MSE608C

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MSE608C Engineering and Financial Cost Analysis

• Introduction to Cost Accounting

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Cost Accounting

• Techniques that develop detailed information
  about the cost of products or services.
• Internal (Managerial Accounting) for
• budgeting,
• variance analysis and making a
• variety of business decisions.
• External (Financial Statements).
• Income Statement
• Cost of Goods Sold for Manufacturing operations
• Purchases for Merchandising and Service
  organizations
• Balance Sheet
• Inventory

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A Historical Perspective

• Pre-Industrial Revolution
• Luca Pacioli developed cost accounting techniques
  for cash budgeting and variance analysis.
• Most manufacturing was performed by craftsman who
  were paid piece-rate
• Minimal manufacturing overhead compared to labor
  and materials

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A Historical Perspective (cont)

• 19th Century Post-Industrial Revolution
• More capital investment and higher overhead,
  primarily in process industries
• Throughout the 1800s there were no well-defined
  cost accounting systems.
• Development of absorption and variable
  accounting methods to allocate fixed costs.
• Alexander Hamilton Church developed the
  machine-hour method for allocating fixed costs
  (land, building, equipment).

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An Historical Perspective (cont)

• Early 20th Century
• Increased capital investment in assembly
  industries.
• Variable costing method grew in acceptance but
  was still less commonly used than the Absorption
  costing method.

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An Historical Perspective (cont)

• End of 20th Century
• Congress established the Cost Accounting
  Standards Board in 1970 to standardize methods
  and reporting for defense contractors.
• President Reagan eliminated the CASB in 1982.
• Development of Activity-Based Costing (ABC)
  method.

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How Are Costs Classified???

• There are two methods used by the Cost Accountant
  to apply costs consistently
• Manufacturing or Non-manufacturing Costs
• This distinction determines if costs are
  associated with product or services or with
  support functions.
• Period or Product Costs
• This distinction used to determine when costs are
  expensed.

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Manufacturing Costs

• Manufacturing is the conversion of materials into
  finished goods.
• It requires
• Direct Labor
• Direct Material
• Overhead

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Direct Labor

• Wages and other payroll costs that can be
  directly associated with a unit of output.
• Commonly called Touch Labor
• Indirect Labor cannot be directly traced or
  cost-effectively associated with the product
  (included in Overhead).

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Direct Material

• All raw materials added during the conversion
  process
• become an integral part of the finished goods.
• Indirect Material
• difficult to determine the amount of some raw
  materials that are consumed during the conversion
  process for a specific product (included in
  Overhead)
• Prime Costs Direct Material Direct Labor

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Overhead

• All other factory costs required for production
  but are not directly associated with each unit of
  production.
• Indirect Labor
• Indirect Material
• Overhead

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Non-Manufacturing Costs

• Marketing and selling costs
• Required to get finished goods to customers.
• Administrative costs
• Required to provide the administrative function
  of the business.

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Product and Period Costs

• Emphasize the timing of expenses.
• Product Costs
• Costs that can be directly attached with
  Product and will be expensed when the product is
  sold (not necessarily the period they were
  incurred).
• Period Costs
• Costs not easily attached to product and will
  be expensed in the period in which they were
  incurred.

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Collecting Costs

• Job Order
• Production of individual or batches of many
  different types of products.
• Costs can be collected for independent orders.
• Process
• Continuous processing of a single type of product
  for relatively long periods of time.
• Costs can not be cost-efficiently collected for
  independent orders.

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Job Order Costing

• Costs for independent orders are charged to a
  Work Order, or Job number.
• Direct Labor
• Charged to the work order number using a time
  card, production traveler (a.k.a. router), or
  other type of time sheet.
• Direct Material
• Purchased directly to the Work Order number or
  will be issued from general inventory and charged
  to the job.
• Applied Overhead
• The Cost Accountant will determine the amount of
  factory overhead costs to apply to each Work
  Order usually based on the amount of labor
  hours, labor-wages, machine-hours or material
  costs.

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Process Costing

• Steps for determining Process costs
• 1) Identify the Processing Centers
• the processing activity is consistent for all the
  product and
• the output is homogeneous.
• 2) Accumulated labor, material and overhead costs
  for each Processing Center over a specific time
  period
• 3) Calculate the average cost per unit over that
  period of time.
• Average unit cost Total Costs/Number of units
  output

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Actual vs. Standard Costs

• Actual Costs
• The actual costs paid for resources used in the
  conversion processes.
• Evidenced by transaction documents.
• Standard Costs
• Predetermined costs assigned for each unit of a
  resource used in the conversion processes.
• Standards are established by
• Time studies
• Historical data and
• Educated guesswork.
• Standards are based on past results but must
  consider future events.

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Actual vs. Standard Costs (cont)

• Both systems have advantages and disadvantages.
• Standard Costing is the predominate system in
  business.

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Assessment

• What determines Manufacturing vs.
  Non-manufacturing Costs?
• What goes into Manufacturing Overhead?
• What is the difference in using Product versus
  Period Cost designation?
• What are the two ways to collect Costs?