L03 Relevant Costing S224.pptx

Module 03: Accounting, Behaviour and Control...

Module 03: Accounting, Behaviour and Control Relevant Costing Prepared by Yuni Yuningsih Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 1  ELECTRONIC WARNING NOTICE FOR COPYRIGHT STATUTORY LICENCES Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 2  Learning Objectives After studying this module, you should be able to: Describe the steps in the decision-making process, and the management accountant’s role in that process. Identify relevant information, including giving the appropriate treatment Prepare an income to sunk statement under costs absorption and opportunity costs. costing Select and analyse relevant information for some common decisions. ement under variable costing. Analyse manufacturing decisions involving joint products and limited resources. Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 3  The management accountant’s role in decision making Provide relevant information to managers to assist in decision making Are often members of cross- functional teams Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 4  Steps in the decision-making process Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 5  Tactical versus long-term decisions Tactical decisions - Short-term impact - Do not require significant changes in capacity-related resources Long-term decisions - More strategic in nature - Involve changes in capacity- related resources Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 6  Characteristics of relevant information Differs between the alternatives - Costs and benefits are different under competing courses of action. Relates to the future - Past costs are irrelevant as they cannot be changed by current or future actions (e.g. sunk costs). Provides balance between timeliness and accuracy - More accurate information may take longer to produce. Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 7  Importance of providing only relevant information in decision analysis Generating information is a costly process. Supplying irrelevant data to managers can lead to a waste of managerial resources. Information overload decreases the effectiveness of decision making. Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 8  Information for unique versus repetitive decisions Unique decisions - Arise infrequently or only once - Relevant information inside and outside the organisation Repetitive decisions - Made at regular or irregular intervals - May draw on a lot of historical data - Relevant information readily available Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 9  Identifying relevant costs and benefits: terminology Sunk costs Opportunity costs Out-of-pocket costs Incremental revenue Avoidable costs Unavoidable costs (cont.) Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 10  Accept or reject a special order A special order decision is concerned with whether or not to supply a customer with a single, one-off order. Managers consider whether spare (idle) capacity can be used to meet the special order. If spare capacity is not available, meeting the order will require using capacity that is usually used for regular products. Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 11  Relevant costs for special order decisions Focuses on the incremental costs and benefits. Several costs, such as fixed facility level costs, are usually irrelevant to the decision. When spare capacity exists, the relevant costs will usually be only the incremental costs associated with the special order. When the incremental revenues from a special order are in excess of the incremental costs of producing that order, then, on financial grounds, the order should be accepted. When there is no spare capacity, the same rule applies except that the opportunity cost of using the firm’s facilities for the special order is also relevant to the decision. Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 12  Accept or reject a special order - Example Andre, Incorporated, which has excess capacity, received a special order for 4,200 units at a price of $17 per unit. Currently, production and sales are anticipated to be 12,000 units without considering the special order. Budget information for the current year follows. Sales $ 240,000 Less: Cost of Goods Sold 186,000 Gross Margin $ 54,000 Cost of goods sold includes $30,000 of fixed manufacturing cost. Accept or Reject?? Cost of Goods Sold per unit = $186,000 − $30,000 = $156,000 ÷ 12,000 = $13.00; Special order: $17 − $13.00 = $4.00 margin per unit; $4.00 × 4,200 = $16,800 increase in income Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 13 Source: Hilton and Platt, Managerial Accounting: Creating Value in a Dynamic Business Environment, ed 13, McGraw-Hill, 2023.  Make or buy a product An organisation chooses to either produce or purchase the product from an external supplier. It must consider avoidable versus unavoidable costs. Opportunity costs are often relevant. Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 14  Make or Buy - Example Make or Buy? Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 15  Make or Buy - Example Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Blocher, Juras,Langfield-Smith, and Smith, CostSmith, Management: a Strategic Andon, Hilton, ThorneEmphasis, Management 9e,Accounting, Mc.Graw-Hill, 9e 2022. 16  Make or buy a product: considerations Treat fixed costs carefully Strategic issues - Quality of the outsourced product - Delivery responsiveness, technical capabilities, labour relations and financial stability of the supplier - Ability of the supplier to respect confidential information Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 17  Outsourcing decisions Part of a manufacturing process, or another function normally undertaken within an organisation, is contracted to an outside business Tends to be long-term decision rather than tactical ‘make-or-buy’ decision Difficult and costly to reverse Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 18  Add or delete a product, service or department Consider which costs and benefits will change if the decision is taken Has long-term implications Traditional accounting data containing cost allocations: treat with care Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 19  Add or Delete - Example Decrease by $2,550 Segment margin from Product Line C = Contribution margin − Avoidable fixed costs associated with Product Line C = $9,750 − $7,200 = $2,550. Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Blocher, Juras,Langfield-Smith, and Smith, CostSmith, Management: a Strategic Andon, Hilton, ThorneEmphasis, Management 9e,Accounting, Mc.Graw-Hill, 9e 2022. 20  Add or Delete - Example Desk Company has a product that it currently sells in the market for $40 per unit. Desk has developed a new feature that, if added to the existing product, will allow Desk to receive a price of $55 per unit. The total cost of adding this new feature is $32,000 and Desk expects to sell 1,900 units in the coming year. What is the net effect on next-year's operating income of adding the feature to the product? Net effect on operating income = incremental revenue − incremental costs = [($55 − $40) per unit × 1,900 units] − $32,000 (given) = $28,500 − $32,000 = $3,500 decrease in operating income Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 21 Blocher, Juras, and Smith, Cost Management: a Strategic Emphasis, 9e, Mc.Graw-Hill, 2022.  Add or delete a product, service or department: strategic issues What is the potential impact on other areas of the organisation? Will there be an impact on customers or staff morale? Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 22  Joint products: sell or process further Joint products - Two or more products that are produced simultaneously from one production process Split-off point - Stage in the production process where the two products are separately identifiable (cont.) Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 23  Joint products: sell or process further (cont.) Joint cost - Manufacturing costs incurred in the joint production process Relative sales value method - Joint costs are allocated to the joint products in proportion to their sales value at split-off point Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 24  Joint products - Example Cocoa beans are processed for all finished chocolate products. When the cocoa beans are finished, they can be used to produce two different finished products, cocoa butter and cocoa powder. The cocoa powder can then be sold as is, or, used to produce instant cocoa mix. Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 25 Source: Hilton and Platt, Managerial Accounting: Creating Value in a Dynamic Business Environment, ed 13, McGraw-Hill, 2023.  Joint Processing of Cocoa Beans Cocoa butter sales value $750 for Cocoa beans Joint Production 1,500 pounds costing $500 process costing Split-off point per ton $600 per ton Cocoa powder Separable sales value process Total joint cost: $500 for costing $1,100 per ton 500 pounds $800 Instant cocoa mix sales value $2,000 for 500 pounds Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 26 Source: Hilton and Platt, Managerial Accounting: Creating Value in a Dynamic Business Environment, ed 13, McGraw-Hill, 2023.  Joint Products Relative Sales Value Method $750 $750 ÷÷ $1,250 $1,250 == 60% 60% 60% 60% ×× $1,100 $1,100 == $660 $660 Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 27 Source: Hilton and Platt, Managerial Accounting: Creating Value in a Dynamic Business Environment, ed 13, McGraw-Hill, 2023.  Joint Products Cocoa butter is sold at the end of the joint processing. Cocoa powder may be sold now or processed into instant cocoa mix. Further processing costs of $800 will be incurred if the company elects to make instant cocoa mix. Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 28 Source: Hilton and Platt, Managerial Accounting: Creating Value in a Dynamic Business Environment, ed 13, McGraw-Hill, 2023.  Joint Products ( ) The cocoa powder should be processed into instant cocoa mix. Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 29 Source: Hilton and Platt, Managerial Accounting: Creating Value in a Dynamic Business Environment, ed 13, McGraw-Hill, 2023.  Decisions Involving Limited Resources Organizations typically have limited resources. Limitations on floor space, machine time, labour hours, or raw materials are common. Fixed cost often continue regardless of the decision, so maximizing the contribution margin is most often the appropriate decision. Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 30 Source: Hilton and Platt, Managerial Accounting: Creating Value in a Dynamic Business Environment, ed 13, McGraw-Hill, 2023.  Decisions Involving Limited Resources Martin, Inc. produces two products and selected data are shown below: Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 31 Source: Hilton and Platt, Managerial Accounting: Creating Value in a Dynamic Business Environment, ed 13, McGraw-Hill, 2023.  Decisions Involving Limited Resources There is excess capacity on other machines but the lathe is used 100% of the time in production. It is working at its maximum capacity, and is the scarce, or limited resource. Sometimes this is known as the bottleneck. The lathe capacity is 2,400 minutes per week. Should Martin focus its efforts on Webs or Highs? Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 32 Source: Hilton and Platt, Managerial Accounting: Creating Value in a Dynamic Business Environment, ed 13, McGraw-Hill, 2023.  Decisions Involving Limited Resources Let’s calculate the contribution margin per unit of the scarce resource, the lathe. Highs should be emphasized. It is the more valuable use of the scarce resource, the lathe, yielding a contribution margin of $30 per minute as opposed to $24 per minute for the Webs. Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 33 Source: Hilton and Platt, Managerial Accounting: Creating Value in a Dynamic Business Environment, ed 13, McGraw-Hill, 2023.  Decisions Involving Limited Resources Allotting the Scarce Resource – The Lathe Weekly demand for Highs 2,200 units Time required per unit x 0.50 minutes Time required to make Highs. 1,100 minutes Total lathe time available 2,400 minutes Time used to produce Highs 1,100 minutes Time available for Webs 1,300 minutes Time required per unit x 1.00 minute Production of Webs 1,300 units Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 34 Source: Hilton and Platt, Managerial Accounting: Creating Value in a Dynamic Business Environment, ed 13, McGraw-Hill, 2023.  Decisions Involving Limited Resources According to the plan, Martin will produce 2,200 Highs and 1,300 Webs. Martin’s contribution margin looks like this: The total contribution margin for Martin, Inc. is $64,200. Any other combination would result in less contribution Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 35 Source: Hilton and Platt, Managerial Accounting: Creating Value in a Dynamic Business Environment, ed 13, McGraw-Hill, 2023.  Incentives for decision makers Managers typically make decisions that will maximise their reported performance and rewards. Ideally systems should be designed to encourage managers to make decisions consistent with the organisation’s goals and strategies. Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 36  THANK YOU! Next week – Variance Analysis I (Direct Costs) Copyright © 2022 McGraw-Hill Education (Australia) Pty Ltd Langfield-Smith, Smith, Andon, Hilton, Thorne Management Accounting, 9e 37