MANAGEMENT ACCOUNTING - Cost Classification & Behaviour

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1 MANAGEMENT ACCOUNTING - Cost Classification & Behaviour 1 Prepared by: Yaeesh Yasseen, Jade Jansen, Rashied Small & Lucinda Smidt Reviewed by: Achmad Joseph

2 2 Managerial Accounting - Introduction

3 3 Cost & Management Accounting Scope Objective Nature Cost Accounting Limited to providing cost data & information to management for operating decision-making and appraisal Measure of production/service costs and cost control System is concerns with both past and present information Management Accounting Providing all types of information (financial and non-financial) to management for business decisionmaking Assist management by providing and analyzing information Concern with future information and use of past information for forecasting Techniques Application Budgetary and costing methods and techniques Cost assertions and cost control to maximize profits Budgetary and costing methods together with analytical analysis (ratio analysis) Planning, controlling and decisionmaking to maximize profit

4 4 Cost Classification Learning objectives Defining the cost object Identifying direct and indirect costs Identifying variable and fixed costs Separate costs for mixed costs

5 5 Cost Object Cost Object Cost object is defined the activity (product/service) for which the cost needs to be determine.

6 6 Direct & indirect Costs

7 7 Cost vs Expenses Cost: Resources sacrifice to achieve the cost object cost incurred to acquire resource/benefit Expense: Cost incurred to conduct the operating activities of the business

8 8 Cost vs Expenses - Illustration Cost Cost of a machine acquired Cost of the goods purchased for resale Cost to insure the business and its assets Production costs to produce the product overhead costs Expense Depreciation charged for the use of the machine Cost of goods sold when the sale is concluded Insurance charged to income statement for the period Administrative and selling expenses incurred to conduct the business

9 9 Types of Costs

10 10 Direct & Indirect Costs TYPE OFCOST COST ASSIGNMENT Direct costs Bricks, cement, tiles to build an apartment Cost tracing COST OBJECT Indirect costs Costing of leasing a cement mixing machine or electricity Cost allocation

11 11 Direct & Indirect Costs Direct costs Materials used in the manufacture of products (bricks, sand & cement used in construction) Salaries & wages paid to the production staff actively involved in the manufacturing process (construction employees) Indirect costs Cost accountant who administers all the products undertaken by the business Salaries paid to the project manager who supervisors a number of projects in the construction industry

12 12 Cost Behaviours Cost Behaviour: Provides an indication of the sensitivity of costs in relation to changes in the level of activities or output Importance of Cost Behaviour: Cost behavior assist management in carrying out their managerial function of cost management and control as well as operational decision-making

13 13 Cost Behaviours Cost Material cost Cost Behaviour Material costs changes as the number of units produce changes direct relation between materials used and output Factory rent Salaries paid Rental for the factory will not be affected by the number of units produced floor space has not relationship to output Salaries is one of the challenging cost behaviours as if is affected by the basis of payment if the basis in not linked to output then it will not change even if the output changes

14 Price 14 Variable Costs Total variable costs changes in relation to the level of activity Variable cost per unit remains fixed Volume (Level of Activity)

15 15 Variable Cost - Test Units 10,000 20,000 30,000 Total cost 40,000 80, ,000 Cost/unit Total cost changes as the number of units changes Cost per unit remains fixed irrespective of the changes in the number of units produced

16 Price 16 Fixed Costs Total fixed costs remains constant for all levels of activity Average fixed cost per unit varies as level of activity changes Volume (Level of Activity)

17 17 Fixed Cost - Test Units 10,000 20,000 30,000 Total cost 90,000 90,000 90,000 Cost/unit Change in units 100% 50% Change in cost/unit 100% 50% Total cost remains unchanged as the number of units changes Rate of change in output is equivalent to the rate of change in the average cost per unit Cost per unit changes as the number of units produced changes

18 18 GROUP WORK ACTIVITY 1: PERAJ [Classification between variable & fixed costs]

19 Price 19 Total Cost y = a + bx Total cost TC = FC + VC Total average cost per unit Volume (Level of Activity) Variable costs Fixed costs

20 20 Total Cost - Profitability Units 50, ,000 Sales 1,000,000 2,000,000 Variable costs 500,000 1,000,000 Fixed costs 300, ,000 Profit 200, ,000 Profit per unit Variable cost per unit Fixe cost per unit Increase in profit per unit of R 3.00 is attributed to the decrease in fixed cost per unit

21 21 GROUP WORK ACTIVITY 2: CHAPLEEN [Impact of costs on decision-making]

22 Price 22 Mixed Cost Mixed costs contain both a fixed and variable component Costs varies beyond the critical point Costs are fixed for a certain level of activity Volume (Level of Activity)

23 23 Mixed Cost Units 5,000 10,000 20,000 Total cost 20,000 30,000 50,000 Average cost per unit Based on the average cost per unit, the cost is not a variable cost as the average cost per unit changes in relation to the level of output variable cost is fixed per unit Change in output 100% 100% Change in average cost 33% 20% Based on the change in the output and change in average cost per unit, the cost is not a fixed costs as there is not a direct relationship between the change in output and change in cost changes in fixed cost represent an inverse proportionate change in output and cost

24 24 Mixed Costs - Separation Management techniques High-low method: Applies the principle of differential analysis Best-fit method: Applies statistical and regression analysis High-Low Method Average cost per unit based on the variances of the output and costs represent the variable cost

25 25 Mixed Costs High-Low Method Selecting information for the higher & lowest periods Determine the difference between the outputs and costs Calculating the average per unit based on the differences Highest Lowest Difference Output 60,000 80,000 20,000 Total cost 580, ,000 60,000 Average cost per unit 3.00 Total variable cost 180, ,000 Total fixed cost 400, ,000 Total cost 580, ,000

26 26 GROUP WORK ACTIVITY 3: SERVICE CENTRE [Separate of mixed-costs High-Low method]