2 an introduction to cost terms and purposes - Pearson Learning ...

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$College of Marin Study Guide for Math 95 A,B - Pearson Learning ...$

GLOBAL SURVEYS OF COMPANY PRACTICE Distinguishing Between Variable Costs and Fixed Costs Many chapters in this book illustrate the insights gained from distinguishing fixed costs from variable costs. A recent survey of management accounting practice in the United States identified several tools used by more than 40% of respondents that rely on the distinction between fixed and variable costs. a Chapter(s) in the Book Planning and Budgeting Tools Discussing the Tool in Detail Budgeting and variance analysis 6, 7, and 8 Activity-based management 5 Capital budgeting 21 Decision-Support Tools Profitability and breakeven analysis 3, 4, 5, 11, 12, and 13 Transfer pricing 22 Product-Costing Analysis Tools Traditional costing 4 Overhead allocations 14, 15, and 16 Global surveys of company practice provide additional evidence that a large percentage of firms use systems that distinguish fixed costs from variable costs. New Zealand b = 84% United Kingdom b = 90% Estonia c = 80% When companies were asked to describe how they identify fixed and variable costs, “classification on a subjective basis based on managerial experience” and “treating all overheads as fixed and all direct costs as variable” were selected as the two most popular methods used in the United Kingdom and New Zealand. a A. Garg et al., “Roles and Practices in Management Accounting Today.” b C. Guilding, D. Lamminmaki, and C. Drury, “Budgeting and Standard Costing Practices in New Zealand and the United Kingdom.” c T. Haldma, and K. Lääts, “Contingencies Influencing the Management Accounting Practices of Estonian Manufacturing Companies.” Full citations are in Appendix A at the end of the book. ISBN: 0-536-53243-5 Consider an example of a variable cost with respect to a different activity—the $20 hourly wage paid to each worker to set up machines at the Spartanburg plant. Setup labor cost is a variable cost with respect to setup hours because setup cost changes in total in proportion to the number of setup hours used. 2. Fixed Costs: Suppose BMW incurs a total of $100,000,000 in leasing costs per year for its Spartanburg plant. These costs are unchanged in total over a designated range of the number of vehicles produced during a given time span (see Exhibit 2-3, Panel B). Fixed costs become smaller and smaller on a per unit basis as the number of vehicles assembled increases, as the following table shows. Annual Total Number of Fixed Leasing Cost Fixed Leasing Costs X5s Produced per X5 (1) (2) (3) = (1) ÷ (2) $100,000,000 10,000 $10,000 100,000,000 25,000 4,000 100,000,000 50,000 2,000 An Introduction to Cost Terms and Purposes 31 Cost Accounting: A Managerial Emphasis, Twelfth Edition, by Charles T. Horngren, Srikant M. Datar, and George Foster. Copyright © 2006 by Pearson Education, Inc. Published by Prentice Hall.
Again examine the table. It is precisely because total leasing costs are fixed at $100,000,000 that fixed leasing cost per X5 decreases as the number of X5s produced increases; the same fixed cost is spread over a larger number of X5s. Do not be misled by the change in fixed cost per unit. When considering fixed costs, always focus on total costs. Costs are fixed when total costs remain unchanged despite significant changes in the level of total activity or volume. Example: Suppose you make belts using leather that costs $5/belt (a variable cost) in a workshop rented for $450/month (a fixed cost). Calculate total costs and per unit costs for 1 Belt and 10 Belts: 1 Belt 10 Belts Per Per Total Unit Total Unit Leather $ 5 $ 5 $ 50 $ 5 Rent 450 450 450 45 Total $455 $455 $500 $50 Total VC vary with the number of belts produced (from $5 to $50 as volume increases from 1 to 10 belts), but per unit VC are constant at $5/belt (for both 1 and 10 belts). Total FC are constant at $450 (for both 1 and 10 belts), but per unit FC vary with the number of belts produced (from $450 to $45 as volume increases from 1 to 10 belts). Therefore, total cost per belt depends on the number of belts produced. Why are some costs variable and other costs fixed? Recall that a cost is usually measured as the amount of money that must be paid to acquire goods and services. Total cost of steering wheels is a variable cost because BMW buys the steering wheels only when they are needed. As more X5s are produced, proportionately more steering wheels are acquired and proportionately more costs are incurred. Contrast the description of variable costs with the $100,000,000 of fixed costs incurred by BMW to lease its Spartanburg plant for a year. This plant capacity is acquired well before BMW uses it to produce X5s and before BMW even knows how much of the capacity it will use. Suppose the plant has the capacity to produce 50,000 X5s each year. If the demand is for only 45,000 X5s, there will be idle capacity. However, BMW must pay for the unused capacity. If demand is even lower, say only 40,000 X5s, plant leasing costs will not change; they will continue to be $100,000,000. However, idle capacity will increase. Unlike variable costs, fixed costs pay for resources (such as for plant capacity) that cannot be quickly and easily changed to match the resources needed or used. Over time, managers can take actions to reduce fixed costs. For example, BMW may choose to sublease part of the plant to other companies. Do not assume that individual cost items are inherently variable or fixed. Consider labor costs. Labor costs can be purely variable with respect to units produced when workers are paid on a piece-unit (piece-rate) basis. Some garment workers are paid on a pershirt-sewed basis. In contrast, labor costs at a plant in the coming year are sometimes appropriately classified as fixed. For instance, a labor union agreement might set annual salaries and conditions, contain a no-layoff clause, and severely restrict a company’s flexibility to assign workers to any other plant that has demand for labor. Japanese companies have for a long time had a policy of lifetime employment for their workers. Although such a policy entails higher labor costs, particularly in economic downturns, the benefits are increased loyalty and dedication to the company and higher productivity. The Concepts in Action on page 33 describes how the Internet offers companies the opportunity to convert fixed costs of application software into variable costs by renting software applications on an as-needed basis. A particular cost item could be variable with respect to one level of activity and fixed with respect to another. Consider annual registration and license costs for a fleet of planes owned by an airline company. Registration and license costs would be a variable cost with respect to the number of planes owned. But registration and license costs for a particular plane are fixed with respect to the miles flown by that plane during a year. To focus on key concepts, we have classified the behavior of costs as variable or fixed. Some costs have both fixed and variable elements and are called mixed or semivariable costs. For example, a company’s telephone costs may have a fixed monthly payment and a charge per phone-minute used. We discuss mixed costs and techniques to separate out their fixed and variable components in Chapter 10. CHAPTER 2 32 Cost Drivers A cost driver is a variable, such as the level of activity or volume, that causally affects costs over a given time span. That is, there is a cause-and-effect relationship between a change in the level of activity or volume and a change in the level of total costs. For example, if product-design costs change with the number of parts in a product, the number of parts is a cost driver of product-design costs. Similarly, miles driven is often a cost driver of distribution costs. The cost driver of a variable cost is the level of activity or volume whose change causes proportionate changes in the variable cost. For example, the number of vehicles assembled is the cost driver of the cost of steering wheels. If setup workers are paid an hourly wage, the number of setup hours is the cost driver of (variable) setup costs. ISBN: 0-536-53243-5 Cost Accounting: A Managerial Emphasis, Twelfth Edition, by Charles T. Horngren, Srikant M. Datar, and George Foster. Copyright © 2006 by Pearson Education, Inc. Published by Prentice Hall.
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Page 3 and 4: EXHIBIT 2-1 Examples of Cost Object
Page 5: ect cost if the cost object is a pr
Page 9 and 10: EXHIBIT 2-4 $160,000 Fixed-Cost Beh
Page 11 and 12: Study Tip: Practice is helpful if y
Page 13 and 14: EXHIBIT 2-6 Assignment of Costs to
Page 15 and 16: Step 3: Cost of goods manufactured
Page 17 and 18: Prime Costs and Conversion Costs Tw
Page 19 and 20: Benefits of Defining Accounting Ter
Page 21 and 22: 9 Describe a framework for cost acc
Page 23 and 24: SOLUTION 1. Foxwood Company Income
Page 25 and 26: direct materials inventory (p. 37)
Page 27 and 28: . Variable or fixed (V or F) costs
Page 29 and 30: Required 1. What is the unit cost t
Page 31 and 32: 2-33 Income statement and schedule
Page 33 and 34: Required 2-38 Cost analysis, litiga

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