BA213—Chapter 16: Introduction to Managerial Accounting
Study Objectives:
1. Explain the distinguishing features of managerial accounting.
2. Identify the 3 broad functions of management.
3. Define the 3 classes of manufacturing costs.
4. Distinguish between product and period costs.
5. Explain the difference between a merchandising and a manufacturing income statement.
6. Indicate how cost of goods manufactured is determined.
7. Explain the difference between a merchandising and a manufacturing balance sheet.
8. Identify trends in managerial accounting.
I. MANAGERIAL ACCOUNTING BASICS
A. Managerial accounting (management accounting) is a field of accounting that provides economic and financial information for managers and other internal users.
B. The activities that are part of managerial accounting are as follows:
1. Explaining manufacturing and nonmanufacturing costs and how they are reported in the financial statements.
2. Computing the cost of providing a service or manufacturing a product.
3. Determining the behavior of costs and expenses as activity levels change and analyzing cost-volume-profit relationships within a company.
4. Assisting management in profit planning and formalizing these plans in the form of budgets.
5. Providing a basis for controlling costs and expenses by comparing actual results with planned objectives and standard costs.
6. Accumulating and presenting relevant data for management decision making.
C. DIFFERENCES BETWEEN FINANCIAL AND MANAGERIAL ACCOUNTING:
1. FINANCIAL ACCOUNTING
a) Primary Users of Reports—External users: stockholders, creditors, and regulatory.
b) Types and Frequency of Reports
1) Classified financial statements.
2) Issued quarterly and annually.
c) Purpose of Reports—General-purpose information for all users.
d) Content of Reports
1) Pertains to business as a whole and is highly aggregated (condensed).
2) Limited to double-entry accounting system and cost data.
3) Reporting standard is generally accepted accounting principles.
e) Verification Process—Annual independent audit by certified public accountant.
2. MANAGERIAL ACCOUNTING
a) Primary Users of Reports—Internal users: officers, department heads, managers, and supervisors.
b) Types and Frequency of Reports
1) Internal reports.
2) Issued as frequently as needed.
c) Purpose of Reports—Special-purpose information for a particular user for a specific decision.
d) Content of Reports
1) Pertains to subunits of the entity and may be very detailed.
2) May extend beyond double-entry accounting system to any type of relevant data.
3) Reporting standard is relevance to the decision to be made.
e) Verification Process—No independent audits.
D. ETHICAL STANDARDS FOR MANAGERIAL ACCOUNTANTS
1. Managerial accountants recognize that they have an ethical obligation to their companies and the public.
2. The Institute of Management Accountants (IMA) has developed a code of ethical.
3. This code divides the managerial accountant’s responsibilities into 4 areas:
a) COMPETENCE,
b) CONFIDENTIALITY,
c) INTEGRITY, and
d) CREDIBILITY
E. MANAGEMENT FUNCTIONS
1. The three broad functions that management of an organization performs:
a) Planning requires management to:
1) look ahead and
2) establish objectives
3) A key modern management objective is to add value to the business under its control. Value is usually measured by:
a. The trading price of the company’s stock and
b. The potential selling price of the company.
b) Motivating and Directing involves coordinating diverse activities and human resources to produce a smooth-running operation.
1) This function relates to implementing of planned objectives.
2) Most companies prepare organization charts to show:
a. The interrelationship of activities and
b. The delegation of authority and responsibility within the company.
c) Controlling is the process of keeping the firm’s activities on track. In controlling operations, managers determine:
1) whether planned goals are being met and
2) When there are deviations from targeted objectives, they must decide what changes are needed to get back on track.
F. BUSINESS ETHICS: Given the importance of ethical behavior to corporations and their owners (stockholders), an increasing number of organizations provide ethics for their employees.
1. CREATING PROPER INCENTIVES
a. Many companies use complex systems to control and evaluate the actions of managers where they dedicate substantial resources to monitor and effectively evaluate the actions of employees.
b. Unfortunately, these systems and controls sometimes unwittingly create incentives for managers to take unethical actions like with budgets, for example.
1) Companies provide budgets to provide direction.
2) Because the budget is also used as an evaluation tool, some managers try to “game” the budgeting process by underestimating their division’s predicted performance so that it will be easier to meet their performance targets.
3) But if the budget is set at unattainable levels, managers sometimes take unethical actions to meet the targets in order to receive higher compensation or, in some cases, to keep their jobs.
2. CODE OF ETHICAL STANDARDS
a. U.S. Congress enacted legislation to help prevent lapses in internal control called the Sarbanes-Oxley Act of 2002 (SOX, or Sarbox).
1) One result of SOX was to clarify top management’s responsibility for the company’s financial statements as CEOs and CFOs must now certify that financial statements five a fair presentation of the company’s operating results and its financial condition.
2) In addition, top managers must certify that the company maintains an adequate system of internal controls to safeguard the company’s assets and ensure accurate financial reports.
3) Another result of SOX is that the audit committee of the board of directors must be comprised entirely of independent members (that is, non-employees) and must contain at least one financial expert.
b. The Institute of Management Accountants (IMA) has developed a code of ethical standards, entitled Statement of Ethical Professional Practices where management accounts should not commit acts in violation of these standards nor condone such acts by others within their organizations.
II. MANAGERIAL COST CONCEPTS
A. To perform the three management functions effectively, management needs information. One very important type of information is related to costs.
1. The following questions need answering:
a. What costs are involved in making the product or providing a service?
b. If production volume is decreased, will costs decrease?
c. What impact will automation have on total costs?
d. How can costs best be controlled?
2. To answer these questions, management needs reliable and relevant cost information.
B. MANUFACTURING COSTS: Manufacturing consists of activities and processes that convert raw materials into finished goods. Define the three classes of manufacturing costs:
1. Direct Materials (DM)
a. Raw materials are the basic materials and parts that are to be used in the manufacturing process.
b. Raw materials that can be physically and directly associated with the finished product during the manufacturing process are called direct materials.
c. Some raw materials cannot be easily associated with the finished product. These are considered indirect materials – which are accounted for as:
1) part of manufacturing overhead and
2) do not physically become part of the finished product or
3) cannot be traced because their physical association with the finished product is too small in terms of cost
2. Direct Labor (DL)
a. Direct labor is the work of factory employees that can be physically and directly associated with converting raw materials into finished goods.
b. The wages of maintenance people, timekeepers, and supervisors are usually identified as indirect labor. Their efforts have no physical association with the finished product.
c. Like indirect materials, indirect labor is part of manufacturing overhead.
3. Manufacturing Overhead (MO)
a. Manufacturing overhead consists of costs that are indirectly associated with the manufacture of the finished product.
b. These costs may also be manufacturing costs that cannot be classified as direct materials or direct labor.
c. Manufacturing overhead includes:
1) indirect materials;
2) indirect labor;
3) depreciation on factory buildings and machines;
4) insurance, taxes, and maintenance on factory facilities.
C. PRODUCT VERSUS PERIOD COSTS:
1. Product Costs = Manufacturing Costs
a. Product costs include each of the manufacturing cost elements = (direct materials (DM), direct labor (DL), + manufacturing overhead (MO)):
b. They are costs that are a necessary and integral part of producing the finished product.
c. These costs are not expensed to cost of goods sold under the matching principle until the finished goods inventory is sold.
2. Period Costs = Nonmanufacturing Costs
a. Period costs:
1) are identifiable with a specific time period,
2) relate to nonmanufacturing noninventoriable costs, and
3) include selling and administrative expenses.
b. Period costs are deducted from revenues in the period in which they are incurred.
III. MANUFACTURING COSTS IN FINANCIAL STATEMENTS
A. The financial statements of a manufacturing company are very similar to those of a merchandising company. The principal differences pertain to:
1. The cost of goods sold section in the income statement and
2. The current assets section in the balance sheet.
B. INCOME STATEMENT
1. COST OF GOODS SOLD SECTIONS—MERCHANDISER VS. MANUFACTURER:
a) Under a periodic inventory system, the income statements of a merchandiser and a manufacturer differ in the cost of goods sold section.
b) For a merchandiser, cost of goods sold is computed by adding the beginning merchandise inventory and the cost of goods purchased and subtracting the ending merchandise inventory.
Beg. Merch. Inventory / + / COG Purchased / - / End. Merch. Inventory / = / COGSc) For a manufacturer, cost of goods sold is computed by adding the beginning finished goods inventory and the cost of goods manufactured and subtracting the ending finished goods inventory.
Beg. FG Inventory / + / COG Manufactured / - / End. FG Inventory / = / COGS2. Determining the cost of goods manufactured
a) The total cost of work in process for the year is equal to the sum of:
1) the cost of the beginning work in process inventory and
2) the total manufacturing costs for the current period.
b) To find the cost of goods manufactured, we subtract:
1) the cost of the ending work in process inventory from
2) the total cost of work in process.
Beg. WIP Inventory / + / Total Current Manu. Costs (DM + DL + MO) / = / Total Cost of WIPTotal Cost of WIP / - / Ending WIP Inventory / = / Total COG Manufactured
C. BALANCE SHEET—CURRENT ASSETS SECTIONS—MERCHANDISER VS. MANUFACTURER:
1. The balance sheet for a merchandiser shows just one inventory category—Merchandise Inventory.
2. In contrast, the balance sheet of a manufacturer may have 3 inventory accounts in order of liquidity (ready to sell and turn into cash):
a) Finished Goods Inventory – shows the cost of completed goods on hand,
b) Work in Process Inventory – shows the cost applicable to units that have been started into production but are only partially completed, and
c) Raw Materials Inventory – shows the cost of raw materials on hand.
D. COST CONCEPTS—A REVIEW
1. The manufacturing and selling costs can be assigned to the various categories shown below:
Product CostsDirect
Material / Direct Labor / Factory
Overhead / Period
Costs
Material costs / X
Labor costs / X
Depr. (Equip.) / X
Property Tax / X
Advert. costs / X
Sales comm.. / X
Maint. Salaries / X
Plant Mgr salary / X
Shipping costs / X
2. Total manufacturing costs are the sum of the product costs—direct materials, direct labor, and manufacturing overhead costs. Northridge Company produces 10,000 pre-hung wooden doors the first year. The total manufacturing costs are:
Cost Number and Item / Manufacturing Cost1. Material cost ($10 x 10,000) / $100,000
2. Labor cost ($8 x 10,000) / 80,000
3. Depreciation on new equipment / 25,000
4. Property taxes / 6,000
7. Maintenance salaries / 28,000
8. Salary of plant manager / 70,000
Total manufacturing costs / $309,000
IV. CONTEMPORARY DEVELOPMENTS IN MANAGERIAL ACCOUNTING
A. Since the 1970’s, the competitive environment for U.S. businesses has changed significantly such as:
1. Global competition has intensified. Today, contemporary business managers demand from managerial accountants different and better information than they needed just a few years ago.
2. Service Industry Trends – in some respects the challenges for managerial accounting are greater in service companies than in manufacturing companies.
B. SERVICE INDUSTRY TRENDS
1. Service industries and companies and the managerial accounting questions they face—What are some of the questions faced by service company managers in these industries below?
a. Transportation—Whether to buy new or used planes or whether to service a new route?
b. Package delivery services—What fee structure to use or what mode of transportation to use?
c. Telecommunications—What fee structure to use or whether to service a new community or how many households to break even or whether to invest in a new satellite or lay new cable?
d. Professional services—How much to charge for a particular service or how much office overhead to allocate to particular jobs or how efficient and productive are individual staff members?
e. Financial institutions—Which services to charge for, and which to provide for free or whether to build a new branch office or to install a new ATM or should fees vary depending on the size of the customers’ accounts?
f. Health Care—Whether to invest in new equipment or how much to charge for various services or how to measure the quality of services provided?
2. Managers of service companies look to managerial accounting to answer these questions.
C. MANAGERIAL ACCOUNTING PRACTICES
1. VALUE CHAIN MANAGEMENT
a. The value chain is the term that describes all activities associated with providing a product or service.
b. Activities included in the value chain include for a manufacturer:
1) Research and development and product design
2) Acquisition of raw materials
3) Production
4) Sales & marketing
5) Delivery
6) Customer relations and subsequent services.
2. The supply chain is all of the activities from receipt of an order to delivery of a product or service.
3. A number of factors affect efforts to manage the value chain and supply chain:
a. Technological change—Enterprise resource planning (ERP) system—Software that provides a comprehensive, centralized, integrated source of information used to mange all major business processes.