Costing methods, variance analysis and continuous improvement

Costing Methods

Assignment 1 – Cost Accounting

DBSM703 – Business Financial Principles and Techniques

13 November 2014

Marginal Costing and Absorption Costing (Questions 1&2)

Definition.Marginal Costing is a method for computing costs which takes into account only the varying costs involved in the manufacturing process. Absorption costing is a costing method which considers all costs involved in the production regardless of its nature whether it is variable or fixed cost. (Averkamp H. , 2014)

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Differences. The two methods can be distinguished from each other through several notable differences. First is through its cost concentration. Marginal costing is mainly concerned about variable costs while absorption costing considers all fixed and variable costs incurred by the organization through all its activities.

Second, is through its use. Marginal costing is used by organizations to aid them in decision making and business planning. Through its detailed presentation of costs or expenses, companies will be able to carefully study its processes to help them identify areas for improvement and for total quality management. Absorption costing is used mainly for external financial and income tax reporting. It is also a tool for the organization in presenting the actual valuation concerning its overall operation (involves inventory, fixed and variable costs, etc.) to their investors. (Averkamp H. , 2014)

Similarities. Both accounting system are effective in presenting the actual valuation of an organization with regards to its operation by avoiding manipulation and misdeclaration of profit or loss by the company. The two system are also similar through its treatment of manufacturing and non-manufacturing costs.

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3. Three Major Influences in Pricing Decision

Customer Demand. Demand is very important in all the major business activities of the company from the sourcing of raw materials, product design and manufacturing. For example, there is a very high demand from customers for high quality performance cars. For car manufacturing companies, this demand would entail sourcing high quality materials, and more comprehensive production and testing process to ensure product quality which would also lead to higher prices. However, it is very important that despite of the rise in production expenses, companies should work their best not to price their product above the market for them to remain competitive. To be able to do that, companies need to regularly conduct market research, surveys, marketing and advance business planning to help the company design its manufacturing process that will enable them to provide quality products at a reasonable price. (Hilton)

Costs. In most cases, companies price their product based on its production costs. For example, in the manufacturing of high-quality performance cars, the main determinant of price would be the amount of cost incurred in its production per unit. Again, to remain competitive and ensure profitability, the company should determine how much markup they are going to charge on top of the production cost and in consideration of other indirect costs involved (holding costs, marketing and other expenses). (Hilton)

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Actions of Competitors. To remain competitive, the company should always be on the lookout on its competitors activities. In the example given above, if a competitor lowers down the price of its high-quality performance car, it is very important that the company do the same to avoid the risk of losing its share in the market. However, the company should exercise caution in following the actions initiated by its competitors. In this aspect, it is very important for the company to define its product and highlight its strong points (technology and materials used, technical specifications, safety features, etc.) to distinguish their product from that of their competitors thus providing them certain leverage to justify their pricing. (Hilton)

Political, legal and reputation. Legal factor affect the pricing of commodities because of the need for companies to submit to the requirements of the law. Some business laws were crafted to prevent companies from colluding among themselves to manipulate prices and take advantage of consumers. Examples are the Oil Deregulation Law to prevent forming of cartels by petroleum companies and the Anti-trust Law to regulate competition and prevent monopoly. Political landscape in a country where the business operates also directly affects the pricing of goods and services. For example, in New Zealand due to the pressure brought by the extensive lobbying of rights group, environmental and health activists the government was forced to legislate and pass a bill that would impose higher taxes on tobacco and alcohol products resulting to steeper prices of the said commodities. Reputation also affect product pricing especially to those companies who have already established a solid reputation for producing quality and high performance products. Companies like Apple normally set a higher price whenever they launch a new product to the market regardless of competition. (Hilton)

4. Cost Object

Cost object is an accounting term used to refer to any item or product that has a cost of its own. The term may be used for items whose cost can be calculated through estimates, direct measurement or market valuation. (Schmidt, 2014)

Examples of cost object includes:

1. Services – Car maintenance or repair service that has a specific cost for every service done.
2. Product – A bicycle. The cost for its development, design and production can be measured directly.
3. Projects – A construction project with a specified cost for infrastructure design and implementation.
4. Departments – Marketing Department for which the cost of all its activities like promos and advertisement is specified.

(Schmidt, 2014)

5. Direct and Indirect Cost

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Definition. Direct Cost are costs that can be easily linked to a cost object. Indirect Cost are costs that are related but cannot be easily and accurately linked to the cost object eventhough the cost is incurred in producing the product. (Jan, 2013)

There are several factors affecting the classification of costs. They are Materiality, Function and Information Gathering Technology.

Materiality. The classification of costs as direct or indirect depends on the contribution, relevance, impact and actual value of the cost to the end product. The greater the cost, the easier it is to establish the link to the final product. (eFinanceManagement.com, 2014)

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Function. Another factor that affects the classification of costs is on how the cost was used in relation to the major business activities of the company like in research and development, production, distribution, selling and administration. (Vivekanand, 2014)

Information gathering technology. The continuous advancement in information technology paved the way for the development of software application that helps company easily trace costs. Nowadays, big companies emphasize the importance of information management and reporting system as an effective method that enables them to properly trace the smallest of costs. (eFinanceManagement.com, 2014)

6. Opportunity Cost

Opportunity cost is the income or value that a company or person gives up in favor of one particular decision. (InvestingAnswers.com, 2014) For example, in the morning you have two choices to help you kickstart your day. One is to drink cup of coffee or to eat an apple. For you both has its benefits, coffee for your caffeine needs and apple as a healthy alternative. You choose coffee over apple. By choosing coffee, the benefit to your health that you can get by eating the apple becomes your opportunity cost.

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To avoid what economists says as “decision making pitfalls”, it is very important for managers to take into consideration opportunity cost or do a simple cost-benefit analysis in order for them to arrive at an intelligent decision. (UKEssays.com, 2014) Opportunity cost is also very important in helping companies evaluate their decisions for future considerations especially when the alternative decision they give up turns out to be the better option. (InvestingAnswers.com, 2014)

7. Management By Exception And Variance Analysis

Management by exception is a management style that focuses on the areas of the organization whose plans are not working according to expectation. The goal is to provide immediate attention to the problem by concentrating company resources like time, money and effort to help them strategically address the issue or problem. (BusinessDictionary.com) Most companies were able to identify specific areas in their business that are not working according to plan with the help of variance analysis. Variance analysis is a method used by organizations in determining the difference between the standard cost and the actual cost. The higher the variance between the standard and actual cost means that an area in an organization is not performing as planned. (Ahmed, 2014)

8. Standard Costing and Its Importance in Planning and Control

Standard Cost refers to the cost determined by the management based on available information concerning direct labor, materials and manufacturing overhead. This cost would serve as the benchmark for the company’s spending in relation to its actual business operation. Standard costing is very important because it helps management in setting their budget, better understand the expenses that would concern their operation, and most of all for determining its projected income. During actual operation, standard costing provides an avenue for feedback to the management in cases where variances arise between the standard and actual cost. It allows them to immediately focus their attention in areas where there are large deviations in actual cost against the standard cost to help keep the operation on track and as planned. (Averkamp H. , 2014)

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9. Variance Analysis and Continuous Improvement

Variance analysis provides information that helps management measure the actual performance of different areas in their organization against expectation. (AC >SC = Unfavorable Variance; AC

10. Job Costing vs. Process Costing

Job Costing is a costing method being used by companies producing unique products where the cost is measured depending on the production requirements (Materials, Labor, etc.) of each product or unit produced. Process Costing is an accounting method used by companies involved in mass production of identical products and using an established or fixed manufacturing process where unit cost can be calculated by dividing the total cost with the total quantity produced. (Heisinger & Hoyle, 2014)

The following are the differences between process costing and job costing:

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1. Application. Process costing determines the cost of the total number of units produced by batch. Job costing is used to determine the cost of every product or unit produced.
2. Product Cost. In process costing costs are assigned to the process while in job costing costs are assigned to jobs.
3. Time Frame. Process costing has a period for which costs are accumulated while job costing has no time frame. In job costing, costs are computed after each job is completed.
4. Unit Cost Information. In process costing, units cost is derived based on the production cost report (Total Cost (Variable&Fixed)/ Total No. of Units Produced = Unit Cost). In job costing, unit cost is determined based on the total cost of the job per unit.

(Accountlearning.blogspot.co.nz, 2014) (Heisinger & Hoyle, 2014)

11. Job Cost Sheet

ABC Toys Pty Ltd
Job Cost Sheet
Job Number How Do I Order a Paper? It’s a breeze—submit your order online with a few clicks, then track progress with drafts as your writer brings it to life. Once it’s ready, download it from your account, review it, and release payment only when you’re totally satisfied—easy, affordable help whenever you need it. Plus, you can reach out to support 24/7 if you’ve got questions along the way!	GB 45				Date Initiated	1-May
Department How Quick Can You Write? Need it fast? We can whip up a top-quality paper in 24 hours—fully researched and polished, no corners cut. Just pick your deadline when you order, and we’ll hustle to make it happen, even for those nail-biting, last-minute turnarounds you didn’t see coming.	Production Department			Date Completed	15-May
Item	Barbie Doll Boxes Can You Handle Tough Topics? Absolutely—bring it on! Our writers, many with advanced degrees like Master’s or PhDs, thrive on challenges and dive deep into any subject, from obscure history to cutting-edge science. They’ll craft a standout paper with thorough research and clear writing, tailored to wow your professor.			Units Completed	200
Direct Material	Direct Labor	Manufacturing Overhead How Do You Match Professor Expectations? We follow your rubric to a T—structure, evidence, tone. Editors refine it, ensuring it’s polished and ready to impress your prof.
Req. No.	Amount	Time Sheet No.	Hours How Do You Edit My Work? Send us your draft and goals—our editors enhance clarity, fix errors, and keep your style. You’ll get a pro-level paper fast.	Amount	Hours	Rate	Amount
88 Can You Brainstorm Topics? Yep! We’ll suggest ideas tailored to your field—engaging and manageable. Pick one, and we’ll build it into a killer paper.	$378.00	51	20	$420.00	20	$5.00	$100.00 Do You Offer Fast Edits? Yes! Need a quick fix? Our editors can polish your paper in hours—perfect for tight deadlines and top grades.
92	$80.00
	$458.00		20	$420.00
Cost Summary Can You Start With an Outline? Sure! We’ll sketch an outline for your approval first, ensuring the paper’s direction is spot-on before we write.			Units Shipped
Direct Materials	$458.00			Date	Number	Balance
Direct Labor		$420.00 Can You Add Charts or Stats? Definitely! Our writers can include data analysis or visuals—charts, graphs—making your paper sharp and evidence-rich.			31-May	100	100
Manufacturing Overhead	$100.00
Total Cost		$978.00
Unit Product Cost	$4.89

*$978.00/200 Units = $4.89 per unit

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12. Process Costing

	Mixing Department	Bottling Department	Total Cost
Direct Materials	17,000 Do You Adapt to International Rules? Yes! UK, US, or Aussie standards—we’ll tailor your paper to fit your school’s norms perfectly.	5,000	22,000
Direct Labor	5,000	1,000 What does a complex assignment mean? If your assignment needs a writer with some niche know-how, we call it complex. For these, we tap into our pool of narrow-field specialists, who charge a bit more than our standard writers. That means we might add up to 20% to your original order price. Subjects like finance, architecture, engineering, IT, chemistry, physics, and a few others fall into this bucket—you’ll see a little note about it under the discipline field when you’re filling out the form. If you pick “Other” as your discipline, our support team will take a look too. If they think it’s tricky, that same 20% bump might apply. We’ll keep you in the loop either way!	6,000
MOH	10,000	2,000 Who is my writer? How can I communicate with him/her? Our writers come from all corners of the globe, and we’re picky about who we bring on board. They’ve passed tough tests in English and their subject areas, and we’ve checked their IDs to confirm they’ve got a master’s or PhD. Plus, we run training sessions on formatting and academic writing to keep their skills sharp. You’ll get to chat with your writer through a handy messenger on your personal order page. We’ll shoot you an email when new messages pop up, but it’s a good idea to swing by your page now and then so you don’t miss anything important from them.	12,000
Total Production Cost	32,000	8,000	40,000
Units produced	1,250 Liters	5,000 Bottles
Cost per bottle	$8.00

40,000/5000bottles = $8.00 / bottle

2. SMK Pharmaceutical production cost for April

	Debit	Credit
Inventory- Mixing Dept Raw Materials Wages MOH Inventory- Bottling Dept Raw Materials Wages MOH Inventory-Finished goods WIP	32000 8000 40000	17000 5000 10000 5000 1000 2000 40000

13. Responsibility Centre

A responsibility centre is a unit in an organization tasked with a specific set of duties to help the organization effectively exercise control over their business and to help them achieve both their long term and short term goal. Usually there are four responsibility center in every organization (Cost Center, Profit Center, Revenue Center and Investment Center). Each center is headed by a manager. (Barnat, 2014)

Cost Center. A cost centre is responsible for managing costs. There are two type of cost under cost centre. They are Engineered Cost and Discretionary Cost Centre. Engineered costs are those cost that can easily be linked with the cost centre (direct labor, direct materials and manufacturing overhead). Discretionary costs are costs that are allocated by the management on a discretionary basis (administrative cost, research and development, allowances, etc.). (Barnat, 2014)

Profit Centre. The profit centres are like independent businesses within the organization. They are given autonomy in managing their own affairs from the strategic balancing of sales and expenses up to performing a more detailed management function like helping maintain quality, measuring employee’s productivity against wage, managing overhead expenses and everything that they can control within their unit. (Barnat, 2014)

Revenue Centre. The sole responsibility of revenue centre is to generate revenue for the company through sales of goods or services. Most organizations set periodic sales target (daily, weekly, monthly, etc.) that whether surpassed or missed serve as an indicator of the performance of the unit manager or the revenue centre. An example of revenue centres are the outlet shops by manufacturing companies. The main focus of these shops is to sell company products with little or no consideration at all on costs and marketing. (Wikipedia.org, 2014)

Investment Centre. The responsibility of Investment centre is to generate returns of investment through effective asset management, increased sales performance and the proper management of cost and expenses.

Bibliography

Accountlearning.blogspot.co.nz. (2014). Retrieved November 12, 2014, from Accountlearning.blogspot.co.nz: http://accountlearning.blogspot.co.nz/2010/10/differences-between-process-costing-and.html

eFinanceManagement.com. (2014). Retrieved November 9, 2014, from eFinanceManagement.com: http://www.efinancemanagement.com/costing/costing-terms/211-direct-and-indirect-costs

InvestingAnswers.com. (2014). Retrieved November 9, 2014, from InvestingAnswers.com: http://www.investinganswers.com/financial-dictionary/stock-market/opportunity-co

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