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Managerial Accounting Review 2.docx

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Greg Clark

Differences Between ABC and Traditional Product Costs 1. Tradtional costing allocates all manufacturing overhead to products. ABC costing only assigns manufacturing overhead costs consumed by products to those products 2. Traditional costing allocates all manufacturing overhead costs using a volume-related allocation base while ABC costing also uses non-volume related allocation bases 3. Traditional costing disregards selling and admin expenses since they are assumed to be period expenses. ABC costing directly traces shipping costs to products and includes non-manufacturing overhead costs caused by products in the activity cost pools that are assigned to products Chapter 6: Cost Behaviour Analysis and Use Variable and Fixed Cost Behaviour Cost In Total Per Unit Variable Total VC is proportional to the VC per unit is constant activity level (ex. telephone cost/min) Fixed Total FC remains constant FC per unit goes down as activity level goes up Variable Cost – dollar amount varies in direct proportion to changes in the activity level Fixed Cost – dollar amount remains constant as the activity level changes Step-Variable Cost – a resource that is obtainable in large chunks and whose costs increase/decrease only in response to fairly wide changes in activity An example of step-variable costs is maintenance workers. Small changes in the level of production are not likely to have any effect on the number of maintenance workers employed. Only fairly wide changes in the activity level will cause a change in the number of maintenance workers employed. Two Types of Fixed Costs: 1) Committed Fixed Costs – long-term, cannot be significantly reduced in short term (depreciation) 2) Discretionary Fixed Costs – may be altered in the short-term (advertising) The relevant range of activity for a fixed cost is the range of activity over which the graph of the cost is flat Ex. Office space is available at a rental rate of $30,000/year in increments of 1,000 square feet. As the business grows, more space is rented, increasing the total cost Mixed Costs – a mixed cost has both fixed and variable components If your fixed monthly utility charge Y = a + bX is $40 and your variable cost is $0.03 per kilowatt hour, and your monthly activity level is 2,000 kilowatt hours, what is the amount of your utility bill? Y = a + bX Y = $40 + ($0.03 x 2,000) = $100 Ways to Analyze Mixed Costs 1) Scattergraph Method - plot the data points, draw a line through the data points with about an equal number of points above and below the line Now make a quick estimate of variable cost per unit and determine the cost equation: 2) High-Low Method The variable cost per hour of maintenance is equal to the change in cost divided by the change in hours. $2,400 = $8.00/hour 300 Total Fixed Cost = Total Cost – Total Variable Cost Therefore the Cost Equation for Total Fixed Cost = $9,800 - ($8/hour x 800 hours) Maintenance is: Total Fixed Cost = $9,800 - $6,400 Total Fixed Cost = $3,400 Y = $3,400 + $8X 3) Least Squares Regression Model (don’t have to know how to calculate for midterm) A method used to analyze mixed costs if a scattergraph reveals an approximately linear relationship between the X and Y variables. This method uses all of the data points to estimate the fixed/variable cost components of a mixed cost. The goal of this method is to fit a straight line to the data that minimizes the sum of the squared errors. The cost analysis objective is the same: Y = a + bX, and least-squares regression also provides a statistic, 2 called the R , which is a measure of how well the regression line fits to the data points. R varies from 0% to 100% and the higher percentage the better. Contribution Format The contribution method emphasizes cost behaviour. Contribution margin covers fixed costs and provides for income. Chapter 7: Cost-Volume-Profit Relationships Contribution Margin (CM) – the amount remaining from sales revenue after variable expenses have been deducted - CM is used first to cover fixed expenses and any remaining CM contributes to net operating income Total Per Unit Sales 87,750 $250 Every month, they must Less: Variable Expenses 52,650 150 generate at least $35,100 in Contribution Margin 35,100 $100 Less: Fixed Expenses 35,000 total CM to break even. Operating Income $ 100 Increased Number of Speakers to be Sold 25 Contribution Margin per Speaker x$100 Increase in operating income $2,500 If contribution margin per unit is $100, then for every additional speaker that the company can sell during the month, $100 more will be available to help cover the fixed expenses. CVP Graph – the relationships among revenues, costs, and level of activity in an organization presented in graphic form The break-even point is where profit is 0. CVP Relationships: Increase in Units In this example, the variable expenses are increasing with sales, and the contribution margin is increasing and covering fixed expenses progressively more. Contribution Margin Ratio – the contribution margin as a percentage of total sales CM ratio = Contribution Margin (or in terms of units) CM Ratio = Unit CM _ Sales Unit Selling Price If the CM ratio is 40%, each $1.00 increase in sales results in a total contribution margin increase of 40 Incremental Analysis – an analytical approach that focuses only on those items of revenue, cost, and volume that will change as a result of a decision Ex 1) There is an increase in advertising budget by $10,000 which increases sales by $30,000: Solution 1: Alternate Solution: With this solution, you are multiplying the CM ratio by the incremental difference in sales. Ex 2) Change in Variable Costs and Sales Volume If the company is currently selling 400 speakers/month and management is considering using higher quality components, which would increase variable costs and reduce the contribution margin by $10/speaker. The higher quality would increase sales to 480 speakers/month. Should the higher quality components by used? (The $10 increase in variable costs will decrease the unit contribution margin by $10 fr
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