Study Objectives

Explain the cost assignment process.

Define tangible and intangible products, and explain why there are different product cost definitions.

Prepare income statements for manufacturing and service organizations.

Explain the differences between traditional and contemporary cost management systems.

Cost Assignment: Direct Tracing,
Driver Tracing and Allocation

A cost object is any item, such as products, customers, departments, projects, activities, and so on, for which costs are measured and assigned.Example: A bicycle is a cost object when you are determining the cost to produce a bicycle. An activity is a basic unit of work performed within an organization. Example: Setting up equipment, moving materials, maintaining equipment, designing products, etc.

Cost Assignment: Direct Tracing,
Driver Tracing and Allocation

Traceability means that costs can be assigned easily and accurately, using a causal relationship. Methods of tracing:Direct tracing: relies on physical observance of causal relationships to assign costs to cost objects.Driver tracing: relies on drivers as causal factors to assign costs to cost objects.

Cost Assignment Methods

Examples of Product Cost Definitions

Product Costs

Direct materials: those materials directly traceable to the goods or services being produced.

Example: The cost of wood in furniture.

Direct labor: labor that is directly traceable to the goods or services being produced.

Example: Wages of assembly-line workers.

Overhead: all other manufacturing costs.

Example: Plant depreciation, utilities, property taxes, indirect materials, indirect labor, etc.

Prime and Conversion Costs

Nonproduction Costs

Amount and timing of benefit cannot be reasonably estimated

Period costs

Not inventoriedExpensed as incurredExamplesResearch and developmentMarketing costsAdministrative costs

Production and Nonproduction Costs

External Financial Statements

Income Statement ~ Manufacturing FirmFunctional categories of expenseCost of goods soldOperating expensesSupporting schedulesCost of goods manufacturedCost of goods soldIncome Statement ~ Service OrganizationNo finished goods inventory

Income Statement: Manufacturing Firm

From the Cost of Goods Sold Schedule

Sheet1Manufacturing OrganizationIncome StatementFor the Year Ended December 31, 2009Sales$ 2,000,000Less: Cost of Goods Sold1,300,000Gross margin$ 700,000Less operating expenses:Research and development$ 100,000Selling300,000Administrative150,000550,000Operating income$ 150,000

Statement of Cost of Goods Manufactured

Cost of Goods Sold Schedule

Cost Management Systems

Functional-BasedAssumes a linear production cost behaviorAssigns costs to organizational unitsActivity-BasedEmphasizes tracing over allocationIdentifies non-unit-based activity drivers

Functional-Based
Cost Management

Unit-based drivers Allocation-intensiveNarrow and rigid product costingFocus on managing costsSparse activity informationMaximization of individual unit performanceUses financial measures of performance

Activity-Based
Cost Management

Unit- and non-unit-based driversTracing intensiveBroad, flexible product costingFocus on managing activitiesDetailed activity informationSystem-wide performance maximizationUses both financial and nonfinancial measures of performance

Trade-Off between Measurement Costs and Error Costs

Shifting Costs

COST MANAGEMENT

Accounting & ControlHansenMowenGuan

End Chapter 2

DirectDirectPrime

+=

MaterialsLaborCosts

DirectOverheadConversion

+=

MaterialsCostsCosts

Sales2,000,000$

Less: Cost of Goods Sold1,300,000

Gross margin700,000$

Less operating expenses:

Research and development100,000$

Selling300,000

Administrative150,000 550,000

Operating income150,000$

Manufacturing Organization

Income Statement

For the Year Ended December 31, 2009