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Chapter 4 extract from our ExPress notes for use with the current video. A full set of Ma1 ExPress notes can be downloaded free of charge at www.theexpgroup.com

Notes FIA – MA1 Management Information For exams in 2011

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ExPress Notes FIA MA1 Management Information

Contents

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About ExPress Notes

3

1.

The nature and purpose of cost and management accounting

7

2.

Source documents and coding

14

3.

Cost classification and measurement

17

4.

Recording costs

24

5.

Providing information

34

6.

The spreadsheet system

42

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START About ExPress Notes We are very pleased that you have downloaded a copy of our ExPress notes for this paper. We expect that you are keen to get on with the job in hand, so we will keep the introduction brief. First, we would like to draw your attention to the terms and conditions of usage. It’s a condition of printing these notes that you agree to the terms and conditions of usage. These are available to view at www.theexpgroup.com. Essentially, we want to help people get through their exams. If you are a student for the ACCA exams and you are using these notes for yourself only, you will have no problems complying with our fair use policy. You will however need to get our written permission in advance if you want to use these notes as part of a training programme that you are delivering. WARNING! These notes are not designed to cover everything in the syllabus! They are designed to help you assimilate and understand the most important areas for the exam as quickly as possible. If you study from these notes only, you will not have covered everything that is in the ACCA syllabus and study guide for this paper. Components of an effective study system On ExP classroom courses, we provide people with the following learning materials:    

The ExPress notes for that paper The ExP recommended course notes / essential text or the ExPedite classroom course notes where we have published our own course notes for that paper The ExP recommended exam kit for that paper. In addition, we will recommend a study text / complete text from one of the ACCA official publishers, but we do not necessarily give this as part of a classroom course, as we think that it can sometimes slow people down and reduce the time that they are able to spend practising past questions.

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The unique ExP & Me e-portal, which amongst other things allows “view again” of the classroom course that was actually attended. ExPand, our online learning tool and questions and answers database



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How to get the most from these ExPress notes For people on a classroom course, this is how we recommend that you use the suite of learning materials that we provide. This depends where you are in terms of your exam preparation for each paper. Your stage in study for each paper

These ExPress notes

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ACCA online past exams

Prior to study, e.g. deciding which optional papers to take

Skim through the ExPress notes to get a feel for what’s in the syllabus, the “size” of the paper and how much it appeals to you.

Don’t use yet

Don’t use yet

Have a quick look at the two most recent real ACCA exam papers to get a feel for examiner’s style.

At the start of the learning phase

Work through each chapter of the ExPress notes in detail before you then work through your course notes.

Work through in detail. Review each chapter after class at least once.

Nobody passes an exam by what they have studied – we pass exams by being efficient in being able to prove what we know. In other words, you need to have effectively input the knowledge and be effective in the output of what you know. Exam practice is key to this.

Don’t use at this stage.

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Make sure that you understand each area reasonably well, but also make sure that you can recall key definitions, concepts, approaches to exam questions, mnemonics, etc.

Try to do at least one past exam question on the learning phase for each major chapter.



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Your stage in study for each paper

These ExPress notes

ExP recommended course notes, or ExPedite notes

ExP recommended exam kit

ACCA online past exams

Practice phase

Work through the ExPress notes again, this time annotating to explain bits that you think are easy and be brave enough to cross out the bits that you are confident you’ll remember without reviewing them.

Avoid reading through your notes again. Try to focus on doing past exam questions first and then go back to your course notes/ ExPress notes if there’s something in an answer that you don’t understand.

This is your most important tool at this stage. You should aim to have worked through and understood at least two or three questions on each major area of the syllabus. You pass real exams by passing mock exams. Don’t be tempted to fall into “passive” revision at this stage (e.g. reading notes or listening to CDs). Passive revision tends to be a waste of time.

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Leave at home.


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Chapter 4

Recording Costs

KEY KNOWLEDGE Accounting for materials

Material costs can be broken down into   

Raw materials Semi-finished goods Finished goods

Accounting entries Materials Debit (Dr) entries = Increase in inventory

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Inventory Credit (Cr) entries = Decrease in inventory



Material requirements In budgeting for the amount of materials to be purchased, a business must take into consideration the volume of sales expected, the level of finished goods required (which together determine the volume of production required) and the level of raw material required (closing balance). Methods of inventory valuation:    

FIFO (first-in-first-out); LIFO (last-in-first-out); Periodic; and Weighted average

Accounting for labour costs Labour Account Debit (Dr) entries Credit (Cr) entries = = Labour costs incurred Transfer to P&L Note: The transfer to the P&L takes place via the Work-In-Progress (WIP) account for direct labour costs and the production overheads account in the case of indirect labour costs.

Remuneration methods There are two basic forms of remuneration: 

Time-based, and



Output–based (e.g. piecework)

Effective incentive schemes are designed to ensure that the interests and behaviour of individual employees and groups of employees are in-line (i.e. consistent) with the company’s objectives.

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Accounting for other expenses a) Explain the process of charging indirect costs to cost centres and cost units and illustrate the process of cost apportionment for indirect costs (excluding reciprocal service) .[s] b) Explain and illustrate the process of cost absorption for indirect costs .[s]

Direct and Indirect costs Traditionally, accountants maintain that costs have to be charged to whatever is being costed – the goal is ultimately to link costs to the units of product themselves: Direct costs are not a problem as they are directly attributable to the product. Indirect costs – in this context referred to as “overheads” -- are more difficult to link to products (e.g. a supervisor’s salary or a security guard).

KEY KNOWLEDGE Absorption costing at work This is one method which seeks to make the link between overheads and (product) cost units. The diagram below provides a useful roadmap. Total Production Costs

Direct Costs

Indirect costs (overheads)

2. Allocate/Apportion to Cost Centres

Production A

Production B

Service C

1. Allocate 3. Reapportion from Service to Production Production A

Production B 4. Absorb

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ExPress Notes FIA MA1 Management Information Cost Unit

The focus (above) is production. Overhead costs that are not incurred at the time of production do not find their way into inventory. It is useful to think of production costs as being those that end up as part of the inventory (valuation) while other (non-production) costs are incurred outside, and normally after the product leaves inventory. Allocation and Apportionment Allocate, Apportion and Re-apportion indirect production costs (shown on the right side of the diagram) to cost units. Our focus is on the first category (production); the other overhead costs are not incurred at the time of production and do not find their way into inventory. Always think of the costs going into inventory and those that occur after the product leaves inventory!

EXERCISE A company producing refrigerators and toasters has identified the following overhead costs relating to production: $ 8,000 1,500 3,000 2,500 15,000

Rent Indirect materials Power Equipment insurance

The company has 3 cost centres, 2 production workshops (A & B) and 1 warehouse (C, service centre). 1. Suggest the basis on which the costs shown above might be charged to the various cost centres. Rent Indirect materials

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Basis 8,000 sq.m. 1,500 Specific

A 4000 600

B 2500 700


C 1500 200


Power Equipment insurance

3,000 kWh 2,500 Book value 15,000 sq.m.

1500

1000

500

1000 7100

1400 5600

100 2300

As a manager with cost centre responsibility, what could be your concerns with respect to the bases selected above? 2. Re-apportion the service centre costs to the production workshops. Assumption: C is used by A (65%) and B (35%): A

B

Costs apportioned to A, B, C:

7,100

5,600

Costs re-apportioned from C:

1,500

800

Total overheads:

8,600

6,400

C 2,300 (2,300)

3. Absorb the overheads into the units produced. Assumption: The company absorbs overhead costs on the basis of direct labour hours Total labour Hrs Workshop A Workshop B

1,400 950

Overheads $

Overhead Absorption Rate (OAR) $

8,600 6,400

6.14 6.74

Each workshop uses its OAR to keep track of overhead costs as it produces. Alternatively, the company can use a “blanket” or company-wide OAR, calculated as: Total overhead costs Total labour hours

=

15,000 = 2,350

6.38

The company’s cost cards for toasters and refrigerators could look as follows:

Refrigerator (cost per unit) Direct materials (15kg @ $2/kg) Direct labour (1.75hrs @ $15/hr)

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$ 30.00 26.25



Variable OHs Fixed OHs (1.75hrs @ $6.38/hr) Total

Toaster (cost per unit) Direct materials (1kg @ $3/kg) Direct labour (0.30hrs @ $15/hr) Variable OHs Fixed OHs (0.30hrs @ $6.38/hr) Total

5.00 11.17 72.42

$ 3.00 4.50 2.00 1.91 11.41

Summary – Absorption costing 

Method of measuring the cost of products or services by including a fixed overhead “fair” share into the product manufacturing/service provision cost



Results in reporting higher ending inventories and higher operating profits (as fixed factory overheads are taken to inventory cost instead of being expensed as incurred)

It addresses the problem of allocating factory overheads per product lines

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

Step 1: Identify total factory overheads to be absorbed



Step 2: Take the total quantity recorded for the absorption base o

The absorption base should be highly correlated with incurrence of overhead

o

Most common absorption bases selected: direct labour hours, machine hours, units of output



Step 3: Compute overhead absorption rate (OAR) as Step 1 / Step 2 ($/unit of absorption base)



Step 4: Obtain unit overhead cost per product line, by multiplying the OAR with the absorption base quantity recorded per unit



Step 5: For each product, multiply Step 4 by total output to determine factory overhead to absorb in the production cost.



KEY KNOWLEDGE Job costing / Batch costing This refers to the calculation of costs associated with a specific job or customer order. This is appropriate in situations where each product or service is distinct, and possibly unique, in its delivery. Batch costing is similar to job costing; the distinction lies in the identification of costs with specific batches, which are numbered (separately identified) for this purpose.

KEY KNOWLEDGE Process costing Process costing is a technique that applies to the mass production of a large number of identical products, moving through a series of processing stages. The accumulated costs of production can be averaged over the number of items produced.

Illustration 1

units Input units from Process A Additional: Materials Labour Overheads

1,000

1,000 Avg.cost/unit:

Process B $ 20,000

Output to Process C

5,000 3,000 2,000 30,000

units

$

1,000

30,000

1,000

30

The average cost is determined by the following formula:

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30,000


Average cost per unit =

Total cost of inputs – Scrap value of rejected units No. of units of input – Normal loss

The total cost of inputs refers to labour, materials and overhead costs of production. If losses occur along the way that necessitate the scrapping of defective units, then to the extent that these items fetch a scrap value, then that (scrap) value will reduce the total costs. Similarly, an accounting is made of the number of units introduced into a process with the expectation that a normal loss will be incurred. The number of good units emerging from a process will therefore be the number of units entering it, minus the expected number lost in processing. Illustration 2 Normal loss 10% of input 1,000 = Avg. cost / unit

900 + good

100 NL

33.3

Conclusion: Average cost per unit =


1,000

1,000

Total cost of inputs No. of units of input – Normal loss

Process B $ 20,000

Output to Process C

5,000 Normal loss 3,000 2,000 30,000

units

$

900

30,000

100

1,000

Illustration 3 Scrap value

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0

30,000


scrap/unit Avg cost/unit

5 32.78

Conclusion: Average cost per unit =

Input units from Process A Additional: Materials Labour Overheads

Total cost of inputs – Scrap value of normal loss units No. of units of input – Normal loss

units

Process B $

units

$

1,000

20,000

900

29,500

Output to Process C

1,000

5,000 Normal loss 3,000 2,000 30,000

100

1,000

500

30,000

Equivalent units (EU) This refers to the way in which partially-completed output (“work-in-progress” or WIP) is expressed. If an unfinished unit of product contains 35% of the labour and materials costs of a complete unit, then the unit has a degree of completion of 35% in terms of value. It is therefore considered to have an EU of 35%, which is normally expressed in monetary terms.

Illustration 5 Closing WIP Assume 200 units are 100% complete with respect to materials, but 40% with respect to the conversion costs (labour + overheads)

Finished units WIP units Total units (EU) Value

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Materials EU 800 100% 200 100%

Conv. EU 800 100% 200 40% 1000 25,000


Total 800 80 880 5000


Value/unit

25.00

5.68

Finished units WIP units

20000 5000 25000

4545 455 5000


1,000

1,000

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Process B $ Finished 20,000 output to Process C 5,000 Closing WIP 3,000 2,000 30,000

24545 5455

units

$

800

24,545

200

5,455

1,000

30,000
