Lecture 1

Introduction to
Managerial Accounting

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 Learning Objectives
1. Describe the key differences between financial
accounting and managerial accounting.
2. Describe how managerial accounting is used in
different types of organizations to support the
key functions of management.
3. Explain the role of ethics in managerial decision
making.
4. Define and give examples of different types of
cost.
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 Accounting for Business Decisions
Business and
Evaluate
Financing Activities
the Run the
company company
Accounting
System
Produces

External Users Accounting Reports

Creditors Internal Users
Investors Financial Managerial Managers
Others Supervisors
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 Roles of Managerial Accounting
Decision-
Making
Orientation

The purpose of managerial accounting is to provide useful

information to internal managers to help them make
decisions that arise as they manage people, projects,
products, or segments of the business.

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Difference between Financial and
Managerial Accounting

Financial Managerial
Accounting Accounting
Users
Types of reports
Nature of info.
Frequency of reporting
Level of detail
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 Types of organizations

Manufacturing companies

Merchandising companies

Service companies

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 Functions of Management
Planning
Set short- and long-term
objectives (goals) and the
tactics to achieve them.

Control Organizing
Compare actual to budgeted Arrange the necessary
results. Take needed resources to carry out
corrective action. Provide the plan.
feedback for future plans.

Directing/Leading
Take actions to implement the
plan. Provide motivation to
achieve results. 7
Questions
• Suppose you have decided that you would like to
purchase a new home in 5 years. To do this, you
will need a down payment of approximately
$20,000, which means that you need to save
$350 each month for the next 5 years. This is an
example of
a. Directing
b. Control
c. Planning
d. Organizing.

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 Ethics and Internal Reporting
Managers are increasingly being held responsible for
creating and maintaining an ethical work environment
including the reporting of accounting information.

Ethics refers to the standards of conduct for judging right

from wrong, honest from dishonest, and fair from unfair.
Many situations in business require accountants and
managers to weigh the pros and cons of alternatives before
making final decisions.

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 Sarbanes-Oxley (SOX) Act of 2002
Incentive 1. Stiffer fines and
prison terms.

1. Internal control report

from management.
2. Stronger oversight by 1. Anonymous tip
directors. lines.
3. Internal control audit 2. Whistle-blower
by external auditors.
Sarbanes- protection.
3. Code of ethics.
Oxley

Opportunity Character
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 Role of Cost in Managerial
Accounting
Cost accounting is important of managerial
accounting since it provides information to
managers to:
– Control costs
– Make decisions
– Plan for future

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 Definition of Cost

Cost is the value of what is given up

(money, other assets, time, etc.) to
acquire something else of value.

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 Cost Classification

Relevance Out-of-pocket vs. opportunity costs

Traceability Direct vs. indirect costs

Behavior Fixed vs. variable costs

Function Manufacturing vs.

nonmanufacturing costs
Function
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 Relevant and Irrelevant Cost
Relevant cost:
• Cost that has the potential to influence decision
• Must meet both criteria:
– It must differ between the decision alternatives
(differential costs).
– It must be incurred in future, Not in the past
• 2 types: out-of-pocket and opportunity costs

Irrelevant cost:
• Cost that will not influence a decision.
• Ex: Sunk costs.
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 Classification by Relevance
Out-of-Pocket Costs
 A cost that involves an actual outlay of cash.
 Out-of-pocket costs should be considered in decisions.

 Relevant cost
Example: You plan on buying a new car for $25,000
next month. The cost of the new car is an out-of-
pocket cost because you can choose to spend the
$25,000 or not in the future

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 Classification by Relevance
Opportunity Costs
 The potential benefit lost by choosing a specific action
from two or more alternatives or the cost of NOT doing
something.
 Relevant cost
Example: If you were not attending college, you could
be earning $20,000 per year. Your opportunity cost
of attending college for one year is $20,000.

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 Sunk Costs are irrelevant
 All costs incurred in the past that cannot be avoided or
changed.
 Sunk costs should not be considered in decisions
Irrelevant cost

Example: You bought an automobile that cost $15,000

two years ago. The $15,000 cost is sunk because
whether you drive it, park it, trade it, or sell it, you
cannot change the $15,000 cost.

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 Classification by Traceability
Direct costs
 Costs that can be traced
directly to a specific cost
object.
 Examples: material and
labor cost for a product.
Indirect costs
 Costs that cannot be
traced to a specific cost
object or are not worth
the effort to do so.
 Example: maintenance
expenditures benefiting
two or more
departments.
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 Examples of Direct vs. Indirect Costs
Company Cost Object Direct Costs Indirect Costs
Supercuts Individual Stylist’s time Styling products,
Hair Salons haircut and receptionist’s service,
style depreciation on salon
equipment.

GAP Pair of blue Cost of the jeans, Store supervision, rent,

jeans commission paid to and inventory control.
salesperson
Dell Personal Cost of the Production supervision,
Company Computer components, wages of factory space, and
workers who assemble quality control.
the computer, and
delivery cost

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 Classification by Behavior
 Cost behavior means how a cost will react to
changes in the level of business activity.
 3 types: variable, fixed, and mixed costs

 Classification of costs by behavior is helpful

in cost-volume-profit analyses and short-term
decision making.

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 Classification by Behavior
Variable versus Fixed Costs

• Variable costs change, in total, in direct

proportion to changes in activity level.
• Fixed costs do not change in total
regardless of the activity level, at least
within some reasonable range of
activity.
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 Classification by Behavior
Variable Cost Behavior
Total Variable Costs

Unit Variable Costs

(materials)

Number of Pizzas Number of Pizzas

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 Classification by Behavior
Fixed Cost Behavior
Total Fixed Costs (rent)

Unit Fixed Costs

Number of Pizzas Number of Pizzas

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5-24

Variable Versus Full Absorption Costing

Full Absorption Costing Variable Costing
Purpose External Financial Reporting Internal Decision Making

Cost Manufacturing versus

Variable versus Fixed Costs
Classification Nonmanufacturing Costs
Income Sales Sales
Statement ‒ Cost of Goods Sold ‒ Variable Costs
Formulas = Gross Margin = Contribution Margin
‒ Nonmanufacturing Expenses ‒ Fixed Expenses
= Net Income from Operations = Net Income from Operations
Treatment of
Divided between Cost of Goods Expensed During the Period
Fixed
Sold and Ending Inventory Incurred
Overhead

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 Classification by function
• Manufacturing cost: costs incurred to produce a
physical product.
– Direct materials
– Direct labor
– Manufacturing overhead (indirect cost)

• Non-manufacturing cost: costs associated with selling

a product or services or running the overall business.
– Marketing or Selling Expenses
– General and Administrative Expenses

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 Classification by Function:
Manufacturing/Product Costs
Manufacturing costs are often
combined as follows:

Direct Direct Manufacturing

Materials Labor Overhead

Prime Conversion
Cost Cost 26
 Product vs. Period Costs
• GAAP requires manufacturing costs to be treated
as product costs and nonmanufacturing costs to
be expensed as period costs.
– Product costs:
• are assigned to a product as it is being produced.
• Accumulate in inventory accounts until the product is
sold.
– Period costs:
• Are reported as expenses as they are incurred.
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 Period and Product Costs
in Financial Statements
Balance Sheet Income
Manu. costs Statement
Direct materials Raw material
inventory

Direct labor
Work in process
inventory
M. Overhead
Cost of
Finished goods Goods Sold

Non-manu. costs

S&A expenses Period expenses

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 Potential Multiple Cost Classifications

Cost Item Behavior Traceability Function

Materials Variable Direct Product

Assembly Wages Variable Direct Product

Advertising Fixed Indirect Period

Production Manager's Salary Fixed Indirect Product

Office Depreciation Fixed Indirect Period

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5-30

Variable Versus Full Absorption Costing

Full Absorption Costing Variable Costing
Purpose External Financial Reporting Internal Decision Making

Cost Manufacturing versus

Variable versus Fixed Costs
Classification Nonmanufacturing Costs
Income Sales Sales
Statement ‒ Cost of Goods Sold ‒ Variable Costs
Formulas = Gross Margin = Contribution Margin
‒ Nonmanufacturing Expenses ‒ Fixed Expenses
= Net Income from Operations = Net Income from Operations
Treatment of
Divided between Cost of Goods Expensed During the Period
Fixed
Sold and Ending Inventory Incurred
Overhead

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Match the appropriate description on the right to the
terms on the left:
A. Costs that are incurred while
making a physical product, such as
1. Direct cost direct materials, direct labor, and
manufacturing overhead.
2. Sunk cost B. Costs that can be traced
3. Period cost conveniently and physically to a
4. Manufacturing cost specific cost object.
C. Costs that are expensed in the
period when they are incurred.
D. Costs that have already been
incurred and thus are not relevant
to future decisions.
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Questions
• If the number of units produced increases,
a. Unit variable costs will increase.
b. Unit fixed costs will decrease.
c. Total variable costs will remain the same.
d. Total fixed costs will increase.

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Questions
• Suppose you are trying to decide whether to sell
your accounting book at the end of the semester
or keep it for a reference book in future courses.
If you decide to keep the book, the money you
would have received from selling it is a(n):
a. Sunk cost.
b. Opportunity cost.
c. Out-of-pocket cost.
d. Indirect cost.

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Balance Sheet of a Manufacturer
Goods in
Raw Process Finished
Materials Goods

Manufacturing
Inventory
Classifications

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 Balance Sheet of a Manufacturer
MERCHANDISER MANUFACTURER

Current Assets Current Assets

 Cash  Cash
 Receivables  Receivables
 Merchandise Inventory  Inventories
Raw Materials
Goods in Process
Finished Goods

The only difference is inventory.

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Income Statement of a Manufacturer Exh.
18-11

Merchandiser Manufacturer

Beginning Beginning
Merchandise Finished Goods
Inventory Inventory
+ +
Cost of Goods The major Cost of Goods
Purchased difference Manufactured
_ _
Ending Ending
Merchandise Finished Goods
Inventory Inventory
Cost of Goods
= Sold =
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 Income Statement of a Manufacturer Exh.
18-12

Cost of goods sold for manufacturers differs only slightly

from cost of goods sold for merchandisers.
Merchandising Company Manufacturing Company
Cost of goods sold: Cost of goods sold:
Beg. merchandise Beg. finished
inventory $ 14,200 goods inv. $ 14,200
+ Purchases 234,150 + Cost of goods
= Goods available manufactured 234,150
for sale $ 248,350 = Goods available
- Ending for sale $ 248,350
merchandise - Ending
inventory (12,100) finished goods
= Cost of goods inventory (12,100)
sold $ 236,250 = Cost of goods
sold $ 236,250

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 Flow of Manufacturing Activities Exh.
18-15

Materials Production activity Sales activity

activity
Goods in Process Finished Goods
Raw Beginning Inventory Beginning Inventory
Materials
Beginning Cost of Goods
Inventory Direct Labor
Manufactured
(indirect)
Raw Factory
Materials Overhead Finished Cost
Purchases Goods of
Raw Materials
Used (direct) Ending Goods
Inventory Sold

Raw Materials Goods in Process

Ending Inventory Ending Inventory
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Manufacturing Statement

Let’s take a look at

Rocky Mountain
Bikes’
Manufacturing
Statement.

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 Manufacturing Statement
Summarizes the types and amounts of costs
incurred in a company’s manufacturing process.

Direct Materials Used

+ Direct Labor
+ Factory Overhead
= Total Manufacturing Costs
+ Beginning Work in Process
– Ending Work in Process
= Cost of Goods Manufactured 40
 Manufacturing Statement
ROCKY MOUNTAIN BIKES
Manufacturing Statement
For Year Ended December 31, 2008
Direct materials used in production $ 85,500
Direct labor 60,000
Total factory overhead costs 30,000
Total manufacturing costs for the period $ 175,500
Add: Beginning goods in process inventory 2,500
Total cost of goods in process $ 178,000
Deduct: Ending goods in process inventory 7,500
Cost of goods manufactured $ 170,500

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 Computation of Cost of Direct Material Used

Beginning raw materials inventory $ 8,000

Add: Purchases of raw materials 86,500
Cost of raw materials available for use $ 94,500
Deduct: Ending raw materials inventory 9,000
Cost of direct materials
ROCKY used in production
MOUNTAIN BIKES $ 85,500

Manufacturing Statement
For Year Ended December 31, 2008
Direct materials used in production $ 85,500
Direct labor 60,000
Total factory overhead costs 30,000
Total manufacturing costs for the period $ 175,500
Add: Beginning goods in process inventory 2,500
Total cost of goods in process $ 178,000
Deduct: Ending goods in process inventory 7,500
Cost of goods manufactured $ 170,500

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 Manufacturing Statement
Include all direct labor costs
incurred
ROCKYduring the current
MOUNTAIN BIKES
period.
Manufacturing Statement
For Year Ended December 31, 2008
Direct materials used in production $ 85,500
Direct labor 60,000
Total factory overhead costs 30,000
Total manufacturing costs for the period $ 175,500
Add: Beginning goods in process inventory 2,500
Total cost of goods in process $ 178,000
Deduct: Ending goods in process inventory 7,500
Cost of goods manufactured $ 170,500

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 Computation of Total Manufacturing Overhead

Indirect labor $ 9,000

Factory supervision 6,000
Factory utilities 2,600
Property taxes, factory building 1,900
Factory supplies usedROCKY MOUNTAIN BIKES 600
Factory insurance expired 1,100
Manufacturing Statement
Depreciation, building and equipment 5,300
For Year Ended December 31, 2008
Other factory overhead 3,500
Total factory
Direct overhead
materials usedcosts
in production $ 30,000 $ 85,500
Direct labor 60,000
Total factory overhead costs 30,000
Total manufacturing costs for the period $ 175,500
Add: Beginning goods in process inventory 2,500
Total cost of goods in process $ 178,000
Deduct: Ending goods in process inventory 7,500
Cost of goods manufactured $ 170,500

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 Manufacturing Statement
Beginning work in process
inventory is carried over
ROCKY MOUNTAIN BIKES
from the prior period.
Manufacturing Statement
For Year Ended December 31, 2008
Direct materials used in production $ 85,500
Direct labor 60,000
Total factory overhead costs 30,000
Total manufacturing costs for the period $ 175,500
Add: Beginning goods in process inventory 2,500
Total cost of goods in process $ 178,000
Deduct: Ending goods in process inventory 7,500
Cost of goods manufactured $ 170,500

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 Manufacturing Statement
Ending work in process inventory
contains the cost of unfinished
goods, and is reported in the current
ROCKY MOUNTAIN BIKES
assets section of the balance sheet.
Manufacturing Statement
For Year Ended December 31, 2008
Direct materials used in production $ 85,500
Direct labor 60,000
Total factory overhead costs 30,000
Total manufacturing costs for the period $ 175,500
Add: Beginning goods in process inventory 2,500
Total cost of goods in process $ 178,000
Deduct: Ending goods in process inventory 7,500
Cost of goods manufactured $ 170,500

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End of Lecture 01

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