Chapter 15 Introduction to Managerial Accounting PDF

Introduction to ·15 Managerial Accounting MANAGERIAL ACCOUNTING r STRATEGlCPLAt[NG Developing Costing Information Cost Systems (Chs. 16-17] Overhead...

Introduction to ·15 Managerial Accounting MANAGERIAL ACCOUNTING r STRATEGlCPLAt[NG Developing Costing Information Cost Systems (Chs. 16-17] Overhead Allocation [Ch. 18] Support Costs [Ch. 19) Job Order Costing Plantwide Allocation Direct Method Process Costing Departmental Allocation Sequential Method Hybrid Costing Activity-Based Costing Reciprocal Services Method M Joint Costs (Ch. 19] Fixed Cost s (Ch. 21) Variances [Ch. 23] E Physical Units Method Absorption Costing Actual Costing C A Weighted Average Method Variable Costing Normal Costing 0 Market Value at Split-Off Method Standard Costing s N Net Realizable Value Method u T R R E 0 Developing Management Tools M L E Cost-Volume-Profit Analysis Budgeting Decentralization N [Ch.20] [Ch.22] [Ch.24) T Analysis Differential Capital Investment Analysis Lean Manufacturing (Ch. 25) [Ch.26] [Ch.27) Activity Analysis The Balanced Scorecard Corporate Social Responsibility [Ch. 27] [Ch. 28) [Ch. 28] EVALUATION Gibson Guitars ibson guitars have been used by musical legends over the How many employees should the company have working on G years, including B.8. King, Chuck Berry, Brian Wilson (Beach each stage of the manufacturing process? Boys), Jimmy Page (Led Zeppelin), Sheryl Crow, Lenny Kravitz, How would purchasing automated equipment affect the costs Jose Feliciano, Miranda Lambert, Tak Matsumoto, and Wynonna of its guitars? Judd. For example, Sheryl Crow has used her 1964 Gibson Country This chapter introduces managerial accounting concepts that are Western guitar in all of her recordings. useful i n addressing these questions. This chapter begins by describing Known for its quality, Gibson Guitars celebrated its 125th managerial accounting and its relationship to financial accounting. anniversary in 2019, Staying in business for over 125 years requires Following this overview, the management process is described along a thorough understanding of how to manufacture high-quality with the role of managerial accounting. Finally, characteristics of man­ guitars. In addition, it requires knowledge of how to account for agerial accounting reports, managerial accounting terms, and uses of the costs of making guitars. For example, Gibson needs cost infor­ managerial accounting information are described and illustrated. mation to answer the following questions: What should be the selling price of its guitars? Sources: www.gibson.com/Gibson/History.aspx. Chris Kornelis, Ihe Wall How many guitars does it have to sell in a year to cover its Street Journal, "How Sheryl Crow Finally Broke Her Starbucks Habit," costs and earn a profit? May 24, 2017. Link to Gibson Guitars............................ Pages 767,768,770, 77 1 , 7 72 , 7 77 764 Chapter 15 Introduction to Managerial Accounting Introduction to Managerial Accounting Role of Managerial Accounting Manufacturing Operations Manufacturing Financial Management Process (Obj. 1) Nature of Manufacturing (Obj. 2) Statements Managerial Accounting (Obj. 1) Direct and Indirect Costs (Obj. 2) Balance Sheet (Obj. 3) Differences with Financial Accounting (Obj. 1) Manufacturing Costs (Obj. 2) Income Statement (Obj. 3) Managerial Accounting within the Organization (Obj. 1) Learning Objectives Obj. 1 Describe how managerial accounting supports the Obj. 3 Describe and illustrate financial statements for a management process, its differences with financial manufacturing business, including the balance sheet, accounting, and its place within the organization. statement of cost of goods manufactured, and income statement. Obj. 2 Describe and illustrate the nature of manufacturing operations, induding different types and classifications of costs. Analysis for Decision Making Obj. 4 Describe and illustrate utilization rates in evaluating performance for service companies. Objective 1 Managerial Accounting Describe how mana­ gerial accounting sup­ Managerial accounting, sometimes called management accounting, is the process of develop­ ports the management ing information and management tools to achieve an organization's objectives. Although we focus process, its differences primarily on companies whose objective is to earn a profit, much of our discussion also applies to with financial account­ organizations such as churches, government agencies, and other non-profit organizations. ing, and its place within the organization. The Management Process The management process is composed of the following four basic functions: Strategic planning Measurement Evaluation Control Strategic Planning The management process begins with strategic planning to develop long-term objectives, For example, a company might set an objective of increasing its market share by developing new products or expanding into new markets. Strategic planning normally involves a time horizon of five to ten years. To achieve its long-term, strategic objectives, management sets a variety of short-term objectives and actions. The process of developing these short-term objectives and actions is often referred to as operational planning. For example, to develop new products a company might increase its annual spending on research and development. Measurement The management process where managers develop and agree upon perfor­ mance metrics on how well the company is achieving its objectives is measurement. A com­ pany's performance metrics should tie to its specific short- and long-term objectives. Examples of performance metrics include market share, customer satisfaction, workforce diversity, and earnings per share. Coyne 20.Ce.gageLearn.g Alli%ht«leerved4Me6et be copied.edo ddiced i wee oi pet. De toe.econight,%ceethird pry004ayes.peed foe eloo lo echert bdoaviewheed0ha$0.pp000000do00400.ah0/0lg4pi0Cg.agelag4esovesthenigone000ea0008/ 000a.a 0.hf sq4ig4000000.ql  Chapter 15 Introduction to Managerial Accounting 765 Evaluation The management process by which management monitors operations by compar­ ing actual and expected results is evaluation. The comparison of actual and expected results provides feedback for employees and is often used as a basis for performance evaluation, pro­ motions, and compensation. The philosophy of focusing evaluation on "unexpected" good or bad performance is called management by exception. Evaluation is critical for the continuous improvement of employees, business processes, and products. Control The process by which management takes actions to encourage specific behaviors or out­ comes is control. The control process includes providing information and guidance for employees and managers to run day-to-day operations. For example, management might provide measure­ ment and evaluation information to help a production supervisor maintain a production schedule for meeting customer needs. Communicating the company's plans, measurements, and evaluations to supervisors and employees to guide their actions is another example of management control. The Role of Managerial Accounting The primary role of managerial accounting is to support the management functions of strategic planning, measurement, evaluation, and control. Managerial accounting does this by developing information and tools for use by managers for decision making. Exhibit 1 is the schema used throughout this text to illustrate managerial accounting's role in supporting the management of a company. Exhibit 1 Managerial Accounting MANAGERIAL ACCOUNTING Schema.SgAffffP[Ai(tf Developing Costing information Gtwten4 (Cs. 16-17 Alsation Ch. rd 18l Got pport ts @Ch. 19% JobOrderCoting lean.twideAllocation Direct#Method roes Cos.ting DeportretatAllocatlo SequentialMet hod ybidCosting Activity-ad Costig al Services Met Reciproc hod M Joint G6ts (Ch.l Vries (C.231 E al Uh Method Physic Actual Costing C A weighted#rage thod mal C Nor osting 0 s laelt oatel0etheed Standord Costing N ieteooble VoleMethod u T R R E 0 Developing Management Tools M l E CostVol-Profit An.yis hdgeting De«tradition N (C. 20] C. 22 ch. 24 T Differential Analysis (pit let4 tat A.yi en Mah tring kc. 25l (c. 26 l ch. 27 Analysis Activity The 8ala«d or«rd GorSoil ponte ponsibility C. 27 ( Ch. 28 Ch. 28 EVALUATION The four basic functions of the management process surround the outside of the schema. Managerial accounting supports these four functions by developing cost information and management tools. Coyne 20.Ce.gageLearn.g Alli%ht«leerved4Me6et be copied.edo ddiced i wee oi pet. De toe.econight,%ceethird pry004ayes.peed foe eloo lo echert bdoaviewheed0ha$0.pp000000do00400.ah0/0lg4pi0Cg.agelag4esovesthenigone000ea0008/ 000a.a 0.hf sq4ig4000000.ql 766 Chapter 15 Introduction to Managerial Accounting Developing Costing information While managerial accounting provides managers with a variety of information, the development of costing information is a major focus of managerial accounting. For this reason, developing costing information is a primary focus of this text. Some examples of how cost information could be used by a guitar manufacturer, like Gibson Guitars, include the following: The cost of manufacturing each guitar could be used to plan its selling price. Comparing the costs of guitars over time can be used to evaluate and control costs. The cost of scrap or employee downtime could be measured and evaluated. For example, large costs tied to unusable wood (scrap) after the cutting process should be investigated to determine the underlying cause. Such scrap may be caused by saws that have not been properly maintained. The cost of continuing to use a manually operated cutting machine could be measured and evaluated against the potential cost savings of purchasing a computerized saw. There are many considerations and choices in developing cost information. These choices have a significant impact on the accuracy, complexity, and cost of developing information. Some topics we will consider in developing costing information include the following: What cost system to use to record and report the cost of a product (Chapters 16-17). How to allocate overhead costs, such as equipment depreciation, to products (Chapter 18). How to allocate support department costs, such as factory janitorial costs, to products (Chapter 19). How to allocate joint manufacturing costs to products (Chapter 19). How to report fixed production costs, such as factory supervisory salaries (Chapter 21). How to determine and report variances (differences) between actual and planned costs (Chapter 23) Developing Management Tools In addition to developing cost information, managerial ac­ counting develops a variety of tools for management to use in analyzing information and making decisions. Some managerial accounting tools we will consider for use by management include the following: Cost-volume-profit analysis for determining the sales necessary to break even or earn a target profit (Chapter 20). Budgeting for resource planning (Chapter 22). Decentralization for assessing operations that are centralized or distributed throughout the company (Chapter 24). Differential analysis for comparing the profitability of various options (Chapter 25) Busiess Insight V Managerial Accounting and use the direct method for allocating support department costs and use Ordering at Subway activity-based costing for overhead allocation. Likewise, at Subway you choose a meat, cheese, toppings, and sauce to complete your sandwich eveloping cost information is like building a sandwich at Subway. Some cost information choices are mutually Developing management tools is like finalizing your order at Subway. D exclusive. For example, you can't use both plantwide and For example, while accurate cost information is necessary for making activity-based costing for overhead allocation. Likewise, at Subway, valid decisions, those decisions may be improved by using a variety you must choose your bread. For example, you may select either wheat of management tools. For example, the balanced scorecard enables bread or Italian bread -but you can't select both. However, some cost managers to consider a variety of performance objectives and metrics. choices can be added to other choices to improve and increase the Likewise, at Subway, you can order a variety of add-ons, such as chips, effectiveness of the overall system. For example, a cost system could a drink, and dessert, to improve your meal. Coyne 20.Ce.gageLearn.g Alli%ht«leerved4Me6et be copied.edo ddiced i wee oi pet. De toe.econight,%ceethird pry004ayes.peed foe eloo lo echert bdoaviewheed0ha$0.pp000000do00400.ah0/0lg4pi0Cg.agelag4esovesthenigone000ea0008/ 000a.a 0.hf sq4ig4000000.ql  Chapter 1 5 I n t ro d u c t i o n to M a n a g e r i a l A c c o u n t i n g 767 Capital investment analysis for use in deciding among long-term assets to purchase (Chapter 26). Lean manufacturing for determining how to reduce inventory costs (Chapter 27). Activity analysis for use in reducing inefficiencies in the production process (Chapter 27). The balanced scorecard for aligning strategic objectives with performance metrics and evaluat­ ing performance (Chapter 28). Corporate social responsibility for focusing on objectives such as reducing the environmental impact of production or providing diversity and inclusion training to all employees (Chapter 28). The M a n a g e r i a l A c c o u n t i n g Roadmap The schema shown in Exhibit 1 provides a roadmap for your understanding of managerial accounting. Each chapter and its related topics are highlighted in the schema at the beginning of each chapter. This provides an overall framework of where you are in studying managerial accounting and how the various chapters and topics are interrelated with one another. In addition, decision making occurs in every component of the schema. For this reason, each chapter ends with a decision-making learning objective and related set of assignments. O r v i l l e G i b s o n started p ro d u c i n g g u i t a r s in 1 8 9 4 i n Kalamazoo, M i c h i g a n. He produced g u i t a r s a n d m a n d o l i n s Lkto based u p o n the arch-top d e s i g n of v i o l i n s. lsen» 6tors Differences Between F i n a n c i a l and M a n a g e r i a l A c c o u n t i n g Accounting information is often classified into two types: financial and managerial. Exhibit 2 shows the relationship between financial accounting and managerial accounting. Financial accounting information is reported at fixed intervals (monthly, quarterly, yearly) in general-purpose financial statements. These financial statements-the income statement, state­ ment of stockholders' equity, balance sheet, and statement of cash flows-are prepared according U s i n g Data A n a l y t i c s M a n a g e m e n t Accounting a n d Data Analytics Data analytics is the science of analyzing large amounts of raw data, sometimes called "big data;'to discover pat­ terns, identify anomalies, or gain other useful insights for decision making. A major role of management accounting is to extract useful insights from data. Given this role, skills in data analytics are essential to managerial accounting. Data a n a l y t i c s uses t o o l s s u c h as m a t h e m a t i c a l m o d e l i n g , statistical co m p u t a t i o n , a n d data v i s u a l i z a t i o n to e n a b l e the co m p u t a t i o n a n d v i s u a l representation of data for use by m a n a g e m e n t. However, the outputs of data a n a l y t i c s s h o u l d be interpreted carefully by m a n a g e m e n t. For example, the outputs are o n l y as good as the i n p u t s a n d the analyses performed. I n a d d i t i o n , the i n fo r m a t i o n from data a n a l y t i c s is just one i n p u t into management's "toolset" that can be used to make informed d e c i s i o n s. See TI F 1 5 - 7 for a homework a s s i g n m e n t u s i n g data analytics. @EA.s » Ao» To help managers make sound business decisions, the emerging field of environmental managerial accounting focuses on com­ Environmental M a n a g e r i a l A c c o u n t i n g puting the environmental-related costs of business decisions. Throughout the last decade, environmental issues have become Environmental managerial accountants evaluate a variety of issues an increasingly important part of the business environment for such as the volume and level of emissions, the estimated costs of most companies. Companies and managers must now consid­ different levels of emissions, and the impact that environmental er the environmental impact of their b u s i n e s s decisions in the costs have on product cost. Managers use these results to consider same way that they would consider other operational issues. the environmental effects of their business decisions. Copyright 2023 Cengage Learning. AH Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic tights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. 768 Chapter 15 Introduction to Managerial Accounting Exhibit 2 Financial Managerial Financial Accounting Statements Accounting Reports and Managerial Accounting Financial Statements Managerial Accounting Reports Users of Information External users and company management Management Nature of Information Objective Objective and subjective Guidelines for Preparation Prepared according to GAAP Prepared according to management needs Timeliness of Reporting Prepared at fixed intervals Prepared at fixed intervals and on an as-needed basis Focus of Reporting Company as a whole Company as a whole or segment to generally accepted accounting principles (GAAP). These statements are used by external users such as the following: Shareholders Creditors Government agencies The general public Gibson Mandolin-Guitar Mfg. Co., Ltd. was formed in 1902 in Kalamazoo, Michigan, with the support of five investors. Managers of a company also use general-purpose financial statements. For example, in plan­ ning future operations, managers often begin by evaluating the current income statement and statement of cash flows. Managerial accounting information is designed to meet the specific needs of a company's man­ agement. This information includes the following: Historical data, which provide measures of past operations Estimated data, which provide estimates about future decisions Management uses both types of information in directing daily operations, planning future oper­ ations, and developing business strategies. Unlike the financial statements prepared in financial accounting, managerial accounting reports do not always have to be: Prepared according to generally accepted accounting principles (GAAP). This is because GAAP may not always be relevant to the specific decision-making needs of management. Prepared at fixed intervals (monthly, quarterly, yearly). Although some management reports are prepared at fixed intervals, most reports are prepared as management needs the information. Prepared for the business as a whole. Most management reports are prepared for products, projects, sales territories, or other segments of the company. Lile'e Chicago Musical Instrument Company purchased Gibson in 1944. lsen tors Coyrig 2027CeegageLeg4Al kit«leered.My6et ecoed ea.ed or deed i woke o i pat. De electro night,dee thd pry0%et le pi look %loech.er ed foe e e dona4eviewhet.hay$a99es.d0004%00400.i.al/ya004hoe0ah/la0gepic.Geng.ala0grvetherigio4ow.ea00.l 004a4a0. if.ab%00fig%.0i000.qi  Chapter 15 Introduction to Managerial Accounting 769 Managerial Accounting within the Organization While no two company structures are identical, most large companies are organized in terms of "ver­ ticals" and "horizontals." Verticals are sometimes referred to as business units, because they are often structured as separate businesses within the parent company. These verticals normally develop prod­ ucts that are sold directly to customers. Verticals prepare their own income statements, also referred to as profit and loss (PEL) statements, which report their ongoing performance and profitability, Horizontals are departments within the company that are not responsible for developing products. The role of horizontals is to provide services to the various verticals and other horizontals. As such, hor­ izontals do not report profit and loss (P&L) statements. Marketing, human resources, information tech­ nology, legal, facilities, accounting, and finance are normally horizontal departments within a company At McAfee, Inc. (MFE), a cyber security provider, the Chief Financial Office functions as a horizontal department that serves McAfee's two main verticals: the Consumer Business Unit and the Enterprise Business Unit. Rather than hire and train separate accounting and finance departments within each vertical, it is more efficient to centralize this function as a horizontal department. To illustrate, a partial organizational chart of McAfee's Chief Executive Office and Chief Finan­ cial Office is shown in Exhibit 3. The chief financial officer (CFO) is an executive vice presi­ dent, who, along with leadership of the other verticals and horizontals, reports directly to the chief executive officer (CEO). Each of the two verticals (Consumer Business Unit and Enterprise Business Unit) has a "VP of Finance" that reports to the CFO. In addition, the Sales & Marketing and Consolidations horizontals have their own VP of Finance" that reports to the CFO.' The Vp of Accounting" is called the chief accounting officer (CAO) and oversees technical accounting, accounting policy, credit, collections, tax, treasury, and internal audit at McAfee. The functions reporting to the CFO sometimes are grouped together and are referred to as corporate finance. Finance and accounting professionals often work within verticals and other horizontals man­ aging budgets, tracking key metrics, and generating accounting reports. Doing so requires coor­ dinating and interacting closely with operational employees. As a result, the functions of these professionals are sometimes referred to as operations finance or as financial planning and anal­ ysis. Although finance and accounting professionals often work within verticals and other horizon­ tals, they do not normally report directly to the heads of those units or departments. Instead, they report to an accounting and finance VP, who in turn reports to the CFO, 'This allows the accounting and finance professionals to maintain their independence. At some companies, the manager of the accounting function of a vertical (business unit) is referred to as the controller. At smaller companies, controller may be used to refer to the chief financial offi­ cer. At still other companies, controller may be used to signify rank within the accounting and finance function. For example, the head accountant of a manufacturing facility at Deere &Company (DE) is called a controller. In contrast, at Intel Corporation (IN'TC), accounting and finance employees start as analysts, are promoted to senior analysts, then to managers, and then to controllers. Busiess Insight Vertical and Horizontal _,,, Functions for Service Companies Functions that are normally performed by vertical and horizontal units may be applied to service companies. Some examples are as follows: t Service industry Vertical Function Horizontal Function Airline Crew, baggage handling, and gate staff Information systems, accounting, human resources Hotel Housekeeping and reception staff Maintenance, hotel manager, grounds Hospital Doctors, nurses, other caregivers Admissions, records, billing Banking Tellers, loan officers, trust officers, and brokers Branch manager, information systems Telecommunications Sales, customer service, and customer Information systems, regional management, and installation staff network maintenance Consolidations supports the aggregation of financial statements from other units. Copyrige 203(engage Learn.ig. All igheerwed My sot becopied cooed,or duplicated i wholeoi pet. De toel ectronic rights, sore id ptycotes say be supped frothe elook aed/oreChapter0. oil vi he4h.a40009000.4#0nil%lee4t 0ell lo 4 hie 0.. Le t.rv t ri roe.ii0/ co.ti if47fie0 0#l  770 Chapter 15 Introduction to Managerial Accounting Exhibit 3 Partial Organization Chart for McAfee Chief Executive Officer (CEO) Chief Executive Office I ' ' ' Exec. Sr. Exec. Exec. Vice P II I Vice President Sr. Vice President ± Vice President = , Vice President (Chlet Fin an cial (Chief Tech. Vice President Vice President Consumer Enterprise Sales & omeer) Officer) Human General Counsel Business Unit Business Unit Marketing Chief Technology Resources Chet Financial Office 0ice Verticals Horizontals Exec. Vice President (Chief Financial Officer) Chief Financial Office I ' ' ' VP, Accounting VP, Finance (Chief Acct. vp finance vp Finance I VP, Finance Sales & Officer) Consumer Enterprise Consolidations Marketing Chief Accounting Office '-------,.,---- Supports Verticals Supports Horizontals Supports Corporate The work of accounting and finance professionals requires a thorough knowledge and under­ standing of managerial accounting, which provides a valuable foundation for advancing to senior management positions. Because managerial accounting crosses a variety of functional areas, the formal title of managerial accountant" or management accountant" is normally not used by com­ panies. Instead, professionals who use managerial accounting are typically referred to by their functional area, such as "financial analyst" or "operations analyst." One of Gibson's most influential managers was Ted McCarty, who was the company president from Lok to 1950--1966. During this period, Gibson was known for its innovations. For example, in 1954, McCarty invented the lsen 6tors tune-o-matic bridge with adjustable saddles. Busiess Insight t v Certified Management Accountants he Institute of Management Accountants (IMA) is a worldwide The CMA is not a state or local certificate, but a globally recognized credential. The CMA is earned by passing a two-part examination. Part 1 covers financial reporting, planning and budgeting, performance association of over 100,000 accounting and finance profession­ T als across more than 140 countries. The IMA works to support management, cost management, and internal controls. Part 2 covers financial statement analysis, corporate finance, decision analysis, risk the management accounting profession with programs involving management, investment decisions, and professional ethics. Those continuing education, certification, networking, ethics, research, and passing the examination have proven that they have mastered the scholarships. In the United States, there are over 13 million accoun­ skills required to oversee the management accounting and finance tants and auditors, most of whose work involves management functions within a company or other entity. For more information, visit accounting. The projected growth rate of the accounting profession the IMA's website at www.imanet.org. over the coming decade is 11%, which is 4% higher than the projected average growth rate of all professions. To meet the growing needs of the accounting profession, the Source US. Bureau ofLabor Statistics: www.bls.gov/ooh/business-and-financial IMA offers the Certified Management Accountant (CMA) certificate. accountants-and-auditors.htmtab-6 Coyne 20.Ce.gageLearn.g Alli%ht«leerved4Me6et be copied.edo ddiced i wee oi pet. De toe.econight,%ceethird pry004ayes.peed foe eloo lo echert bdoaviewheed0ha$0.pp000000do00400.ah0/0lg4pi0Cg.agelag4esovesthenigone000ea0008/ 000a.a 0.hf sq4ig4000000.ql  Chapter 15 Introduction t o Managerial Accounting 771 Gibson struggled financially from 1966-1986. The company was purchased and sold several times and Lok toe experienced declining sales. lsen 6tors Check Up Corner 15-1 Management Process 1. Indicate whether the following statements are true or false: a. Managerial accounting information i s designed primarily t o meet the needs of external users such as shareholders, c reditors, and the general public. b. Managerial accounting reports must be prepared for the business as a whole. c. Operational planning develops short-term actions for managing the day-to-day operations of the company. 2. The four management processes are strategic planning, measurement, evaluation, and control. Match the following descriptions to the proper management process: Management Processes Description Strategic planning a. Take actions to encourage specific behaviors or outcomes Measurement b. Monitor operations by comparing actual and expected results Evaluation c. Develop and agree upon performance metrics on how well the Cont rol company is achieving its objectives d. Develop long-term objectives Solution: 1. a. False. The primary focus and design of managerial accounting information is t o meet the specific needs of a company's management. b. False. Managerial accounting reports do not have to be prepared for the business as a whole. Most management reports are prepared for products, projects, sales territories, or other segments ofthe company. c. True. Operational planning develops short-term actions f or managing the day-to-day operations of the company. In contrast, strategic planning develops long-term actions (strategies) to achieve the company's objectives. 2. Strategic planning: d. Develop long-term objectives Measurement: c. Develop and agree upon performance metrics on how well the company is achieving its objectives Evaluation: b. Monitor operations by comparing actual and expected results Control: a. Take actions to encourage specific behaviors or outcomes Busiess Insight force") clauses in contracts can be used to nullify contracts when such.,, events occur. Such cdauses are used when the normal operating plans Not According to Plan are disrupted by events beyond management control or expectation. For example, restaurants that temporarily dosed due to government here ar e times v e en the be st f p o lans g o aw ry S. omet i m es plans regulations against dine-in services may not be required to fulfill a are impacted by events outside of management control. For T rental agreement, as long as the contract included a force majeure example, the economic consequences of the pandemic caused lause. In other cases, a force majeure lause might not be sufficient by COVID-19 surprised management of small and large businesses to protect businesses. For example, restaurants that are able t o offer across the globe. Few management plans would be able to provide curbside pickup as an alternative to dine-in services could be deemed for such an extreme contingency. Force majeure (meaning "superior at least partially responsible for contract fulfillment. Coyne 20.Ce.gageLearn.g Alli%ht«leerved4Me6et be copied.edo ddiced i wee oi pet. De toe.econight,%ceethird pry004ayes.peed foe eloo lo echert bdoaviewheed0ha$0.pp000000do00400.ah0/0lg4pi0Cg.agelag4esovesthenigone000ea0008/ 000a.a 0.hf sq4ig4000000.ql 772 Chapter 15 Introduction to Managerial Accounting Objective 2 Manufacturing Operations Describe and illustrate the nature The operations of a business can be classified as service, retail, or manufacturing. Although the of manufacturing chapters of this text focus primarily on manufacturing and service businesses, most of the manage­ operations, including rial accounting concepts discussed also apply to retail businesses. different types and classifications of costs Nature of Manufacturing As a basis for illustration of manufacturing operations, a guitar manufacturer, Legend Guitars, i s used. Exhibit 4 is an overview of Legend's guitar manufacturing operations. Exhibit 4 Guitar-Making Operations of Legend Guit ars ° 52z » -= Guitar \ Bridge Customer Places Order Materials C ttu ing Assembly Fn i is hed Guitar Leg end's g ui ta - r ma ki ng proc ess be gins w hen a custo m er pl aces an order fo r a gui ta r. O ce th n e ord er i s accepted , th e ma nufacturin g process beg ins b y ob ta inin g th e n ece sary m te s a rials. An emplo yee then cuts the body and neck of the guitar out of raw lumber. Once the wood is cut, the body and neck of th e g ui tar a re ass embl ed. Wh en th e asse mbl y is com pl et , th e e guita r is paint ed and finish ed. Lile he Gibson provides tours of its Memphis guitar factory located at 145 Lt. George W. Lee Avenue. lsen 6tors Direct and Indirect Costs A co st is a sacrifice made to obta in so me be nefit. F or ex ample, cash (or cr edi ) t used t o pu rc ha se eq uipment is the cost of the e q uipment. I f e quipment i s purchased by exch a nging assets other th a n cash, the current mar k et value o f th e assets gi ven u p i s the cost o f the e q uipment purchased. In managerial accounting, costs are often assigned to a cost object. A cost object can be anything to which co sts are as sign ed an d will v ar y depending upo n the de ci sion -maki ng n eed s of ma nage ­ ment. For example, a cost object may be a product, a sales territory, a department, or an activity, such as research and development. Costs identified with cost objects are either direct costs or indirect costs. Direct costs are identified with and can be traced to a cost object. For example, as shown in E xhib i t 5 , the cost of wo od ( m a terials ) used by Le g e nd Guit ars in m anu facturi ng a g ui a t r i s a dire c t c ost of the gui ta r. Exhibit 5 Materials Cost Object: Guitar Direct Costs of Legend Guitars Direct Cost Cory.ride 90(engage Le asing. All igh eere4 M ot becopied cased or duplicated iwhole or in pat. Due to«electro«e nigh, sore third party otent ray be suppressed fro the e book ether( g experience.Cengage Learning nerves the ri iorial evirwhe denned th.%esp4ed cont.toes not mo.aerially affect th overall le.ri ght teoweaiion.al coot day ti e i f sh.quot ri ght re strictior requi re it  Chapter 15 Introduction to Managerial Accounting 773 Indirect costs are not identified with or traced to a cost object. For example, as shown in Exhibit 6, the salaries of the Legend Guitars production supervisors are indirect costs of pro­ ducing a guitar. Although the production supervisors contribute to the production of a guitar, their salaries cannot be identified with or traced to any individual guitar. Exhibit 6 Production Supervisor Cost Object: Guitar Indirect Costs of Legend Guitars , I "·-.... , · "direct cost Depending on the cost object, a cost may be either a direct or an indirect cost. For example, the salaries of production supervisors are indirect costs when the cost object is an individual guitar. If, however, the cost object is Legend Guitars' overall production process, then the salaries of pro­ duction supervisors are direct costs. This process of classifying a cost as direct or indirect is illustrated in Exhibit 7. Exhibit 7 Direct Cost Classifying Direct and Indirect Costs Identify the Determine If Traceabl cost object the cost can be 2 \ / Identified with and traced to the cost object Not - Traceable Indirect Cost.. Manufacturing Costs The cost of a manufactured product includes the cost of materials used in making the product. In addition, the cost of a manufactured product includes the cost of converting the materials into a finished product. For example, Legend Guitars uses employees (direct labor) and machines (factory overhead) to convert wood (direct materials) into finished guitars. Thus, as shown in Exhibit 8, the cost of a finished guitar (the cost object) includes the following: Direct materials cost Direct labor cost Factory overhead cost Copyright 203Cegage Learning. All Right Reserv ed My hot be copied. scanned, orduplicated. i whole or in pet. Due to electronic right s, sore third part y content ma y be suppressed f ro de eBook ad/or eChapter6 iteriareview ha deemed thatsuppressed ootent does not materially4feet the overall learning experience€engage Learning reserves the night to remove additional co.tentatay tire if sequent rights restriction require it 774 Chapter 15 Introduction to Managerial Accounting Exhibit 8 Manufacturing Costs of Legend Guitars Direct Materials Direct Labor Factory Overhead Direct Materials Cost Manufactured products begin with raw materials that are converted into finished products. The cost of any material that is an integral part of the finished product is classified as a direct materials cost. For Legend Guitars, direct materials cost includes the cost of the wood used in producing each guitar. Other examples of direct materials costs include the cost of electronic components for a television, silicon wafers for microcomputer chips, and tires for an automobile. For Legend, the cost of the glue used in the guitar is not a direct materials cost. This is because the cost of glue is an insignificant part of the total cost of each guitar and is difficult to trace accurately to a guitar. Instead, the cost of glue is classified as a factory overhead cost, which is discussed later. Direct Labor Cost Most manufacturing processes use employees to convert materials into finished products. The cost of employee wages that is an integral part of the finished product is classified as direct labor cost. For Legend Guitars, direct labor cost includes the wages of the employees who cut each guitar out of raw lumber and assemble it. Other examples of direct labor costs include mechanics' wages for repairing an automobile, machine operators' wages for manufacturing tools, and assemblers' wages for assembling a laptop computer. For Legend, the wages of the janitors who dean the factory are not a direct labor cost. This is because janitorial costs are not an integral part or a significant cost of each guitar. Instead, janito­ rial costs are classified as a factory overhead cost, which is discussed next. Pathways Challenge This is Accounting! Economic Activity Whether a specific expenditure is considered a direct cost or an indirect cost with respect to a cost object depends on a number of factors. While some costs are impossible to trace directly to the cost object, many costs can be traced directly, but doing so may not be economically feasible or justifiable given the benefits of direct tracing. In most cases, management subjec tive ly d e e t rmines wh e th e r to tr e at a cost as di e r ct or indir e ct. Larson & Company, PC , a regional CPA firm bas ed in U tah, bi ll s clie nts ba ed, i s n pa r, t on the costs incurr e d to serve the cl enti. Som e costs, such as b ill abl e pro e f ssional hours , are dire ct ly tr ac ed to client s and bille d accordingl y. Oth er costs , such as offi e c sup pli e , s ar e tre ate d as ind i er ct costs. The se costs ae r not traced dire y ctl to clients. ns e I t ad , the hourly p r of essional rate is s e t high e nou g h to pro vid e su fficie nt revenue to cover both direct and indirect costs. Critical Thinking/Judgment What are the effects of considering indirect costs when determining the hourly professional rate to charge clients? What happens if serving some clients requires more supplies (printed documents, folders, etc.) than other clients? Will Larson & Company's current billing practice capture this difference? Should Larson &Company consider directly tracing office supplies costs to clients? Suggested answer at end of chapter. Cory.ride 90(engage Le asing. All igh eere4 M ot becopied cased or duplicated iwhole or in pat. Due to«electro«e nigh, sore third party otent ray be suppressed fro the ebook ether( g experience.Cengage Learning nerves the ri iorial evirwhe denned th.%esp4ed cont.toes not mo.aerially affect th overall le.ri ght teoweaiion.al coot day ti e f i sh.quot ri ght re strictior requi re it  Chapter 15 Introduction to Managerial Accounting 775 Factory Overhead Cost Costs other than direct materials and direct labor that are incurred in the manufacturing process are combined and classified as factory overhead cost. Factory overhead i s sometimes called factory burden, manufacturing overhead, or simply overhead. All factory overhead costs are indirect costs of the product. Some factory overh ead costs include the following: Heating and lighting the factory Repairing a n d ma i n ta in in g factor y eq u i pm ent Property tax es on facto ry buildin g s and land Insurance on facto ry bu ildings Depreciation on factory plant and equipment F actor y ov e rhead cost also i n cl ud e s i nd i rect m at e ria ls and i n di rect labor costs that are not d i e tly r c trac e d to the fi n i he s d p od r uct. Ex am pl es i cl n ude the cost of g lue u e s d to ass e m b le g uitars and the wag es of j n a itor ial and su perv isor y em pl o yees. F or Legend Guitars, t h e cos ts of gu l e and jan i tor i al w g a es are facto ry o v erhead cos ts. A ddi ­ i t ona l factor y o v erhead costs of ma k ng gui i ta rs are as foll ow : s Sandpaper Buffing com po und Oil used to lubricate machines Power ( elec ricity) t t o run the machines Depreciation of t he mach i nes and build i g n Salaries of p rod uction su pervisors Prime Costs and Conversion Costs Direct mater i l , a s d i rect l bo a r, and factor y o v erhead costs may be grouped together for analysis and reporting. Two such common groupings are as foll ow : s Prime costs , w ic h h cons i st of di rect materials and d i rect labor costs Conversion costs, which consist of direct labor and factory overhead costs Conversion costs are the costs of converting the materials into a finished product. Direct labor is both a prime cost and a conversion cost, as shown in Exhibit 9. Exhibit 9 Prie Costs Prime Costs and Conversion Costs Direct Materials Direct Labor Factory Overhead Conversion Costs Product Costs and Period Costs For fi nan ci al re port i ng p u rp os e , co s sts ar e cl ass ifi ed as pro d u ct costs or pe ir od costs. r qu r s sg fi i v s m fac li nd ools, ll f wh ch r Business Insight e i e a i ni cant n e t ent in i ties a t a o i a e cl ssified a a s fac ory t v rhe d cos s As a result, factory o e a t. ov rh ad e e os s are c t