CMA Part 1 Sec D Cost Management

Question 1

Fixed Costs

Answer 1

…is a cost that does not change with changes in the level of production, i.e., the total cost remains constant over the relevant range of production. The cost per unit decreases with increases in production volume. The fixed cost is the sum of committed costs and discretionary [term] costs.

Question 2

Variable Costs

Answer 2

…is a cost that varies with changes in the level of production (i.e., total cost increases with increases in production volume). Cost per unit is constant over the relevant range of production.

Question 3

Mixed Costs

Answer 3

Costs that have both a fixed and variable component. For example, the cost of operating an automobile includes some fixed costs that do not change with the number of miles driven (e.g., operating license, insurance, parking, some of the depreciation, etc.) Other costs vary with the number of miles driven (e.g., gasoline, oil changes, tire wear, etc.)

Question 4

Relevant Range

Answer 4

…refers to a normal range of volume or normal amount of activity in which the total amount of a company’sfixed costswill not change as the volume or amount of activity changes.

Question 5

Cost Object(s)

Answer 5

is often a product or department for which costs are accumulated or measured.

[term] is anything for which a separate measurement of cost is required.

For example, a product is the [term] for direct materials, direct labor and manufacturing overhead. The factory maintenance department is a [term] for the cost of the maintenance employees and the maintenance supplies. Later the factory maintenance department costs will be assigned to products, which are also cost objects.

Question 6

Cost Pool

Answer 6

…is an account into which a variety of similar cost elements with a common cause are accumulated.

It is prefereable for all the costs in a [term] to have the same cost driver.

Costs are often grouped by departments, by jobs, or by behavior pattern. For example, overhead costs are accumulated by service departments in a factory and then allocated to production departments before multiple departmental overhead rates are developed for product costing purposes.

Question 7

Allocation Base

Answer 7

…is a measure used to allocate cost pool dollars to cost objects. It is the link between the cost pool dollars and the cost object. Any logical relationship can be used and it should ideally have a cause-and-effect relationship to the variability of costs in the cost pool. Ideally, the [term] is a cost driver.

Question 8

Cost Driver

Answer 8

…is the basis used to assign costs to a cost object.

…is an activity that is the root cause of why a cost occurs. There is a causal relationship between a cost pool and a cost object, the [term] is the method for assigning or allocating cost pool dollars to the cost object.

Question 9

Actual Costing

Answer 9

A method of costing manufactured items that differs from normal costing and standard costing. Under [term] each accounting period’s manufacturing inputs are valued at their actual cost, the actual number of dollars paid for direct materials, direct labor and overhead.

Question 10

Work in process inventory

Answer 10

…refers to the raw materials, labor, and overhead costs incurred for products that are at various stages of the production process. A manufacturer must disclose in its financial statements the cost of its [term] as well as the cost of finished goods and materials on hand.

Question 11

Finished goods inventory

Answer 11

The products in a manufacturer’s inventory that are completed and are awaiting to be sold. You might view this account as containing the cost of the products in the finished goods warehouse. A manufacturer must disclose in its financial statements the amount of finished goods, work-in-process, and raw materials.

Question 12

Raw materials inventory

Answer 12

…is the total cost of all component parts currently in stock that have not yet been used in work-in-process or finished goods production. There are two subcategories of [term], which are:

Direct materials. These are materials incorporated into the final product. For example, this is the wood used to manufacture a cabinet.

Indirect materials. These are materials not incorporated into the final product, but which are consumed during the production process. For example, this is the lubricant, oils, rags, light bulbs, and so forth consumed in a typical manufacturing facility.

Question 13

Normal costing

Answer 13

The actual cost of direct materials, the actual cost of direct labor, and manufacturing overhead applied by using a predetermined annual overhead rate.

Estimated overhead costs are divided by estimated production for the year to determine an application rate.

Question 14

Standard costing

Answer 14

…is a system designed to alert management when the actual costs of production differ from budgeted, or [term].

[term] are predetermined, attainable unit costs. A [term] is not just an averae of past costs, but an objectively determined estimate of what a product, unit cost should be. The cost estimate excludes past inefficiencies and takes into accout expected future changes.

Question 15

Variable costing

Answer 15

…considers only variable manufacturing costs to be product costs, i.e., inventoriable.

Note: the phrase “direct costing” is misleading because it implies traceability.

Question 16

Absorption costing

Answer 16

Costing system wherein fixed manufacturing overhead is allocated to (or absorbed by) products being manufactured. This system, which treats fixed manufacturing costs as a product cost, is required for external financial statements.

The inventoried cost of teh prodcut thus includes all production costs, whether variable or fixed. This technique is required for external financial reporting and for income tax purposes.

Question 17

Joint product costing

Answer 17

…is used when a business has a production process from which final products are split off during a later stage of production. The point at which the business can determine the final product is called the split-off point. It is a cost that benefits more than one product.

If a company incurs costs prior to a split-off point, it must allocate them to products, under the dictates of both GAAP and IFRS. If you were not to allocate these costs to products, then you would have to treat them as period costs, and charge them to expense in the current period.

Question 18

By-product costing

Answer 18

…costing is used when a business has a production process from which final products are split off during a later stage of production. These [term] products have minor additional costs and minor sales.

Question 19

Split-off point

Answer 19

The split-off point is the point in the production process at which joint products are individually identifiable.

Question 20

Separable costs

Answer 20

…are any costs incurred after the split-off point in a production process that can be assigned to specific products. The price at which one of these products is sold should never be below the amount of separable costs incurred, since this would result in a loss.

Question 21

Physical measure method

Answer 21

…allocates cost by the weight, volume, or some other measurement of the product that’s produced. It’s a contrast to relative sales value. In this case, assume that the weight or volume for each two-by-four is the same.

Question 22

Sales value at split-off method

Answer 22

…allocates joint costs based on eachproduct’s proportionate share of market or sales value at the split-off point.

Question 23

Constant gross profit method

Answer 23

…allocates joint costs such that the gross margin percentage is the same for each product. This method assumes that the further processing yields an identical profit percentage across all products.

Question 24

Net realizable value method

Answer 24

…allocates joint costs based on hypothetical sales values because there may not be a ready market for the product at the split-off point. This method is particularly useful when one or more products cannot be sold at the split-off point but must be processed further.

Question 25

Direct Costs

Answer 25

Direct costs are costs that can be identified with or traced to a specific cost object in an economically feasible way. In a traditional product costing system, direct costs are the sum of direct materials and direct labor.

Question 26

Indirect Costs

Answer 26

…is a cost that is not directly traceable to the manufactured product, is associated with the manufacture of two or more units of finished product, or is an immaterial cost that cannot be economically traced to a single unit of finished product.

Question 27

Cost Assignment

Answer 27

Cost assignment is the allocation of costs to the activities or objects that triggered the incurrence of the costs. The concept is heavily used in activity-based costing, where overhead costs are traced back to the actions causing the overhead to be incurred. The cost assignment is based on one or more cost drivers.

Question 28

Cost Allocation

Answer 28

…is a sub-process of cost assignment, which is the overall process of finding the total cost of a cost object. Cost assignment involves both cost tracing and [term]. Cost tracing encompasses finding direct costs of a cost object while the [term] is concerned with indirect cost charges.

Question 29

Relevant Costs

Answer 29

Relevant costs are expected future costs that are pertinent to the decision under consideration. They are usually used in reference to long-run, nonrecurring decisions, such as capital budgeting decisions. All other costs are assumed to be constant and thus have no effect on the decision.

Relevant data for capital budgeting is cash-flow (future) oriented. Historical or past (sunk) costs are irrelevant to the actual decision because the past costs will not be changed (recovered) by future action. However, historical costs are usually the best (sometimes the only) basis for predicting future costs. Accrual accounting (i.e., depreciation) is not relevant; relevant data includes:

initial investment required,
future net cash inflows or net savings in cash outflows, and
disposal cost or salvage value of old equipment and the new equipment.

Question 30

Imputed (Opportunity Cost)

Answer 30

…is a cost which does not appear in the accounting records and does not entail cash outlay; a form of opportunity cost; example: “interest” on ownership equity.

Question 31

Direct Materials

Answer 31

Direct material is the costs of materials that can economically be traced directly to units of finished product. It is included in product cost and prime cost (direct materials and direct labor).

Direct materials used in a given time period are computed as follows:

Beginning raw materials inventory + Purchases - Ending raw materials inventory = Direct materials used

Question 32

Direct Labor

Answer 32

…are labor costs that can be traced economically and directly to units of finished product. [term] is a part of product cost and is included in both prime cost ([term] plus direct materials) and conversion cost ([term] plus manufacturing overhead).

Question 33

Indirect Labor

Answer 33

…consists of labor costs that cannot economically be traced to units of finished product. Examples include the salary of production foremen, wages of factory janitors and guards, and salaries of manufacturing managers. [term] is included in conversion and product costs as part of manufacturing overhead.

Question 34

Overhead Costs

Answer 34

…is all costs of the manufacturing process other than direct labor and direct materials. Overhead is all costs that cannot be economically traced to individual units of finished product and includes indirect labor (e.g., foremen’s salaries), indirect materials (e.g., oil and lubrication for machinery), and miscellaneous indirect costs (e.g., depreciation, manufacturing utilities costs, rent, insurance).

Question 35

Prime Costs

Answer 35

…are costs that can, economically, be traced directly to units of finished product:

Direct labor + Direct materials

Question 36

Conversion Costs

Answer 36

…are manufacturing costs required to convert raw materials into a finished product:

Direct labor + Manufacturing overhead

Question 37

Standard Costs

Answer 37

…is a predetermined quantity or cost of inputs (direct material, direct labor, and manufacturing overhead) that should be required to produce one unit of output. It is the per-unit planned amount; the target, quantity, or cost that should be needed. [term] is used with both job order costing and process costing. It serves as the basis for budgeting and control (feedback) and serves as the plan against which actual results are compared.

The objective of a [term] system is to help the enterprise operate in the most effective and efficient manner, to achieve the organizational objectives by obtaining the optimum and desired outputs from the inputs available.

Standards should be attainable, i.e., standards are set at levels which recognize that labor will not be 100% efficient at all times, that materials will not be used with 100% efficiency (there will be some waste or spoilage), and that operations will not function at 100% capacity at all times.

Question 38

Perpetual Inventory

Answer 38

…system is a method of measuring the physical quantities in inventory under which the units received (manufactured) and issued (sold) are recorded continuously during the accounting period.

Costs may be determined continuously and quantity on hand is known at all times. (Contrast to Periodic Inventory System.) [term] is analogous to an online, real-time processing system.

Physical count is not necessary except as a check on the accounting system. (This check is usually achieved by cycle counts, which are periodic counts of selected items.) Any difference found is charged to an inventory overage/shortage account.

The [term] system is the preferred method of measuring the physical quantities and has become more feasible to apply in more industries as data processing costs have declined. It provides for critical control and safekeeping of inventory and for accurate inventory management.

Question 39

Periodic Inventory

Answer 39

…system is an inventory valuation system that uses quantities at the end of the accounting period based on a physical count. It determines the period COGS and inventory shortages and overages (variances). Inventory units or value is not known until the end of the period.

Items are: counted, weighed, or otherwise measured and multiplied by the unit cost (depending on the cost flow assumption utilized) to value the inventory.

Cost of goods sold is the residual amount and cannot be independently verified.

Cost of goods sold = Beginning inventory + Purchases - Ending inventory

Contrast to Perpetual Inventory. (The periodic inventory system is analogous to a “batch” processing system.)

Question 40

Overhead Application/Allocation Rate

Answer 40

is the rate used to charge overhead costs to work in process. It is based on estimated total overhead costs relative to some cost driver. Common cost drivers include units produced, direct labor hours (DLH) worked, direct labor costs incurred, and machine hours worked. The cost driver used to compute the rate should have a high correlation to the overhead costs.

        Estimated Total Overhead Costs   Total      (Based on a Flexible Budget) Overhead =  ------------------------------   Rate         Estimated Activity Level

        Fixed Overhead + (Variable Rate x Std. Activity Level)
     =  ------------------------------------------------------
                       Standard Activity Level

        Budgeted Fixed OH     Budgeted Variable OH
     =  -----------------  +  --------------------
        Standard Activity      Standard Activity
              Level                  Level

     =    Fixed OH Rate    +   Variable OH Rate For example: Fixed overhead (OH) = $18,000, Variable rate = $.50/DLH, Activity level = 30,000 direct labor hours

Total overhead rate = ($18,000 + ($.50/DLH × 30,000 DLH)) ÷ 30,000 DLH = $1.10/DLH

If standard direct labor is three hours per unit, the overhead rate is $3.30/unit.

Question 41

Actual O/H Application Rate

Answer 41

…is calculated by dividing overhead costs by the actual volume in the allocation base.

Question 42

Predetermined O/H Application Rate

Answer 42

…iscalculated by dividing the estimated overhead by the allocation base. Overhead is allocated to each product based on the estimated [term] and the number of units in the selected activity base.

Question 43

Applied Overhead

Answer 43

is the amount of overhead cost that has been assigned, using estimates of overhead costs and production levels, to finished goods and included in inventory (which will be expensed as part of cost of goods sold). Overhead applied at the standard or estimated rate does not necessarily equal the actual overhead incurred:

Over-applied overhead = the excess of applied overhead over actual overhead incurred
Under-applied overhead = the deficiency of applied overhead; the excess of overhead actually incurred over the amount applied

Question 44

Backflush Costing

Answer 44

…is a product costing system generally used in a just-in-time (JIT) inventory system. In short, it is an accounting method that records the costs associated with producing a good or service only after they are produced, completed, or sold. Backflush costing is also commonly referred to as backflush accounting.

Question 45

Just-in-time

Answer 45

The [term] inventory system is a management strategy that aligns raw-material orders from suppliers directly with production schedules. Companies employ this inventory strategy to increase efficiency and decrease waste by receiving goods only as they need them forthe production process, which reducesinventory costs. This method requires producers to forecast demand accurately.

[term] is also known as the Toyota Production System (TPS) because the car manufacturer Toyota adopted the system in the 1970s.

Question 46

Material Resource Planning

Answer 46

Material requirements planning (MRP) is a computer-based inventory management system designed to improve productivity for businesses.

Companies use material requirements-planning systems to estimate quantities of raw materials and schedule their deliveries.

Question 47

How Does Backflush Costing Work?

Answer 47

“Flushing” costs to the end of the production run eliminates the detailed tracking of expenses, such as raw material and labor costs, throughout the manufacturing process, which is a feature of traditional costing systems. This allows the company to simplify its expense tracking processes, thus saving accounting and process costs, but it may also limit the detail of information that the company retains related to individual costs for production and sales.

Question 48

Sunk cost(s)

Answer 48

…are either already paid or irrevocably committed to incur. Because they are unavoidable and will therefore not vary with the option chosen. They are not relevant to future decisions.

Question 49

Historical cost

Answer 49

…is the actual (explicit) price paid for an asset. Financial accountants rely heavily on it for balance sheet reporting.