Managerial Accounting - Lemessa

Managerial
Accounting
(MBA-511)
Topics to Cover
• Planning, Directing, and
Controlling
• Manufacturing Costs
• Cost Behavior
• Product Costing Approaches
• Cost-volume-profit Analysis
• Product Costing Systems
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Managing Resources, Activities,
and People
An organization . . .
Directing
Acquires Resources Decision

Organized set Making
of activities
Controlling Planning
Hires People

How Managerial Accounting Adds
Value to the Organization
• Providing information for decision making and
planning.
• Assisting managers in directing and controlling
activities.
• Motivating managers and other employees towards
organization’s goals.
• Measuring performance of activities, managers, and
other employees.
• Assessing the organization’s competitive position.
Manufacturing Costs
Direct Direct Manufacturing

Materials Labor Overhead
The Product

Direct Materials
Raw materials that become an
integral part of the product and
that can be conveniently traced
directly to it.
Example: A radio installed in an automobile

Direct Labor
Those labor costs that can be
easily traced to individual
units of product.
Example: Wages paid to automobile assembly workers

Manufacturing Overhead
Manufacturing costs that cannot be traced
directly to specific units produced.
Examples: Indirect materials and indirect labor
Materials used to support Wages paid to employees

the production process. who are not directly
Examples: lubricants and involved in production
cleaning supplies used in the work.
automobile assembly plant. Examples: maintenance
workers, janitors and security
guards.

Manufacturing Costs …
Direct Direct Manufacturing

Materials Labor Overhead
Prime Conversion
Cost Cost

Nonmanufacturing Costs
Selling Administrative
Costs Costs
Costs necessary to All executive,

secure the order and organizational, and
deliver the product. clerical costs.

Product Costs Versus Period Costs
Product costs include Period costs include all
direct materials, direct selling costs and
labor, and manufacturing administrative costs.
overhead.
Inventory Cost of Good Sold Expense
Sale
Balance Income Income

Sheet Statement Statement
Comparing Merchandising and
Manufacturing Companies
Merchandisers . . . Manufacturers . . .
Buy finished goods. Buy raw materials.
Sell finished goods. Produce and sell
finished goods.
MegaLoMart

McGraw-Hill/Irwin
Balance Sheet
Merchandiser Manufacturer
Current assets Current Assets
Cash  Cash
 Receivables
Receivables
 Inventories
Merchandise • Raw Materials
Inventory • Work in Process
• Finished Goods

Balance Sheet
Merchandiser Manufacturer
Current assets Current Assets
 Cash  Cash
Materials waiting to
 Receivables  Receivables
be processed.
 Merchandise Inventory  Inventories
Partially complete
products – some • Raw Materials
material, labor, or • Work in Process
overhead has been • Finished Goods
added.
Completed products
awaiting sale.

The Income Statement
Cost of goods sold for manufacturers differs
only slightly from cost of goods sold for
merchandisers.
Manufacturing Company
Merchandising Company
Cost of goods sold:
Cost of goods sold:
Beg. finished
Beg. merchandise
inventory $ 14,200 goods inv. $ 14,200
+ Purchases 234,150 + Cost of goods
Goods available manufactured 234,150
for sale $ 248,350 Goods available
- Ending for sale $ 248,350
merchandise - Ending
inventory (12,100) finished goods
= Cost of goods inventory (12,100)
sold $ 236,250 = Cost of goods
12/10/2018 Lemessa Bayissa sold $ 236,250 15
Basic Equation for Inventory
Accounts
Withdrawals
Beginning Additions Ending
balance + to inventory = balance + from
inventory

Basic Equation for Inventory Accounts
The computation of Cost of Goods
Sold relies on this basic equation
for inventory accounts. The logic
underlying this equation applies to
any inventory account. Any units
that are in inventory at the
beginning of the period appear as
the beginning balance.
Basic Equation for Inventory Accounts
During the period, additions are made to
the inventory through purchases or other
means. The sum of the beginning
balance and the additions to the account
is the total amount of inventory available.
During the period, withdrawals are made
from inventory. The ending balance is
whatever is left at the end of the period
after the withdrawals.
Schedule of Cost of Goods
Manufactured
Calculates the cost of raw
material, direct labor, and
manufacturing overhead
used in production.
Calculates the manufacturing

costs associated with goods
that were finished during the
period.
Product Cost Flows
Manufacturing Work
Raw Materials Costs In Process
Beginning raw Direct materials

materials inventory
+ Raw materials
purchased
= Raw materials
available for use
in production
– Ending raw materials
inventory
= Raw materials used
As items are removed from raw
in production materials inventory and placed into
the production process, they are
called direct materials.
Product Cost Flows
Manufacturing Work
Conversion
Beginning raw Direct materials
materials inventory + Direct labor
costs are costs
+ Raw materials + Mfg. overhead incurred to
purchased = Total manufacturing convert the
= Raw materials costs
direct material
available for use
in production into a finished
– Ending raw materials product.
inventory
= Raw materials used
in production

Product Cost Flows
Manufacturing Work
Beginning raw Direct materials Beginning work in

materials inventory + Direct labor process inventory
+ Raw materials + Mfg. overhead + Total manufacturing
purchased = Total manufacturing costs
= Raw materials costs = Total work in
available for use process for the
in production period
– Ending raw materials
inventory All manufacturing costs incurred
= Raw materials used during the period are added to the
in production
beginning balance of work in
process.

Product Cost Flows
Manufacturing Work
Beginning raw Direct materials Beginning work in

materials inventory + Direct labor process inventory
+ Raw materials + Mfg. overhead + Total manufacturing
purchased = Total manufacturing costs
= Raw materials costs = Total work in
available for use process for the
in production period
– Ending raw materials – Ending work in
inventory
Costs associated with the goods that process inventory
= Raw materials used = Cost of goods
areincompleted
production
during the period are manufactured
transferred to finished goods
inventory.
Product Cost Flows
Work
In Process Finished Goods
Beginning work in Beginning finished

process inventory goods inventory
+ Manufacturing costs + Cost of goods
for the period manufactured
= Total work in process = Cost of goods
for the period available for sale
– Ending work in - Ending finished
process inventory goods inventory
= Cost of goods Cost of goods
manufactured sold

Manufacturing Cost Flows
Balance Sheet Income
Costs Inventories Statement
Expenses
Material Purchases Raw Materials
Direct Labor Work in

Process
Manufacturing
Overhead Cost of
Finished
Goods
Goods
Sold
Selling and Period Costs Selling and

Administrative Administrative
2. Cost behavior How a cost will react to
changes in the level of
activity within the
relevant range.
– Total variable costs
change when activity
changes.
– Total fixed costs remain
unchanged when activity
changes.
– Mixed costs – are partly
fixed, partly variable.
Variable Cost
Your total texting bill is based on how many
texts you send.
Total Texting Bill
Number of Texts Sent

Variable Cost Per Unit
The cost per text sent is constant at 5 cents
per text.
Cost Per Text Sent

Number of Texts Sent
Fixed Cost
Your monthly contract fee for your cell phone is
fixed for the number of monthly minutes in your
contract. The monthly contract fee does not
change based on the number of calls you make.
Monthly Cell Phone
Contract Fee
Number of Minutes Used

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Fixed Cost Per Unit
Within the monthly contract allotment, the average
fixed cost per cell phone call made decreases as more
calls are made.
Monthly Cell Phone

Contract Fee
Number of Minutes Used
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Behavior of Cost (within the relevant range)
Cost In Total Per Unit
Variable Total variable cost changes Variable cost per unit remains
as activity level changes. the same over wide ranges
of activity.
Fixed Total fixed cost remains Fixed cost per unit goes
the same even when the down as activity level goes up.
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activity level changes.
Lemessa Bayissa 31
Exercise-1
ABC Company manufactures furniture, including tables.
Selected costs are given below:
1. The tables are made of wood that costs Br.100 per
table.
2. The tables are made by workers, at a wage cost of Br.
40 per table.
3. Workers making the tables are supervised by a factory
supervisor who is paid Br.38,000 per year.
4. Electrical costs are Br. 2 per machine-hour. Four
machine-hours are required to produce a table.
5. Machine cleaning materials cost total Br. 15,000 per
year.
6. Compensation to factory cleaners total Br. 30,000 per
year.
7. Depreciation on the machines used to make the
tables totals Br. 10,000 per year.
8. The salary of the manager of ABC Company is Br.
100,000 per year.
9. ABC Company spends Br. 5,000 per year to advertise its
products.
10.Salespersons are paid a commission of Br. 30 for each
table sold.
11.Salary of company guards total Br. 14,000 per year.
• Required: classify the costs as DM, DL, MOH, direct,

indirect, fixed, variable, prime, conversion, selling,
administrative, product and period (use a table similar
to the one provided on the next slide)
Exercise-1 …
Cost classification table
Cost DM DL MOH Dir Indi Fix Var Prim Conv Sell Admi Product Period

3. Product costing Approaches
Absorption Cost of a manufacturing company Variable

Costing Costing
Direct Materials
Product
Product Direct Labour
Costs
Costs Variable Manufacturing Overhead
Fixed Manufacturing Overhead

Period
Period Variable Selling and Administrative Expenses
Costs
Costs Fixed Selling and Administrative Expenses

Exercise-2
Based on cost information
provided in Exercise-1 for ABC
Company, determine the cost of
one table under
a)Variable costing and
b)Absorption costing
4. Cost-Volume-Profit (CVP) Analysis
 A model relating revenues (R), costs (C) and volume
(V) and their effects on company profit
 Assumptions
 Changes in R and C are due to change in V
 Linear relationship over the relevant range
 Cost can be divided into variable and fixed
 Unit selling price, VC and FC are known/constant
Basic question – how many units should be sold to
 Cover all costs (VC+FC) – breakeven point
 R=VC + FC
 Earn target profit
 R=VC + FC + target profit
Cost-Volume-Profit Graph
450,000
400,000
350,000
300,000
Dollars
250,000
200,000
150,000
100,000
Fixed expenses
50,000
100 200 300 400 500 600 700 800

Units
7-38
12/10/2018 Lemessa Bayissa
450,000
400,000
350,000
300,000
Dollars
250,000
200,000
150,000
100,000
Fixed expenses
50,000
100 200 300 400 500 600 700 800

Units
7-39
450,000
400,000
350,000
300,000
Dollars
250,000
200,000
150,000
100,000
Fixed expenses
50,000
100 200 300 400 500 600 700 800

Units
7-40
450,000
400,000
350,000
300,000
Dollars
250,000
200,000
150,000
100,000
Fixed expenses
50,000
100 200 300 400 500 600 700 800

Units
7-41
450,000
400,000
350,000
Break-even
300,000
point
Dollars
250,000
200,000
150,000
100,000
Fixed expenses
50,000
100 200 300 400 500 600 700 800

Units
7-42
Profit-Volume Graph
Some managers like the profit-volume
graph because it focuses on profits and volume.
100,000
80,000
60,000
Break-even
40,000 point
20,000
Profit
0 `
(20,000) 100 200 300 400 500 600 700

Units
(40,000)
(60,000)
7-43
Exercise-3
ABC Printers provides photocopy services to its
customers. The unit variable cost and selling price
are Br 0.20 and Br 0.50, respectively, while monthly
fixed costs total Br. 1,500.
Required:
a) How many pages must ABC copy in a month to breakeven?
b) How many pages must ABC copy to earn Br. 900 profit per
month?
c) How much sales revenue should ABC earn in a month to
breakeven?
d) How many pages must ABC copy to earn Br. 700 profit after
30% income tax?
e) If price per page is increased to Br. 75, how many pages must
ABC copy in a month to breakeven? (sensitivity analysis)
Break-even Analysis – Single Product
A. Break-even volume = Total fixed costs
(units) Unit contribution margin
B. Break-even volume Total fixed costs

=
(sales dollars) Contribution margin ratio
C. Unit contribution
margin = Unit selling price – unit variable cost
D. Unit contribution Unit contribution margin

margin ratio = Unit selling price

Break-even Analysis …
E. Target volume Total fixed costs + Target profit
=
(units) Unit contribution margin
F. Target volume Total fixed costs + Target profit

=
G. Target volume Total fixed costs + After tax target profit
=
H. After tax target Target profit
=
profit 1-tax rate

Break-even Analysis – Multiple Products
A. Break-even volume = Total fixed costs
(units) Weighted average unit contribution margin
B. Break-even volume= Total fixed costs
(sales dollars) Weighted average contribution margin ratio
C. Weighted average unit

CM =  M UCM i i
D. Weighted average unit Weighted average unit contribution margin

CM ratio = Weighted average unit selling price
E. Weighted average unit

selling price =  M USP i i

Break-even Analysis …
F. Target volume Total fixed costs + Target profit
(units) =
Weighted average unit contribution margin
G. Target volume Total fixed costs + Target profit

=
(sales dollars) Weighted average unit contribution margin ratio
H. Target volume Total fixed costs + After tax target profit

=
(sales dollars) Weighted average unit contribution margin ratio

CVP Analysis with Multiple Products
For a company with more than one product,
sales mix is the relative combination in which
a company’s products are sold.
Different products have different selling
prices, cost structures, and contribution
margins.
Let’s assume Curl sells surfboards and sail
boards and see how we deal with break-
even analysis.
7-49
Curl provides us with the following information:

Unit Unit Number
Selling Variable Contribution of
Description Price Cost Margin Boards
Surfboards $ 500 $ 300 $ 200 500
Sailboards 1,000 450 550 300
Total sold 800
Number % of
Description of Boards Total
Surfboards 500 62.5% (500 ÷ 800)
Sailboards 300 37.5% (300 ÷ 800)
Total sold 800 100.0%
7-50
Weighted-average unit contribution margin
Contribution Weighted
Description Margin % of Total Contribution
Surfboards $ 200 62.5% $ 125.00
Sailboards 550 37.5% 206.25
Weighted-average contribution margin $ 331.25
$200 × 62.5%
$550 × 37.5%
7-51
Break-even point
Break-even Fixed expenses
=
point Weighted-average unit contribution margin
Break-even $170,000
=
point $331.25
Break-even
= 514 combined unit sales
point
7-52
Break-even point
Break-even
= 514 combined unit sales
point
Breakeven % of Individual
Description Sales Total Sales
Surfboards 514 62.5% 321
Sailboards 514 37.5% 193
Total units 514
7-53
Exercise-4
In addition to photocopying services, ABC Printers provides
secretarial and printing services. The unit variable cost and selling
price are Br 0.75 & Br 1.00, for secretarial, respectively, and Br 0.25
& Br 0.75 for printing, respectively. Its monthly fixed costs for all
services total Br 3,000. The company sells printing, photocopying
and secretarial services in the ratio of 2:5:3.
Required:
a) How many pages must ABC print/copy/write in a month to breakeven?
b) How many pages must ABC print/copy/write to earn Br. 900 profit per
month?
c) How much sales revenue should ABC earn in a month to breakeven?
d) How many pages must ABC print/copy/write to earn Br.700 profit after
30% income tax?
e) If sales mix is changed to 4:4:2, how many pages must ABC
print/copy/write in a month to breakeven? (sensitivity analysis)

5. Product Costing Systems
 Concepts
 Cost objects – anything (e.g. product, customer) for which
measurement of cost is needed.
 Direct costs – can be directly traced to a cost object.
 Indirect costs – can be allocated rather than traced to a cost
object.
 Cost assignment – systematic/rational process of tracing or
allocating costs to cost objects.
 Cost driver – factor/reason (e.g. volume of activity) for
incurrence of cost (e.g. sales volume for transportation cost), thus
used to allocate transportation cost (indirect one).
 Activity cost pools – an aggregate of all costs needed to
perform an activity (see activity-based costing).
Assigning Costs to Cost
Objects
Direct costs Indirect costs
• Costs that can be • Costs that cannot be
easily and conveniently easily and conveniently
traced to a unit of traced to a unit of
product or other cost product or other cost
object. object.
• Examples: direct • Example:
material and direct manufacturing
labor overhead

McGraw-Hill/Irwin
Cost Assignment
Cost Assignment
Direct Cost Tracing

Costs
Cost
Object
Indirect
Cost Allocation
Costs

Job Order Vs. Process Costing
Job-costing Process-costing
system system
Applicable to distinct units of a Masses of identical or

product or service e.g. custom- similar units of a product or
made machines, houses, service e.g. food and
furniture, etc. chemical processing

Job Order Costing – Cost Flow
Direct Materials, Direct Labor &
Manufacturing overhead costs
Job-A Job-B
Work in process Work in process
Finished Goods Cost of Goods Sold

Job Order Costing – Steps
1 – Identify cost object ( jobs)
2 – Identify direct costs and trace them to each job
3 – Identify cost-allocation bases (cost driver/s)
4 – Identify and collect indirect costs
5 – Determine unit indirect cost (pre-determine MOH rate)
unit indirect cost = total indirect cost/total quantity of cost allocation base
6 – Determine total unit allocation base for each job

7 – Determine total indirect cost allocated to each job
allocated cost = total quantity of cost allocation base for a job x unit indirect cost
8 – Determine total cost of each job = DM + DL + allocated MOH

Example of Overhead Application Rate
Pear Co. estimates that it will require 160,000 direct labor-
hours to meet the coming period’s estimated production
level. In addition, the company estimates total fixed
manufacturing overhead at $200,000, and variable
manufacturing overhead costs of $2.75 per direct labor hour.
Y = a + bX
Y = $200,000 + ($2.75 per direct labor-hour × 160,000 direct labor-
hours)
Y = $200,000 + $440,000
Y = $640,000
$640,000 estimated total manufacturing overhead

POHR =
160,000 estimated direct labor hours (DLH)
POHR = $4.00 per direct labor-hour

Job-Order Cost Accounting

Exercise-5
ABC Woodworks Plc has currently two jobs (A & B) in progress. The
company uses machine hours to allocate indirect costs of its two
departments – assembly & finishing. Below is annual data related to
each job and department. MOH costs include depreciation, utilities,
rent , cleaning, supervision and others.
cost items Job-A Job-B Assembly Finishing

DM 55,000.00 30,000.00
DL 15,000.00 20,000.00
MOH – budgeted 80,000.00 75,000.00
Machine hours – budgeted 5,000.00 6,000.00
Job-A – actual 3,000.00 3,000.00
Job-B – actual 2,000.00 4,000.00
Required: Determine total cost of each job

Under-/over-applied MOH
 over-applied – when applied MOH > actual
MOH
 under-applied – when applied MOH < actual
MOH
 disposing under-/over-applied MOH Costs–
Two approaches:
1. charging it to cost of goods sold
2. allocating it to work in process, finished goods
and cost of goods sold in proportion to applied
MOH
Modern Management of
Costs and Quality
• KAIZEN COSTING
• Lean Manufacturing
• Just in Time Inventory
• Total Quality Management
• Six Sigma

Kaizen Costing
• Process of cost reduction during the
manufacturing phase of an existing product.
• Kaizen means continuous and gradual
development by small betterment activities
rather than large or radical improvement made
through innovation or large investments in
technology.
• The idea is that improvement is the goal and
responsibility from CEO to laborers.
How are Kaizen Costing Goals Met?
• The continual and relentless reduction of non-
value-added activities and costs, the elimination
of waste, and improvements in manufacturing
cycle time all contribute to the effort.
• In addition, the improvement suggestions and
kaizen efforts of all employees are taken
seriously and implemented when appropriate.
• The result is a continually more efficient and
cost-effective production process.
Lean Manufacturing
• Arose in Toyota Japan as the Toyota Production
System.
• Replacing complexity with simplicity
• A philosophy, a way of thinking
• A process of continuous improvement
• Emphasis on minimising inventory
• Focuses on eliminating waste, that is anything
that adds cost without adding value
• Often a pragmatic choice of techniques is used
Lean Manufacturing goals
Waller, D.L.,,1999,”Operations Management: A Supply Chain Approach”,

(Thompson, London)
Just-in-Time Manufacturing
“In the broad sense, an approach to achieving
excellence in a manufacturing company based
upon the continuing elimination of waste (waste
being considered as those things which do not
add value to the product). In the narrow sense,
JIT refers to the movement of material at the
necessary time. The implication is that each
operation is closely synchronised with
subsequent ones to make that possible”.
JIT became part of Lean Manufacturing after the publication of

Womack’s
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BayissaWorld in 1991 70
Total Quality Management
What is TQM?
TQM is the integration of all functions
and processes within an organization in
order to achieve continuous
improvement of the quality of goods
and services. The goal is customer
satisfaction.
System
MANAGEMENT
OF PROCESS
QUALITY
CUSTOMER
FOCUS
Driver HUMAN AND
RESOURCE SATISFACTION
DEVELOPMENT
SENIOR
AND
EXECUTIVE
LEADERSHIP MANAGEMENT
STRATEGIC QUALITY
QUALITY AND
PLANNING OPERATIONAL
RESULTS
INFORMATION
AND ANALYSIS
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SystemLemessa
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Six Sigma
"Delivering Tomorrow's
Performance Today"
What is Sigma ?
• A term (Greek) used in statistics to
represent standard deviation from mean
value, an indicator of the degree of
variation in a set of a process.
• Sigma measures how far a given process
deviates from perfection. Higher sigma
implies poorer performance.

Six Sigma?
• Why do we call Six Sigma as Six
Sigma and not Four or Five Sigma
or Eight Alpha (another Greek
symbol)?
• Sigma is a statistical term that
measures process deviation from
process mean or target.
Six Sigma?
• Mean is also referred to as average
in common language.
• The figure six was arrived at
statistically by looking at the
current average maturity of most
business enterprises.

Six Sigma?
• A statistical concept that measures a
process in terms of defects – at the
six sigma level there are 3.4 defects
per million opportunities.
12/10/2018 But, it isLemessa

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Process Costing – Cost Flow
Direct Materials, Direct Labor
Indirect Manufacturing Costs
Department-A Department-B
Work in process
Finished Goods Cost of Goods Sold

Process costing – steps
1 – Summarize flow of physical units of output
 work in process – beginning
 currently started units
2 – Compute output in terms of equivalent units

Equivalent units –are completed units that could be obtained based on
materials used and efforts (labor and overhead) spent on partially completed
units
3 – Summarize total costs to account for classified into material,
labor and overhead further classified into
 work in process – beginning
 currently added costs
4 – Compute equivalent unit costs
5 – Assign total costs to units completed and to units in process

Step 1—Units to Account For
Beginning WIP 5,000
Started 200,700
Units to account for 205,700

Step 2—Units Accounted For
Beginning WIP 5,000
Started 200,700
Units to account for 205,700
must
Finished and transferred 203,000 be
Ending WIP 2,700 equal
Units accounted for 205,700

Step 3—Compute Equivalent Units
DM Conversion
Beginning WIP inventory 5,000 5,000
Started and completed 198,000 198,000
Ending WIP inventory 2,700 2,160*
Equivalent units 205,700 205,160
* ending units * % complete

WA Method 2,700 * 80% = 2,160

Step 4—Costs to Account For
DM onversion Total
Beginning WIP $ 5,943 $ 16,758 $ 22,701
Current costs 321,120 660,270 981,390
To account for $327,063 $677,028 $1,004,091
WA Method

Step 5—Cost per Equivalent Unit
DM Conversion Total
Beginning WIP $ 5,943 $ 16,758 $ 22,701
Current costs 321,120 660,270 981,390
To account for $327,063 $677,028 $1,004,091
Divide by EUP 205,700 205,160

Cost per EUP $1.59 + $3.30 = $4.89
WA Method

Step 6—Assign Costs to Inventories
Transferred (203,000 * $4.89) $992,670

Ending WIP Inventory Transferred
Direct Materials Out Ending
(2,700 * $1.59) $4,293 WIP
Conversion Costs
(2,700 * 80% * $3.30) 7,128 11,421
Cost accounted for $1,004,091*
*must agree with costs to account for
WA Method

Process Costing—FIFO
• Emphasizes current period costs and
production
• Steps 1, 2, and 4 are the same

Step 3—Compute Equivalent Units
DM Conversion
Beginning WIP/completed 0 3,000*
Started and completed 198,000 198,000
Ending WIP Inventory 2,700 2,160
Equivalent units 200,700 203,160
* beginning units * % complete in current period

FIFO Method 5,000 * 60% = 3,000

Step 5—Cost per Equivalent Unit
DM Conversion Total
Current costs $321,120 $660,270 $981,390
Divide by EUP 200,700 203,160
Cost per EUP $1.60 + $3.25 = $4.85
* Recall that Step 4 is the same as used

FIFO Method for the WA method

Step 6—Assign Costs to Inventories
Transferred
Beginning WIP Inventory $22,701
Cost to complete
Conversion (3,000 * $3.25) 9,750 $ 32,451
Started and completed
(198,000 * $4.85) 960,300
Total cost transferred Transferred $992,751
Ending inventory
Out
Direct Materials Ending
(2,700 * $1.60) $4,320 WIP
Conversion Costs
(2,7000 * 80% * $3.25) 7,020 11,340
Cost accounted for $1,004,091*
*must agree with costs to account for
FIFO Method

Process Costing Comparison
WA FIFO
• EUP DM 205,700 • EUP DM 200,700
• EUP Conversion 205,160 • EUP Conversion 203,160
• Cost per unit DM $1.59 • Cost per unit DM $1.60
• Cost per unit Conv. 3.30 • Cost per unit Conv. 3.25
• Total $4.89 • Total $4.85
• Transferred Out $992,670 • Transferred Out $992,751
• Ending WIP 11,421 • Ending WIP 11,340
• Total $1,004,091 • Total $1,004,091

Process Costing
• The purpose of the six steps
– Assign a value to ending work in process
– Assign a value to items transferred out
– Prepare this journal entry
Finished Goods
Work in Process
or
Transferred-In Cost (successor department)
Work in Process (current department)
Multidepartment Processing
Process 1 Wait
Materials
Transferred-In Process 2
Cost
Finished Process 3 Wait

Product

Exercise-6
Sino-Ethio Home Paints produces exterior latex
paint salable in 1-gallon containers. The company
has two processing departments – Base Fab and
Finishing. White paint, which is used as a base for
all its paints, is mixed from raw ingredients in the
Base Fab. Pigments are added to it and then the
pigmented paint is squirted under pressure into 1-
gallon containers which are labeled and packed for
shipping in the Finishing Department. Operating
data related to the Base Fab Department for April
is provided on the next slide:
Exercise-6 …

Exercise-6 …
Required: Determine cost of ending
work in process inventory and units
transferred out of the Base Fab in
April.

Activity-based Costing – Features
activity – any event, action, transaction or
work sequence that causes a cost to be
incurred in producing a product or
providing a service.
activity levels and cost hierarchy
unit – e.g. output quantity
batch – e.g. machine set-up
product – e.g. product design
customer – e.g. customer order
organization – e.g. building security
Activity-based Costing – Features
 unique features (compared to process/job-order
costing)
 assigning both manufacturing & non-manufacturing
costs on cause-and-effect basis (only
manufacturing overhead costs are
allocated in the traditional costing
systems)
 expensing costs that do not have any relationship to a
product
 using multiple activity cost pools
 using multiple cost drivers
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to allocate overhead costs
Lemessa Bayissa 97
Activity-based costing – steps
1 – Identify and define activities and activity cost pools
2 – Trace costs to activities and cost objects
3 – Assign costs to activity cost pools

4 – Calculate activity rates
5 – Assign costs to cost objects
6 – Prepare management reports

Overhead Allocation Using Activity
Based Costing (ABC)
Example:
• Suppose a Sony TV set manufacturer produces 14”
and 21” color TV sets.
• They had been using the application of one cost pool
of overhead costs to the two product lines.
• Machine hours had been used to allocate overhead
costs.
• For the next year, the overhead costs are expected to
amount to $300,000 and
• the total machine hours worked were expected to be
30,000 hours.
Based Costing (ABC)
The management accounting division believes that the
traditional approach to assign manufacturing
overhead costs could be misleading.
So the division wants to use Activity Based Costing to
obtain more accurate product costs.
The corporation analyzed the production related
activities and decided that the estimated $300,000 in
manufacturing overhead cost should be grouped into
four activity pools.

Based Costing (ABC)
These are:
1. Setup: preparing machines for production of each
batch.
The estimated total costs of this activity are $100,000
for indirect manufacturing costs.
2.Inspection: This constitutes costs of testing the
products at different stage.
This includes $90,000 for salaries, costs of indirect
materials, indirect labor and depreciation on testing
equipment.

Based Costing (ABC)
3. Packaging: This cost includes estimated total costs of
$65,000 for indirect materials, indirect labor, and
equipment depreciation related to packaging.
4. The last activity is Others: This includes:
– wages,
– property taxes,
– insurance,
– security and all other costs not related to the first
three activities with costs of $45,000.

Allocation of Overhead (Cont…)
After identifying activity pools, and estimating
activity pool costs.
– then estimate the cost drivers, that are the levels of
each activity performed.
We use this information to determine activity rate.
Activity OHC rate = Activity cost/cost driver
Cost driver can be:
– Number of setups
– Number of inspections
– Packaging hours
– Machine/labour hours
Based Costing (ABC)
Estimated Cost Driver Level
Cost driver 14inch 21inch Total
Number of setups 500 500 1,000
No of inspections 250 350 600
Packaging hours 1,200 1,300 2,500
Other (labor hours ) 14,000 16,000 30,000

Activity
Cost Pool Driver
Driver level Cost Cost rate
Number of 1,000 $100,000 $100,000/1,000 $100 per

setups setup
Number of 600 $90,000 $90,000/ 600 $150 per

inspections inspection
Packaging 2,500 $65,000 $65,000/2,500 $26 per

hours packaging
hr
Labor 30,000 $45,000 $45,000/30,000 $1.5. per
hours labour hr
Based Costing (ABC)
Application of Manufacturing Overhead Costs to
Products
How do we apply manufacturing overhead costs to
products?
Applying the manufacturing overhead to the
products involves:
– the activity pool rate is multiplied by the actual cost
driver used by the products.

14 inch
Activity Activity cost Cost Driver level Cost applied
pool rate
Set up $100 per set up 500 set ups
$50,000
Packing $26 per 1,200 packing
packing hour hour $31,200
Inspection $150 per Ins 250 inspections $37,500
Others $1.5 per labor 14,000 labor hrs $21,000

hour
Total $139,700
Number of units 5,000
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Manufacturing Lemessa
overheadBayissa
cost per $28 107
unit
21 inch
Activity Activity cost Cost Driver level Cost
pool rate applied
Set up $100 per set up *500 set ups $50,000
Inspection $150 per Ins 350 inspections $52,500
Packing $26 per *1,300 packing $33,800

packing hour hour
Others $1.5 per labor *16,000 labor $24,000
hour hour
Total $160,300
Number of units 4,000
Manufacturing overhead costs per $ 40.075
unit
Unit Product Costs
Product cost per unit:

14inch 21inch
Direct materials $ 70 $ 80
Direct labor 30 40
Manufacturing overhead 28 40
Product unit cost $128 $160

Allocation of Overhead Costs
(Cont…)
The unit product cost is $128 for 14-inch model and
$160 for the 21-inch model.
Management accountant presented the following
information for decision
Model
14-inch 21-inch
One manufacturing overhead $ 120 $170
Cost pool (traditional approach)
Product unit cost: ABC with
four activity pools $128 $ 160
Differences: Decrease (increase) $ (8) $ 10
Exercise-7
Sino-Afro Optics produces two types of eyeglasses – standard
and deluxe. Operational data for 2013 is provided below
items standard deluxe
unit direct material cost 900.00 1,200.00
unit direct labor cost 144.00 192.00
unit direct labor hour 0.60 0.80
estimated annual production units 70,000.00 10,000.00
The company has a traditional costing system in which
manufacturing overhead is applied to units based on direct
labor-hours. Data concerning manufacturing overhead and direct
labor-hours for 2013 appear below:
estimated total manufacturing overhead 290,000
estimated total direct labor hours 50,000

Exercise-7 …
Required:
1. Determine unit product costs of the Standard and Deluxe
products under the company’s traditional costing system.
2. The company is considering replacing its traditional costing
system with an activity-based costing system. Below is data
relevant to the activity-based costing system which has three
activity cost pools:
estimated expected activity
activity and activity measures
overhead cost standard deluxe total
supporting direct labor (direct labor hrs) Br.150,000 42,000 8,000 50,000
batch setups (setups) 60,000 50 200 250
safety testing (tests) 80,000 20 80 100
total manufacturing overhead cost Br.290,000
Determine unit product costs of Deluxe and Standard under the

activity-based costing system.

Managerial Accounting - Lemessa

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Acquires Resources Decision

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Direct Direct Manufacturing

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Example: A radio installed in an automobile

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Example: Wages paid to automobile assembly workers

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Examples: Indirect materials and indirect labor

Materials used to support Wages paid to employees

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Direct Direct Manufacturing

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Costs necessary to All executive,

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Inventory Cost of Good Sold Expense

Balance Income Income

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Calculates the manufacturing

Beginning raw Direct materials

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Beginning raw Direct materials Beginning work in

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Beginning raw Direct materials Beginning work in

Beginning work in Beginning finished

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Direct Labor Work in

Selling and Period Costs Selling and

Number of Texts Sent

Cost Per Text Sent

Number of Minutes Used

Monthly Cell Phone

• Required: classify the costs as DM, DL, MOH, direct,

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Absorption Cost of a manufacturing company Variable

Fixed Manufacturing Overhead

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100 200 300 400 500 600 700 800

100 200 300 400 500 600 700 800

100 200 300 400 500 600 700 800

100 200 300 400 500 600 700 800

100 200 300 400 500 600 700 800

(20,000) 100 200 300 400 500 600 700

B. Break-even volume Total fixed costs

D. Unit contribution Unit contribution margin

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F. Target volume Total fixed costs + Target profit

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C. Weighted average unit

D. Weighted average unit Weighted average unit contribution margin

E. Weighted average unit

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G. Target volume Total fixed costs + Target profit

H. Target volume Total fixed costs + After tax target profit

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Curl provides us with the following information:

Weighted-average unit contribution margin

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