ACC 406 Chapter 2 Basic Managerial Accounting Concepts
The Meaning & Uses of Cost
Cost - The amount of cash/ cash equivalent sacrificed for goods/services that ar
expected to bring a current or future benefit to the organization; dollar measure of
the resources used to achieve a given benefit; reducing the cost required to achieve
a given benefit means that a firm becoming more efficient
• Costs are incurred to produce future benefits; revenues
• Expired costs are called expenses
• Price (revenue) – revenue per unit
Accumulating & Assigning Costs
• Accumulating costs – way that cots are measured & recorded; AP
• Assigning costs – way that cost is lined to some cost object; cost object –
something for which a company wants to know the cost; why the money was
Cost Objects- any item such as a product, customer, department, project,
geographic region, plant; which costs are measured & assigned. Ex taking a course;
course is cost object & tuition, books is cost; job would be an opportunity.
Assigning Costs to Cost Objects
• Choice of method can depend on accuracy, reasonableness, logic
Cost Classification – cost is a payment of cash/commitment to pay cash in the
future for the purpose of generating revenues; costs are classified according to the
decision-making needs of management; direct cots, indirect costs, prime costs,
conversion costs, product costs, period costs, variable costs, fixed costs, mixed
costs, selling costs, administrative costs, discretionary fixed costs (r&d, adv)
Tracing Direct Costs
• Direct costs- costs that can be easily & accurately traced to a cost object;
cost & the object can be physically observed & easy to track.
• Indirect costs – costs that cannot be easily & accurately traced to a cost
Assigning Indirect Costs
• Assigning costs are done by allocation –indirect cost is assigned to a cost
object by using a reasonable & convenient method; allocating indirect costs
is based on convenience/some assumed causal linkage; determine the value
of inventory & cost of goods sold
Other categories of cost
• Variable cost - one that increases in total as output increases & decreases
in total as output decreases
• Fixed cost – cost that does not increase in total as output increases & does
not decrease in total as output decreases.
• Mixed costs – variable & fixed components
• Opportunity cost – benefit given up/sacrificed when 1 alternative is chosen
over another; not included in records
Product & Service Costs
• 2 types of output:
1) Products – goods produced by converting raw materials through the
use of labour & indirect manufacturing resources, such as the
manufacturing plant, land, machinery. 2) Services – task/activities performed for a customer/an activity
performed by a customer using an organization’s products/facilities.
3) Manufacturing organizations – organizations that produce products
4) Service organizations – provide services
• Accurate cost info is vital for profitability analysis & strategic decisions
concerning product design, pricing, product mix.
• Services are intangible & perishable (cannot be stored for future ), providers
of services & buyers of services must usually be in direct contact for an
exchange to take place.
Ethics – tracking costs can also act as an early warning system for unauthorized
activity & possible ethical problems.
• Managerial accountants must decide what type of managerial acc. Info to
provide to managers, how to measure such info, when & who to
communicate the info.
• Product (manufacturing) costs - costs, both direct & indirect, of
producing product in a manufacturing firm/ of acquiring a product in a
merchangising firm & preparing it for sale; only costs in the production
section of the value chain are included in product costs; inventoried; direct
materials, direct labour, manufacturing overhead, COGS.
Direct Materials- those materials that are a part of the final product & can be
directly traced to the goods being produced; can be directly charged to products b/c
physical observation can be used to measure the quantity used by each product;
• Raw materials - materials in the raw materials acc do not become direct
materials until they are withdrawn from inventory for use in production; can
be direct/indirect;indirect materials are used in the production process but
the amount used by each unit cannot be easily determined & as a result,
these costs are treated as indirect costs.
Direct Labour – labour that can be directly traced to the goods being produce;
physical observation can be used to measure the amount of labour used to produce
a product. Employees who convert direct materials into a product are classified as
• Indirect labour – worker don’t actually make the product; contribution is
necessary to production; included in overhead.
Manufacturing Overhead (factory burden/indirect manufacturing costs)- all
product costs other than direct materials & direct labour; costs are included as
manufacturing overhead if they cannot be traced to the cost object of interest;
depreciation, maintenance labour, plant property taxes
• All costs in the factory are classified as direct materials, direct labour, or
manufacturing overhead; ex glue
Total Product Cost
• Equals the sum of direct materials, direct labour, manufacturing overhead;
unit product costs = total product cost/# of units produced.
• Include direct materials, direct labour, manufacturing overhead
• Any costs associated with storing, selling, delivering the product are not
product costs but are period costs.
Prime & Conversion Costs
• prime costs – sum of direct materials costs & direct labour costs • conversion costs – sum of direct labour cost & manufacturing overhead
cost; converting raw materials into a final product.
Period Costs- not carried in inventory; all costs that are not product costs (i.e. all
areas of the value chain except for production); cost of office supplies, R&D, CEO’s
• Period costs cannot be assigned to products/appear as part of the reported
values of inventories on the b/s; usually expensed in the period in which they
are incurred; but if a period cost is expected to provide an economic benefit
(revenues) beyond the next year, then it is recorded as an asset and
allocated to expense through depreciation throughout its useful life; purchase
of delivery truck
• Product costs which are capitalized as an inventory asset, are expensed on
the IS as CGS to match against revenues generated from sale of inventory.
• Capitalized period costs are depreciated to expense on IS over asset’s useful
life to match against revenues generated by asset over its useful life
• cost of production are assets that are carried in inventories until the