Product Costs
-Manufacturing costs
-Direct labour, direct material, manufacturing overhead
-Inventoriable
Period Costs
-Non manufacturing costs
-Occur outside the production facility/area
-Selling costs, general and administrative costs
-Expensed
Prime Costs
-Direct costs
-Specifically traceable to an item
-Direct materials and direct labour
Indirect Costs
-Cannot be directly traced to a specific cost object
-Occur in the production facility/area
-Factory rent, supervisor salaries, utilities for the plant
Cost of Goods Sold
-The direct costs of producing the goods a company has sold during a specific period
Formula:
Beg WIP + DM + DL + MOH - End WIP = COGM
Beg FG + COGM - End FG = COGS
Contribution Margin (CM)
-How much of the sales dollars are available to cover fixed costs after paying for its variable costs
Formula: Sales - Variable Costs
Unit CM
Formula: Selling Price per Unit - Variable Cost per Unit
CM Ratio
-How much of every sales dollar contributes to covering fixed costs
Formula: Unit CM / Sales Price
OR
Formula: Total CM / Total Sales
Break-even Point (Units)
-The number of units that must be sold to achieve an operating income of 0
Formula: Fixed Costs / Unit CM
Break-even Point (Sales)
Formula: Fixed Costs / CM Ratio
Break-even Point (Given Target Income before Taxes)
Formula (sales): (Fixed Costs + Target Income before Taxes) / CM Ratio
Formula (units): (Fixed Costs + Target Income before Taxes) / Unit CM
Note: If you are given target income after taxes, convert to before taxes by taking target income after taxes divided by (1-tax rate)
Constrained Resources Question
-Prioritize product with the higher CM per constrained resource
Example:
Product A
-CM/unit = $10
-DLH = 2
CM per constrained resource = $5
Product B
-CM/unit = $20
-DLH = 2
CM per constrained resource = $10
Conclusion: Prioritize producing product B and if there is excess capacity, produce product A
Margin of Safety
-How much sales can drop before incurring a loss
Formula: Actual Sales - Break-even sales
As a % = Margin of Safety / Actual Sales
Operating Leverage
-The degree to which a company can increase operating income by increasing sales
-Shows how a company’s fixed costs can impact its profitability as sales change
-Companies with high operating leverage will see more of a impact on operating income as sales change because it has a larger proportion of fixed costs
Formula: CM / Operating Income
OR
% Change in Operating Income / % Change in Sales
Job-order Costing
-Used when there is a wide variety of distinct products or services
HOW:
1) Calculate predetermined overhead rate (Budgeted overhead / Expected input volume)
2) Calculate MOH by taking the predetermined overhead rate x actual input volume
Most common input volume measures are direct labour hours, direct labour cost and machine hours
ABC Costing
HOW:
1) Identify activities (machine setups, parts handling)
2) Group similar activities and track the total overhead cost for each cost pool (setup costs, inspection costs)
3) Determine the activity driver for each cost pool
4) Calculate the activity rate (total cost pool / total activity units)
5) Apply activity rate based on how much of each activity it used
Process Costing
-Used when there is homogenous (same) products
FIFO
-Assumes BWIP units are completed before new units are started
1) Total equivalent units
BWIP units (% not yet complete)
+ Units started and completed
+ Units in EWIP
2) Cost per EU
Current period cost / total equivalent units
3) Allocate costs
Prior period costs
Costs to complete BWIP
Costs of units started and completed
= Total cost of units transferred out
Weighted average
-Assumes prior period costs are related to current period
1) Equivalent units
All BWIP units
+ Units started and completed
+ Units in EWIP
2) Cost per equivalent unit
(Current period costs + prior period costs) / equivalent units
3) Allocate costs
Costs to complete BWIP
Costs of units started and completed
= Total cost of units transferred out
Variable Costing
-Fixed manufacturing overhead is treated as a period cost and is expensed in the period incurred
-Income is only affected by units sold (producing more or less doesn’t affect income)
-Used for internal decision making (i.e., CVP analysis, break-even, CM)
Absorption Costing
-Fixed manufacturing overhead is treated as a product cost and is “absorbed” into the cost of each unit
-Only hits the income statement when the product is sold (as part of COGS)
-Higher net income if inventory increases (because expense is delayed until sold)
-Required for external financial reporting under IFRS and GAAP
Payback Period
-How many years it will take to recoup the initial investment
Formula: Initial investment / annual net cash inflow
*Used to evaluate investment in long-term assets or projects
Return on Investment
= Operating income / average operating assets
Measures how much profit is being earned for every $1 of operating assets invested
However, can generally be calculated by taking
= Income from an investment / cost of the investment
Residual Income
Net operating income - (Required rate of return x average operating assets)
-Shows how much profit remains after covering the cost of using the company’s operating assets.
Flexible Budget Variance
= Actual Cost - *Flexible Budget Cost
*Budgeted cost per unit x actual units
OR
= Price Variance + Quantity Variance
Measures the difference between the actual cost and the budgeted cost based on the actual level of activity (i.e., the flexible budget)
NOTE: Adjust quantity variance based on if you are trying to find the flexible budget variance for sales (i.e., use sales volume variance) or flexible budget variance for materials (i.e., use sales quantity for materials usage variance)
Price Variance (DM, DL, VOH, Sales Price)
(Actual Price - Budget Price) x Actual Quantity
Add this and quantity variance to get flexible budget variance
