week_1_chat

Report
Individual Project
Introduction to the Subject of the Project
Prepare income statements
for a merchandising
company using the
traditional and contribution
formats.
Contribution Approach Income
Statement
• The contribution approach income statement
organizes costs by behavior, first deducting
variable expenses to obtain contribution margin,
and then deducting fixed expenses to obtain net
operating income.
• The traditional approach organizes costs by
function, such as production, selling, and
administration. Within a functional area, fixed
and variable costs are intermingled.
• The contribution margin is total sales revenue
less total variable expenses.
The Traditional and Contribution
Formats
Used primarily for
external reporting.
Used primarily by
management.
Uses of the Contribution Format
The contribution income statement format is used as an
internal planning and decision-making tool. We will use
this approach for:
1.Cost-volume-profit analysis
2.Budgeting
3.Segmented reporting of profit data
4.Special decisions such as pricing and make-or-buy
analysis
Review Questions T/F
• 1. Traditional format income statements are
prepared primarily for external reporting
purposes.
Review Questions T/F
• True
Review Questions T/F
• 2. In a contribution format income
statement, sales minus cost of goods sold
equals the gross margin.
Review Questions T/F
• False
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3. In a traditional format income statement for
a merchandising company, the cost of goods
sold reports the product costs attached to the
merchandise sold during the period.
Review Questions T/F
• True
Review Questions T/F
• 4.Contribution format income statement is
useful for external reporting purposes, it has
serious limitations when used for internal
purposes because it does not distinguish
between fixed and variable costs.
Review Questions T/F
• False
Review Questions T/F
• 5. In a contribution format income statement
for a merchandising company, cost of goods
sold is a variable cost that gets included in
the "Variable expenses" portion of the
income statement.
Review Questions T/F
• True
Review Questions T/F
• 6. The traditional format income statement is
used as an internal planning and decisionmaking tool. Its emphasis on cost behavior
aids cost-volume-profit analysis,
management performance appraisals, and
budgeting.
Review Questions T/F
• False
Review Questions M/C
• 7.When finished goods are sold, there is an
increase in which of the following accounts?
• A- Finished Goods Inventory
• B- Cost of Goods Sold
• C- Work-in-Process Inventory
• D- Cost of Goods Manufactured
Review Questions M/C
• B
Explaining the Individual Project
• Part 1: Summarize what a contribution
format income statement depicts, as
compared to the traditional format.
• Please discuss
Explaining the Individual Project
• Part 2: Using the following company data, show
how the two income statement formats would look
side by side.
• Traditional- versus contribution-format statements
are as follows:
Traditional format
Sales
1.COGS
Gross margin
SG&A
Profit
Calculation of cost of goods sold
Variable
Variable cost as a 60% of sales (need to be calculated) +Fixed costs of manufacturing (given)
Explaining the Individual Project
Contribution format
Sales
2. Variable COGS
Other variable expenses
=Contribution margin
Fixed COGS
Other Fixed costs
=Profit
Variable COGS
Variable cost as a 60% of sales (need to be calculated)
Explaining the Individual Project
• Part 3: Explain why the contribution approach is more
useful to project profits. As an example, show your
calculations when using a projected sales increase of 20%.
• Please discuss and make the following calculation
Sales
Contribution margin
3. Fixed costs
Projected profit
3. Fixed cost =
Fixed costs of manufacturing + Fixed selling and administrative costs
Explaining the Individual Project
• Part 4: Using the following data, show how expected profits would be
different if there was a sales increase of 10% and she used variable COGS
of 50% vs. 60%. As an offset, this implies an increase in fixed COGS of
$1,000,000.
60% COGS
Sales with 10% increase
Less: Variable COGS
Less: Other variable costs
Contribution margin
Fixed COGS
Other fixed costs
Profit
50% COGS
WEEK 1 LECTURE
• Cost Accounting and Cost Concepts
Learning Objectives
• 1-Identify and give examples of each of the three
basic manufacturing cost categories.
• 2-Distinguish between product costs and period
costs and give examples of each.
• 3-Understand cost behavior patterns including
variable costs, fixed costs, and mixed costs.
• 4-Analyze a mixed cost using a scattergraph plot
and the high-low method.
• 5- Prepare income statements for a
merchandising company using the traditional and
contribution formats.
Learning Objective
• 6-Understand the differences between direct
and indirect costs.
• 7-Understand cost classifications used in
making decisions: differential costs,
opportunity costs, and sunk costs.
Classifications of Manufacturing Costs
Direct
Materials
Direct
Labor
The Product
Manufacturing
Overhead
Manufacturing Costs
• Direct materials are an integral part of a finished
product and their costs can be conveniently
traced to it.
• Indirect materials are generally small items of
material such as glue and nails. They may be an
integral part of a finished product but their costs
can be traced to the product only at great cost or
inconvenience.
• Direct labor consists of labor costs that can be
easily traced to particular products. Direct labor is
also called “touch labor.”
Manufacturing Costs
• Indirect labor consists of the labor costs of janitors,
supervisors, materials handlers, and other factory
workers that cannot be conveniently traced to
particular products. These labor costs are incurred to
support production, but the workers involved do not
directly work on the product.
• Manufacturing overhead includes all manufacturing
costs except direct materials and direct labor.
• Consequently, manufacturing overhead includes
indirect materials and indirect labor as well as other
manufacturing costs.
Learning Objective 1
Identify and give examples
of each of the three basic
manufacturing cost
categories.
Example of Direct Materials
Raw materials that become an
integral part of the product and that
can be conveniently traced directly
to it.
Example: A radio installed in an automobile
Example of Direct Labor
Those labor costs that can be easily
traced to individual units of product.
Example: Wages paid to automobile assembly workers
Example of Manufacturing Overhead
Manufacturing costs that cannot be easily
traced directly to specific units produced.
Examples: Indirect materials and indirect labor
Materials used to support the
production process.
Wages paid to employees who
are not directly involved in
production work.
Examples: lubricants and cleaning
supplies used in the automobile
assembly plant.
Examples: maintenance workers,
janitors, and security guards.
Example of Nonmanufacturing Costs
Selling
Costs
Administrative
Costs
Costs necessary to secure
the order and deliver the
product.
All executive,
organizational, and clerical
costs.
Review Questions T/F
• 1. Managerial accounting is primarily
concerned with the organization as a whole
rather than with segments of the
organization.
Review Questions T/F
• False
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• 2. Managerial accounting places less
emphasis on nonmonetary data than
financial accounting.
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• False
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• 3. Direct labor is a part of both prime cost
and conversion cost.
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• True
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• 4. Direct material cost combined with
manufacturing overhead cost is known as
conversion cost.
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• False
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• 5. Wages paid to production supervisors
would be considered direct labor.
Review Questions T/F
• False
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• 6. Advertising is a product cost as long as it
promotes specific products.
Review Questions T/F
• False
Review Questions M/C
• 7. For a lamp manufacturing company, the cost
of the insurance on its vehicles that deliver
lamps to customers is best described as a:
A. prime cost.
B. manufacturing overhead cost.
C. period cost.
D. differential (incremental) cost of a lamp.
Review Questions M/C
• C. period cost
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• 8. Manufacturing overhead consists of:
A. all manufacturing costs.
B. indirect materials but not indirect labor.
C. all manufacturing costs, except direct
materials and direct labor.
D. indirect labor but not indirect materials.
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• C. all manufacturing costs, except direct
materials and direct labor.
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• 9. Which of the following costs would not be
included as part of manufacturing overhead?
A. Insurance on sales vehicles.
B. Depreciation of production equipment.
C. Lubricants for production equipment.
D. Direct labor overtime premium.
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• A. Insurance on sales vehicles.
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10. Conversion cost consists of which of the
following?
A. Manufacturing overhead cost.
B. Direct materials and direct labor cost.
C. Direct labor cost.
D. Direct labor and manufacturing overhead cost.
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• D. Direct labor and manufacturing overhead
cost.
Learning Objective 2
Distinguish between
product costs and period
costs and give examples of
each.
Product Costs
• The three major elements of product costs in a
manufacturing company are
• 1.direct materials,
• 2.direct labor, and
• 3.manufacturing overhead.
• A product cost is any cost involved in purchasing or
manufacturing goods.
• In the case of manufactured goods, these costs consist of
direct materials, direct labor, and manufacturing overhead.
• A period cost is a cost that is taken directly to the income
statement as an expense in the period in which it is
incurred.
Examples of
Product Costs Versus Period Costs
Product costs include
direct materials, direct
labor, and
manufacturing
overhead.
Cost of Good Sold
Inventory
Period costs include all
selling costs and
administrative costs.
Expense
Sale
Balance
Sheet
Income
Statement
Income
Statement
Classifications of Costs
Manufacturing costs are often
classified as follows:
Direct
Material
Direct
Labor
Prime
Cost
Manufacturing
Overhead
Conversion
Cost
Review Questions T/F
• 11. Although depreciation is always a period
cost in a merchandising firm, it can be a
product cost in a manufacturing firm.
Review Questions T/F
• True
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• 12. In a manufacturing firm, all costs are
product costs.
Review Questions T/F
• False
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• 13. The cost of shipping parts from a supplier
is considered a product cost.
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• True
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• 14.The costs of acquiring inventory are
reported on the balance sheet as an asset
labeled “inventory” and are expensed only
when products are sold.
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• True
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• 15.The cost of selling goods and
administrative costs are reported on the
income statement as expenses when
inventory is sold.
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• False – The cost of selling goods and
administrative costs are reported on the
income statement as expenses when they are
incurred.
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• 16.Product costs are the costs related to
inventory and period costs are the costs
related to the selling and administrative
functions.
Review Questions T/F
• True
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• 17. Product costs are any costs that a
company incurs to acquire raw materials and
convert them to finished goods ready for
sale.
Review Questions T/F
• True
Review Questions M/C
• 18. The advertising costs that Pepsi incurred
to air its commercials during the Super Bowl
can best be described as a:
A. variable cost.
B. fixed cost.
C. product cost.
D. prime cost.
Review Questions M/C
• B. fixed cost.
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• 19. Each of the following would be a period
cost except:
A. the salary of the company president's
secretary.
B. the cost of a general accounting office.
C. depreciation of a machine used in
manufacturing.
D. sales commissions.
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• C. depreciation of a machine used in
manufacturing.
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• 20. Which of the following costs is an
example of a period rather than a product
cost?
A. Depreciation on production equipment.
B. Wages of salespersons.
C. Wages of production machine operators.
D. Insurance on production equipment.
Review Questions M/C
• B. Wages of salespersons.
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• 21. Which of the following would be considered a product
cost for external financial reporting purposes?
A. Cost of a warehouse used to store finished goods.
B. Cost of guided public tours through the company's
facilities.
C. Cost of travel necessary to sell the manufactured
product.
D. Cost of sand spread on the factory floor to absorb oil
from manufacturing machines.
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• D. Cost of sand spread on the factory floor to
absorb oil from manufacturing machines.
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• 22. Which of the following would NOT be
treated as a product cost for external
financial reporting purposes?
A. Depreciation on a factory building.
B. Salaries of factory workers.
C. Indirect labor in the factory.
D. Advertising expenses.
Review Questions M/C
• D. Advertising expenses.
Review Questions M/C
• 23. The salary of the president of a
manufacturing company would be classified
as which of the following?
A. Product cost
B. Period cost
C. Manufacturing overhead
D. Direct labor
Review Questions M/C
• B. Period cost
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• 24. Conversion costs do NOT include:
A. depreciation.
B. direct materials.
C. indirect labor.
D. indirect materials.
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• B. direct materials.
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25. The following costs were incurred in September:
Review Questions M/C
• Conversion costs during the month totaled:
A. $50,000
B. $59,000
C. $137,000
D. $67,000
Review Questions M/C
• A. $50,000
Conversion cost = Direct labor +
Manufacturing overhead
= $29,000 + $21,000
= $50,000
Review Questions M/C
26. The following costs were incurred in September:
Review Questions M/C
• Prime costs during the month totaled:
A. $79,000
B. $120,000
C. $62,000
D. $40,000
Review Questions M/C
• C. $62,000
Prime cost = Direct materials + Direct labor
= $39,000 + $23,000 = $62,000
Learning Objective 3
Understand cost behavior
patterns including variable
costs, fixed costs, and mixed
costs.
Cost Classifications for Predicting Cost
Behavior
Cost behavior refers
to how a cost will
react to changes in
the level of activity.
The most common
classifications are:
– Variable costs.
– Fixed costs
– Mixed costs.
Variable Cost
Total Texting Bill
Your total texting bill is based on
how many texts you send.
Number of Texts Sent
Variable Cost Per Unit
Cost Per Text Sent
The cost per text sent is constant at
5 cents per text message.
Number of Texts Sent
The Activity Base (Cost Driver)
Machine
hours
Units
produced
A measure of what
causes the incurrence
of a variable cost
Miles
driven
Labor
hours
Fixed Cost
Monthly Cell Phone
Contract Fee
Your monthly contract fee for your cell phone is
fixed for the number of monthly minutes in your
contract. The monthly contract fee does not
change based on the number of calls you make.
Number of Minutes Used
Within Monthly Plan
Fixed Cost Per Unit
Monthly Cell Phone Contract
Fee
Within the monthly contract portion, the average fixed cost
per cell phone call made decreases as more calls are
made.
Number of Minutes Used
Within Monthly Plan
Types of Fixed Costs
Committed
Discretionary
Long-term, cannot be
significantly reduced in the
short term.
May be altered in the
short-term by current
managerial decisions
Examples
Examples
Depreciation on Buildings
and Equipment and Real
Estate Taxes
Advertising and Research
and Development
Fixed Costs and the Relevant Range
For example, assume office space is available at a
rental rate of $30,000 per year in increments of 1,000
square feet.
Fixed costs would increase in
a step fashion at a rate of
$30,000 for each additional
1,000 square feet.
Relevant range
• The relevant range is the range of activity
within which assumptions about variable and
fixed cost behavior are valid.
• It is the range where the fixed cost remains
constant.
Cost Classifications for Predicting Cost
Behavior
Behavior of Cost (within the relevant range)
Cost
In Total
Per Unit
Variable
Total variable cost Increase
and decrease in proportion
to changes in the activity level.
Variable cost per unit
remains constant.
Fixed
Total fixed cost is not affected
by changes in the activity
level within the relevant range.
Fixed cost per unit decreases
as the activity level rises and
increases as the activity level falls.
Mixed Costs
• Mixed Costs
(also called semivariable costs).
• A mixed cost contains both variable and fixed
elements.
• Consider the example of utility cost.
Mixed Costs
The total mixed cost line can be expressed
as an equation: Y = a + bX
Where:
Y = The total mixed cost.
a = The total fixed cost (the
vertical intercept of the line).
b = The variable cost per unit of
activity (the slope of the line).
X = The level of activity.
Mixed Costs – An Example
If your fixed monthly utility charge is $40, your variable
cost is $0.03 per kilowatt hour, and your monthly activity
level is 2,000 kilowatt hours, what is the amount of your
utility bill?
Y = a + bX
Y = $40 + ($0.03 × 2,000)
Y = $100
Review Questions T/F
• 27. Differential costs can be either fixed or
variable.
Review Questions T/F
• True
Review Questions T/F
• 28. A fixed cost is constant per unit of
product.
Review Questions T/F
• False
Review Questions T/F
• 29. The variable cost per unit is constant and
does not depend on how many units are
produced.
Review Questions T/F
• True
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• 30. The cost of napkins put on each person's
tray at a fast food restaurant is a fixed cost.
Review Questions T/F
• False
Review Questions T/F
• 31. Direct material costs are generally
variable costs.
Review Questions T/F
• True
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• 32. Property taxes and insurance premiums
paid on a factory building are examples of
manufacturing overhead.
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• True
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• 33. Manufacturing overhead combined with
direct materials is known as conversion cost.
Review Questions T/F
• False
Review Questions T/F
• 34. All costs incurred in a merchandising firm
are considered to be period costs.
Review Questions T/F
• False
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• 35. Depreciation is always considered a
product cost for external financial reporting
purposes in a manufacturing firm.
Review Questions T/F
• False
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36. Selling and administrative expenses are
product costs under generally accepted
accounting principles.
Review Questions T/F
• False
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37. A variable cost is a cost whose cost per unit
varies as the activity level rises and falls.
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• False
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38. When the level of activity increases, total
variable cost will increase.
Review Questions T/F
• True
Review Questions T/F
• 39. A decrease in production will ordinarily
result in an increase in fixed production costs
per unit.
Review Questions T/F
• True
Review Questions M/C
• 40. Variable cost:
A. increases on a per unit basis as the number
of units produced increases.
B. remains constant on a per unit basis as the
number of units produced increases.
C. remains the same in total as production
increases.
D. decreases on a per unit basis as the number
of units produced increases.
Review Questions M/C
• B. remains constant on a per unit basis as the
number of units produced increases.
Review Questions M/C
41. Which of the following statements regarding
fixed costs is incorrect?
A. Expressing fixed costs on a per unit basis usually
is the best approach for decision making.
B. Fixed costs expressed on a per unit basis will
decrease with increases in activity.
C. Total fixed costs are constant within the relevant
range.
D. Fixed costs expressed on a per unit basis will
increase with decreases in activity.
Review Questions M/C
• A. Expressing fixed costs on a per unit basis
usually is the best approach for decision
making.
Review Questions M/C
• 42. The salary paid to the production
manager in a factory is:
A. a variable cost.
B. part of prime cost.
C. part of conversion cost.
D. both a variable cost and a prime cost.
Review Questions M/C
• C. part of conversion cost.
Review Questions M/C
• 43. Within the relevant range, variable cost
per unit will:
A. increase as the level of activity increases.
B. remain constant.
C. decrease as the level of activity increases.
D. none of these.
Review Questions M/C
• B. remain constant.
Review Questions M/C
44. The term "relevant range" means the range
of activity over which:
A. relevant costs are incurred.
B. costs may fluctuate.
C. production may vary.
D. the assumptions about fixed and variable cost
behavior are reasonably valid.
Review Questions M/C
• D. the assumptions about fixed and variable
cost behavior are reasonably valid.
Review Questions M/C
• 45. An example of a committed fixed cost is:
A. a training program for salespersons.
B. executive travel expenses.
C. property taxes on the factory building.
D. new product research and development.
Review Questions M/C
C. property taxes on the factory building.
Review Questions M/C
• 46. In describing the cost formula equation Y = a
+ bX, which of the following statements is
correct?
A. "X" is the dependent variable.
B. "a" is the fixed component.
C. In the high-low method, "b" equals change in
activity divided by change in costs.
D. As "X" increases "Y" decreases.
Review Questions M/C
• B. "a" is the fixed component.
Learning Objective 4
Analyze a mixed cost using
the high-low method.
The High-Low Method
• The high-low method uses only two points to
determine a cost formula. These two points
are likely to be less than typical because they
represent extremes of activity.
• The formula for a mixed cost is Y = a + bX.
• In cost analysis, the “a” term represents the
fixed cost and the “b” term represents the
variable cost per unit of activity.
The High-Low Method – An Example
The variable cost per
hour of maintenance
is equal to the change
in cost divided by the
change in hours.
$2,400
= $6.00/hour
400
The High-Low Method – An Example
Total Fixed Cost = Total Cost – Total Variable Cost
Total Fixed Cost = $9,800 – ($6/hour × 850 hours)
Total Fixed Cost = $9,800 – $5,100
Total Fixed Cost = $4,700
The High-Low Method – An Example
The Cost Equation for Maintenance
Y = $4,700 + $6.00X
Review Questions M/C
47. The following data pertains to activity and utility costs for two recent years:
Review Questions M/C
• Using the high-low method, the cost formula
for utilities is:
A. $1.50 per unit
B. $1.20 per unit
C. $3,000 plus $3.00 per unit
D. $4,500 plus $0.75 per unit
Review Questions M/C
• D. $4,500 plus $0.75 per unit
Review Questions M/C
Variable cost per unit = Change in cost  Change in activity
= $3,000  4,000 units
= $0.75 per unit
Fixed cost = Total cost - Variable cost element
= $12,000 - ($0.75 per unit  10,000 units)
= $12,000 - $7,500
= $4,500
Review Questions M/C
48. The following data pertains to activity and the cost of cleaning and maintenance for
two recent months:
Review Questions M/C
• The best estimate of the total month 1
variable cost for cleaning and maintenance is:
A. $300
B. $500
C. $800
D. $100
Review Questions M/C
• C. $800
• Cleaning and maintenance
Variable cost per unit = Change in cost  Change in
activity
= ($1,100 - $900)  (2,500 units - 2,000 units)
= $200  500 units
= $0.40 per unit
Total variable cost at 22,000 units = 2,000 units  $0.40
per unit
= $800
Review Questions M/C
49. The following data pertains to activity and costs for two months:
Review Questions M/C
• Assuming that these activity levels are within
the relevant range, the mixed cost for July
was:
A. $10,000
B. $35,000
C. $15,000
D. $40,000
Review Questions M/C
• C. $15,000
Variable cost per unit = $20,000  10,000 units = $2 per
unit
Total variable cost in July = $2 per unit  20,000 units =
$40,000 per unit
Fixed cost = $15,000 (given)
Total cost = Variable cost + Fixed cost + Mixed cost
$70,000 = $40,000 + $15,000 + Mixed cost
Mixed cost = $70,000 - ($40,000 + $15,000)
= $70,000 - $55,000
= $15,000
Review Questions M/C
• 50. At an activity level of 9,200 machine-hours in a
month, Nooner Corporation's total variable
production engineering cost is $761,300 and its total
fixed production engineering cost is $154,008. What
would be the total production engineering cost per
unit, both fixed and variable, at an activity level of
9,300 machine-hours in a month? Assume that this
level of activity is within the relevant range.
A. $98.42
B. $99.49
C. $99.31
D. $98.96
Review Questions M/C
• C. $99.31
Variable cost per unit = $761,300  9,200 units
= $82.75 per unit
Fixed cost per unit at 9,300 units = $154,008 
9,300 units = $16.56 per unit
Total cost = Variable cost + Fixed cost
= $82.75 per unit + $16.56 per unit
= $99.31 per unit
Review Questions M/C
• 51. At an activity level of 4,400 units in a month,
Goldbach Corporation's total variable maintenance
and repair cost is $313,632 and its total fixed
maintenance and repair cost is $93,104. What would
be the total maintenance and repair cost, both fixed
and variable, at an activity level of 4,600 units in a
month? Assume that this level of activity is within the
relevant range.
A. $420,992
B. $425,224
C. $415,980
D. $406,736
Review Questions M/C
• A. $420,992
Variable cost per unit = $313,632  4,400 units
= $71.28 unit
Total cost = Total fixed cost + Total variable
cost
= $93,104 + $71.28 per unit  4,600 units
= $93,104 + $327,888
= $420,992
Review Questions M/C
Inspection costs at one of Krivanek Corporation's factories are listed below:
Management believes that inspection cost is a mixed cost that depends on units produced.
Review Questions M/C
• 52. Using the high-low method, the estimate
of the variable component of inspection cost
per unit produced is closest to:
A. $3.15
B. $0.32
C. $3.40
D. $13.91
Review Questions M/C
• A. $3.15
Review Questions M/C
Variable cost per unit = Change in cost  Change in activity
= $293  93 units
= $3.15 per unit
Review Questions M/C
• 53. Using the high-low method, the estimate of
the fixed component of inspection cost per
month is closest to:
A. $8,743
B. $8,887
C. $8,683
D. $6,869
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• D. $6,869
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Review Questions M/C
• Variable cost per unit = Change in cost 
Change in activity
= $293  93 units
= $3.15 per unit
Total fixed cost = Total cost - Variable cost
element
= $9,036 - ($3.15 per unit  688 units)
= $9,036 - $2,167
= $6,869
Review Questions M/C
Glatt Inc., an escrow agent, has provided the following data concerning its office
expenses:
Review Questions M/C
• Management believes that office expense is a mixed cost that
depends on the number of escrows completed. Note: Real
estate purchases usually involve the services of an escrow
agent that holds funds and prepares documents to complete
the transaction.
54. Using the high-low method, the estimate of the variable
component of office expense per escrow completed is closest to:
A. $101.08
B. $59.12
C. $17.11
D. $17.15
Review Questions M/C
• C. $17.11
Review Questions M/C
Variable cost per unit = Change in cost  Change in activity
= $1,403  82 escrows
= $17.11 per escrow
Review Questions M/C
• 55. Using the high-low method, the estimate
of the fixed component of office expense per
month is closest to:
A. $6,692
B. $8,064
C. $7,376
D. $7,720
Review Questions M/C
• A. $6,692
Review Questions M/C
Variable cost per unit = Change in cost  Change in activity
= $1,403  82 escrows
= $17.11 per escrow
Total fixed cost = Total cost - Variable cost element
= $8,779 - ($17.11 per escrow  122 escrows)
= $8,779 - $2,087
= $6,692
Learning Objective 5
Prepare income statements
for a merchandising
company using the
traditional and contribution
formats.
Contribution Approach Income
Statement
• The contribution approach income statement
organizes costs by behavior, first deducting
variable expenses to obtain contribution margin,
and then deducting fixed expenses to obtain net
operating income.
• The traditional approach organizes costs by
function, such as production, selling, and
administration. Within a functional area, fixed
and variable costs are intermingled.
• The contribution margin is total sales revenue
less total variable expenses.
The Traditional and Contribution
Formats
Used primarily for
external reporting.
Used primarily by
management.
Uses of the Contribution Format
The contribution income statement format is used as an
internal planning and decision-making tool. We will use
this approach for:
1.Cost-volume-profit analysis
2.Budgeting
3.Segmented reporting of profit data
4.Special decisions such as pricing and make-or-buy
analysis
Review Questions T/F
• 56. Traditional format income statements are
prepared primarily for external reporting
purposes.
Review Questions T/F
• True
Review Questions T/F
• 57. In a contribution format income
statement, sales minus cost of goods sold
equals the gross margin.
Review Questions T/F
• False
Review Questions T/F
58. In a traditional format income statement
for a merchandising company, the cost of goods
sold reports the product costs attached to the
merchandise sold during the period.
Review Questions T/F
• True
Review Questions T/F
• 59.Contribution format income statement is
useful for external reporting purposes, it has
serious limitations when used for internal
purposes because it does not distinguish
between fixed and variable costs.
Review Questions T/F
• False
Review Questions T/F
• 60. In a contribution format income
statement for a merchandising company, cost
of goods sold is a variable cost that gets
included in the "Variable expenses" portion
of the income statement.
Review Questions T/F
• True
Review Questions T/F
• 61. The traditional format income statement
is used as an internal planning and decisionmaking tool. Its emphasis on cost behavior
aids cost-volume-profit analysis,
management performance appraisals, and
budgeting.
Review Questions T/F
• False
Review Questions M/C
• 62. Haar Inc. is a merchandising company. Last
month the company's cost of goods sold was
$61,000. The company's beginning merchandise
inventory was $11,000 and its ending
merchandise inventory was $21,000. What was
the total amount of the company's merchandise
purchases for the month?
A. $61,000
B. $51,000
C. $71,000
D. $93,000
Review Questions M/C
• C. $71,000
Review Questions M/C
• Purchases = Cost of goods sold + Ending
merchandise inventory - Beginning
merchandise inventory
= $61,000 + $21,000 - $11,000
= $71,000
Review Questions M/C
• 63.When finished goods are sold, there is an
increase in which of the following accounts?
• A- Finished Goods Inventory
• B- Cost of Goods Sold
• C- Work-in-Process Inventory
• D- Cost of Goods Manufactured
Review Questions M/C
• B
Review Questions M/C
• 64. Gabruk Inc. is a merchandising company.
Last month the company's merchandise
purchases totaled $88,000. The company's
beginning merchandise inventory was $15,000
and its ending merchandise inventory was
$13,000. What was the company's cost of goods
sold for the month?
A. $88,000
B. $90,000
C. $86,000
D. $116,000
Review Questions M/C
• B. $90,000
Cost of goods sold = Beginning merchandise
inventory + purchases - Ending merchandise
inventory
= $15,000 + $88,000 - $13,000
= $90,000
• A partial listing of costs incurred during
December at Gagnier Corporation appears below:
Review Questions M/C
Review Questions M/C
• 65. The total of the period costs listed above
for December is:
A. $89,000
B. $310,000
C. $325,000
• D. $399,000
Review Questions M/C
• B. $310,000
Period costs = Administrative wages and
salaries + Sales staff salaries + Corporate
headquarters building rent + Marketing
= $105,000 + $68,000 + $34,000 + $103,000
= $310,000
Review Questions M/C
• 66. The total of the manufacturing overhead
costs listed above for December is:
A. $325,000
B. $635,000
C. $89,000
D. $40,000
Review Questions M/C
• C. $89,000
Manufacturing overhead costs = Factory
supplies + Factory depreciation + Indirect
labor
= $8,000 + $49,000 + $32,000
= $89,000
Review Questions M/C
• 67. The total of the product costs listed above
for December is:
A. $310,000
B. $89,000
C. $635,000
D. $325,000
Review Questions M/C
• D-Product costs = Direct materials + Direct
labor + Manufacturing overhead
= $153,000 + $83,000 + $89,000
= $325,000
Learning Objective 6
Understand the differences
between direct and indirect
costs.
Assigning Costs to Cost Objects
Direct costs
Indirect costs
• Costs that can be
easily and
conveniently traced
to a unit of product
or other cost object.
• Costs that cannot
be easily and
conveniently traced
to a unit of product
or other cost object.
• Examples: direct
material and direct
labor
• Example:
manufacturing
overhead
Direct and Indirect Costs
Examples – Hotel Business
Cost
1. The salary of the head
chef
2. The salary of the head
chef
3. Room cleaning supplies
4. Flowers for the
reception desk
5. The wages of the
doorman
6. Room cleaning supplies
7. Fire insurance on the
hotel building
8. Towels used in the gym
Cost Object
The hotel’s restaurant
Direct
Cost
X
Indirect
Cost
A particular restaurant
customer
A particular hotel guest
A particular hotel guest
X
A particular hotel guest
X
X
X
The housecleaning
department
The hotel’s gym
X
The hotel’s gym
X
X
Note: The room cleaning supplies would most likely be considered an
indirect cost of a particular hotel guest because it would not be practical
to keep track of exactly how much of each cleaning supply was used in
the guest’s room.
Review Questions M/C
The following cost data pertain to the operations of Swestka Department Stores, Inc., for
the month of July.
Review Questions M/C
• The Northridge Store is just one of many stores owned
and operated by the company. The Cosmetics
Department is one of many departments at the
Northridge Store. The central warehouse serves all of
the company's stores.
• 68. What is the total amount of the costs listed above
that are direct costs of the Cosmetics Department?
A. $74,000
B. $36,000
C. $31,000
D. $40,000
Review Questions M/C
• D. $40,000
Review Questions M/C
• Direct costs of the Cosmetics Department =
Cosmetics Department sales commissions +
Cosmetics Department cost of sales +
Cosmetics Department manager's salary
= $5,000 + $31,000 + $4,000
= $40,000
Review Questions M/C
• 69. What is the total amount of the costs
listed above that are NOT direct costs of the
Northridge Store?
A. $40,000
B. $34,000
C. $141,000
D. $78,000
Review Questions M/C
• C. $141,000
Costs that are not direct costs of the
Northridge Store = Corporate headquarters
building lease + Corporate legal office salaries
+ Central warehouse lease cost
= $78,000 + $57,000 + $6,000
= $141,000
Review Questions M/C
The following cost data pertain to the operations of Mancia Department Stores, Inc., for the
month of February.
Review Questions M/C
• The Brentwood Store is just one of many
stores owned and operated by the company.
The Shoe Department is one of many
departments at the Brentwood Store. The
central warehouse serves all of the company's
stores.
Review Questions M/C
• 70. What is the total amount of the costs
listed above that are direct costs of the Shoe
Department?
A. $80,000
B. $88,000
C. $130,000
D. $92,000
Review Questions M/C
• D. Direct costs of the Shoe Department = Shoe
Department cost of sales + Shoe Department
sales commissions + Shoe Department
manager's salary
= $80,000 + $8,000 + $4,000
= $92,000
Review Questions M/C
• 71. What is the total amount of the costs
listed above that are NOT direct costs of the
Brentwood Store?
A. $152,000
B. $92,000
C. $79,000
D. $38,000
Review Questions M/C
• A-Costs that are not direct costs of the
Brentwood Store = Corporate legal office
salaries + Corporate headquarters building
lease + Central warehouse lease cost
A= $62,000 + $79,000 + $11,000
= $152,000
Learning Objective 7
Understand cost
classifications used in
making decisions:
differential costs,
opportunity costs, and sunk
costs.
Cost Classifications for Decision
Making
• Every decision involves a choice
between at least two alternatives.
• Only those costs and benefits
that differ between alternatives
are relevant in a decision. All
other costs and benefits can and
should be ignored as irrelevant.
Differential Cost and Revenue
Costs and revenues that differ
among alternatives.
Example: You have a job paying $1,500 per month in your
hometown. You have a job offer in a neighboring city that
pays $2,000 per month. The commuting cost to the city is
$300 per month.
Differential revenue is:
$2,000 – $1,500 = $500
Differential cost is:
$300
Opportunity Cost
The potential benefit that is
given up when one alternative
is selected over another.
Example: If you were
not attending college,
you could be earning
$15,000 per year.
Your opportunity cost
of attending college for
one year is $15,000.
Sunk Costs
Sunk costs have already been incurred and
cannot be changed now or in the future.
These costs should be ignored when
making decisions.
Example: Suppose you had purchased gold for $400 an
ounce, but now it is selling for $250 an ounce. Should you
wait for the gold to reach $400 an ounce before selling it?
You may say, “Yes” even though the $400 purchase is a
sunk costs.
Review Questions T/F
• 72. Automation results in a shift away from
variable costs toward more fixed costs.
Review Questions T/F
• True
Review Questions T/F
• 73. In order for a cost to be variable it must
vary with either units produced or units sold.
Review Questions T/F
• False
Review Questions T/F
• 74. The concept of the relevant range does
not apply to fixed costs.
Review Questions T/F
• False
Review Questions T/F
• 75. Indirect costs, such as manufacturing
overhead, are always fixed costs.
Review Questions T/F
• False
Review Questions T/F
• 76. Discretionary fixed costs arise from
annual decisions by management to spend in
certain fixed cost areas.
Review Questions T/F
• True
Review Questions T/F
• 77. Even if operations are interrupted or cut
back, committed fixed costs remain largely
unchanged in the short term because the
costs of restoring them later are likely to be
far greater than any short-run savings that
might be realized.
Review Questions T/F
• True
Review Questions T/F
• 78. Committed fixed costs are fixed costs that
are not controllable.
Review Questions T/F
• False
Review Questions T/F
• 79. mixed cost is partially variable and
partially fixed.
Review Questions T/F
• True
Review Questions M/C
• Temblador Corporation purchased a machine 7
years ago for $319,000 when it launched product
E26T. Unfortunately, this machine has broken
down and cannot be repaired. The machine could
be replaced by a new model 330 machine costing
$323,000 or by a new model 230 machine costing
$285,000. Management has decided to buy the
model 230 machine. It has less capacity than the
model 330 machine, but its capacity is sufficient
to continue making product E26T.
Review Questions M/C
• Management also considered, but rejected,
the alternative of dropping product E26T and
not replacing the old machine. If that were
done, the $285,000 invested in the new
machine could instead have been invested in a
project that would have returned a total of
$386,000.
Review Questions M/C
• 80. In making the decision to buy the model
230 machine rather than the model 330
machine, the differential cost was:
A. $34,000
B. $38,000
C. $4,000
D. $67,000
Review Questions M/C
• B. $38,000
• Differential cost = $323,000 - $285,000 =
$38,000
Review Questions M/C
• 81. In making the decision to buy the model
230 machine rather than the model 330
machine, the sunk cost was:
A. $319,000
B. $386,000
C. $285,000
D. $323,000
Review Questions M/C
• A. $319,000
The $319,000 cost of the old machine is a
sunk cost.
Review Questions M/C
• 82. In making the decision to invest in the
model 230 machine, the opportunity cost
was:
A. $386,000
B. $319,000
C. $285,000
D. $323,000
Review Questions M/C
• A. $386,000
The $386,000 return from alternative
investment is an opportunity cost.

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