Exercise 3 • Chapter 2, Problem 13 • Introduce Job-Order Costing Systems W. F. Bentz

3. Key Issues in Product Costing • Terminology • Points of potential confusion • Accounts W. F. Bentz

4. Concept of “Cost” • Cost is a sacrifice; a measurable cost is the relinquishment of a measurable asset or the creation of a measurable liability. W. F. Bentz

5. GAAP Product Cost • For Work-in-Process and Finished Goods inventory purposes (GAAP), only manufacturing costs are included in “product” costs. Product costs remain in inventory until the associated product are sold or decline in value. When the associated products are sold, the “product cost” is added to Cost of Goods Sold. W. F. Bentz

6. Produc-tion Market-ing Distri-bution ConsumerService R&D Design Meanings of Product Cost Inventoriable product costs Reimbursable government contract costs Decision-relevant costs W. F. Bentz

7. GAAP Expenses (Period Costs) • Costs are incurred for activities that do not directly create products, but support the creation of products. These costs are charged to expense accounts during the accounting period incurred and thus are called period expenses. W. F. Bentz

8. GAAP Expenses--Examples • Administrative Expenses • Corporate officers • Corporate buildings • Corporate costs like the annual audit fees • Corporate costs like • Selling (Marketing) Expenses • Distribution Expenses W. F. Bentz

9. Accounting-Speak Period Expenses Expensed During a Period Costs Incurred Product Costs (Inventory) Assets (Prepaids) (PP&E) W. F. Bentz

10. Concept—Service Potential • In accounting, service potential can be thought of as the present value of the cash flows from an activity, at some level of risk, or adjusted for risk. W. F. Bentz

11. Concept—Cost • Actions that decrease the present value of cash outflows, at a given level of risk, are actions that decrease cost. Actions that increase the present value of future cash outflows, at a given level of risk, are actions that increase cost. W. F. Bentz

12. Concept—Cost • Actions that increase the risk of future cash flows are actions that increase cost. Actions that decrease the risk of future cash flows are actions that decrease cost. and so on. W. F. Bentz

13. Terminology—Costing • Costing is the process of estimating the cost (sacrifice) of taking action. Costs are the result of undertaking and maintaining activities. Thus, costing is largely a matter of assigning costs (sacrifices) with the activities which caused those sacrifices. W. F. Bentz

14. Terminology—Cost Object • A cost object is any activity for which a separate measurement of cost is desired. • An activity involves doing something • Cost objects are derived from the purposes for which the cost information is to be used (different costs for different purposes). W. F. Bentz

15. Terminology—Costing Systems • Costing systems are the information systems used to accumulate cost data either regularly or intermittently. Usually cost systems are flexible enough to collect information for a variety of purposes. W. F. Bentz

16. Terminology—Costing Systems • A variety of costing systems may exist in any one organization (engineering, accounting, production, distribution). W. F. Bentz

17. Terminology—Cost Analysis • Cost analysis is the process of assessing the expected impact of managerial decisions on the financial performance of an entity. Decision analysis includes cost analysis. W. F. Bentz

18. Terminology—Cost Incurred • Cost incurred is the cost that an entity has experienced as a result of the execution of some activity for a specified period of time. Although it is in the past, cost incurred may have to be estimated. Accurate, valid measures of cost incurred require information about separable activities. W. F. Bentz

19. “Product Costs (GAAP) • Product (inventoriable) costs include all manufacturing costs regardless of traceability or behavior. • Direct materials • Direct labor • Indirect labor, materials, depreciation, services, etc. Conversion Prime cost W. F. Bentz

20. Work in Process Finished Goods Inventory Cost of Goods Sold Inventory System Payroll System Indirect Costs Assigned The Flow of Costs W. F. Bentz

21. Object 1 Costs Incurred Object 2 Object 3 Costing Objects Topic Shift Next, let us consider how one associates the costs incurred to a set of cost objects in the costing process. W. F. Bentz

22. Cost Assignment • Tracing – direct costs can be traced to cost objects • Ability to trace with acceptable accuracy, validity, and cost • Technology is improving our ability to trace • The more complex the production process, the more difficult and costly the tracing process W. F. Bentz

23. Cost Assignment • Tracing (continued) 2. Cost-effective to trace costs • The greater the cost, the greater the value of tracing • Technology is reducing the cost of tracing • The value of tracing increases with competition • More complex mfg. systems increase the need to trace W. F. Bentz

24. Cost Assignment • Costallocation is the process of assigning costs to cost objects when those costs cannot be traced cost-effectively. • Cost allocation ranges from relatively unambiguous, with high face validity, to relatively arbitrary. • Most distortions in product and service costing are related to cost allocation, not cost tracing. W. F. Bentz

25. Job-Costing One costing system is called job-costing or job-order costing. Job-costing systems are designed to cost a single unit or project, or one or more batches of very similar units. W. F. Bentz

26. Job-Costing Applications Job-costing is suited to: • Ship building • Construction projects • Printing shops with diverse jobs • Medical procedures • Repair shops • Consulting projects W. F. Bentz

27. Costing Jobs--Materials • When materials and component parts are taken out of inventory and put into process, the cost of those materials are traced to the job for which they were used. The total cost of all materials used in a period is debited to Work-in-Process. That debit amount must equal the total of the material costs charged to individual jobs. W. F. Bentz

28. Costing Jobs--Labor • When the total cost of labor is determined each period, that cost is either traced to specific jobs or charged to indirect cost. Workers and their supervisors must have a system for keeping tract of who worked on what jobs. W. F. Bentz

29. Costing Jobs—Indirect Costs • Indirect costs are allocated to jobs based on predetermined (budgeted) overhead (indirect manufacturing cost rates (PORs). In the least complex systems, there will be one POR. In more complex processes, there may be a number of cost drivers involved, and a corresponding POR for each cost driver. W. F. Bentz

30. To cost a specific job • Trace the direct costs to each job • For each job record the amount of the driver activity for each BICR • Multiply the BICR times the amount of activity for each cost driver • Add the cost components to compute the total cost (inventory value) of each job W. F. Bentz

31. Inventory System Payroll System Work in Process Finished Goods Inventory Cost of Goods Sold Indirect Costs Incurred Indirect Costs Allocated Adjustment The Flow of Costs W. F. Bentz

32. Inventory values • The cost of any job is the cumulative amount of the costs charged to that job in the current and previous periods. The cost accumulates until the job is completed. The costs incurred for long-term construction contracts, as discussed in A&MIS 521, would be accumulated using a job-cost system. W. F. Bentz

33. Updating the costs of jobs • Direct materials would likely be accounted for using a perpetual inventory system • Direct labor costs would be updated every time a payroll is computed and at the end of every accounting period. • Indirect costs are charged to jobs at the end of every accounting period prior to completion and when they are finished. W. F. Bentz

34. Refinements • One can keep track of categories of cost within a job. For example, a large construction company I once worked for kept track of the cost of; (1) concrete floors, (2) walls & piers, (3) electrical systems, (4) roofing, and (5) mechanical systems. The company used this information to price bids and to select subcontractors on the basis of costs. W. F. Bentz

35. Problem Areas • A major consideration in the quality of the direct cost information lies in the tracing of costs to jobs. A potential problem occurs when workers are involved in several jobs each morning or afternoon and do not keep accurate time records. W. F. Bentz

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