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© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Management Accounting:
A Business Partner
Chapter
16

A c c o u n tin g s y s te m s h e lp to id e n tify
w h o h a s a u th o r ity o v e r a s s e ts .
A c c o u n tin g in fo r m a tio n s u p p o r ts
p la n n in g a n d d e c is io n -m a k in g .
A c c o u n tin g r e p o r ts p r o v id e a m e a n s o f
m o n ito r in g , e v a lu a tin g , a n d r e w a r d in g p e r fo r m a n c e .
M a n a g e m e n t a c c o u n t i n g a n d
a s s i g n i n g d e c i s i o n - m a k i n g a u t h o r i t y .
Basic Framework
Basic Framework

Comparing Financial Accounting
and Management Accounting
Comparing Financial Accounting
and Management Accounting

Cost of
goods
sold.
Cost of
goods
sold.
Direct labor and
manufacturing
overhead costs.
Direct labor and
manufacturing
overhead costs.
Direct
materials
costs.
Direct
materials
costs.
Steps in the Manufacturing Process:
Convert raw
materials into
finished goods.
Convert raw
materials into
finished goods.
Sell
finished
goods.
Sell
finished
goods.
Accounting for Manufacturing
Operations
Accounting for Manufacturing
Operations
Buy raw
materials.
Buy raw
materials.

Raw materials
& component
parts that
become an
integral part
of finished
products.
Can be traced
directly and
conveniently
to products.
Direct MaterialsDirect Materials
If materials cannot be traced directly to products,
the materials are considered indirect and are part
of manufacturing overhead.
If materials cannot be traced directly to products,
the materials are considered indirect and are part
of manufacturing overhead.

Includes the payroll cost of direct workers.Includes the payroll cost of direct workers.
Direct LaborDirect Labor
Those employees
who work directly
on the goods
being
manufactured.
Those employees
who work directly
on the goods
being
manufactured.

Includes the payroll cost of direct workers.Includes the payroll cost of direct workers.
The cost of
employees who do
not work directly on
the goods is
considered indirect
labor and is part of
manufacturing
overhead.
The cost of
employees who do
not work directly on
the goods is
considered indirect
labor and is part of
manufacturing
overhead.
Direct LaborDirect Labor
Those employees
who work directly
on the goods
being
manufactured.
Those employees
who work directly
on the goods
being
manufactured.

All manufacturing costs other than direct
materials and direct labor.
Includes:
Indirect materials.
Indirect labor.
Machinery and
equipment costs.
Cost of regulatory
compliance.
Includes:
Indirect labor.
Machinery and
equipment costs.
compliance.
Manufacturing OverheadManufacturing Overhead

Does not include
selling or general
and administrative
expenses.
Does not include
selling or general
and administrative
expenses.
Includes:
Indirect labor.
Machinery and
equipment costs.
compliance.
Includes:
Indirect labor.
Machinery and
equipment costs.
compliance.

The cost to
produce a unit of
product includes:
Direct material
Direct labor
Manufacturing
overhead
The cost to
produce a unit of
product includes:
Direct material
Direct labor
Manufacturing
overhead

The cost to
produce a unit of
product includes:
Direct material
Direct labor
Manufacturing
overhead
The cost to
produce a unit of
product includes:
Direct material
Direct labor
Manufacturing
overhead
Manufacturing overhead
must be mathematically
allocated to each unit of
product using a
predetermined overhead
application rate.
(This will be discussed
later in this chapter.)
must be mathematically
allocated to each unit of
product using a
predetermined overhead
application rate.
(This will be discussed
later in this chapter.)

Balance SheetBalance Sheet
Current assets
and inventory
Current assets
and inventory
Product Costs
(manufacturing
costs)
Income
Statement
Income
Statement
Revenue
COGS
Gross profit
Expenses
Net income.
Revenue
COGS
Gross profit
Expenses
Net income.
When goods
are sold.
When goods
are sold.
as
incurred
Period Costs
(operating
expenses and
income taxes.)
as
incurred
Product Costs Versus Period CostsProduct Costs Versus Period Costs

Raw materials - inventory on
hand and available for use.
Raw materials - inventory on
hand and available for use.
Work in
process -
partially
completed
goods.
Work in
process -
partially
completed
goods.
Finished
goods-
completed
goods awaiting
sale.
Finished
goods-
completed
goods awaiting
sale.
Inventories of a Manufacturing
Business
Inventories of a Manufacturing
Business

Direct
materials
purchased
Materials
Warehouse
Finished
goods
Finished goods
Warehouse
Goods
sold
Direct
materials
used
Factory
Direct labor &
The Flow of Physical GoodsThe Flow of Physical Goods

Direct
materials
purchased
Direct
materials
used
Cost of goods
manufactured
Cost of
Goods Sold
$$$
Materials
Inventory
$$$ $$$
Finished Goods
Inventory
$$$ $$$
Work in Process
Inventory
$$$ $$$
The Flow of Manufacturing CostsThe Flow of Manufacturing Costs
Direct labor &

Pure-Ice Inc. had $52,000 of inventory in
direct materials inventory on January 1,
2002. During the year, Pure-Ice
purchased $586,000 of additional direct
materials. At December 31, 2002, $78,000
of the direct materials were still on hand.
How much direct material was
placed into production during 2002?
Pure-Ice Inc. had $52,000 of inventory in
direct materials inventory on January 1,
2002. During the year, Pure-Ice
purchased $586,000 of additional direct
materials. At December 31, 2002, $78,000
of the direct materials were still on hand.
How much direct material was
placed into production during 2002?
The Flow of Manufacturing Costs
Example
Example

?
Example
Example

!
Example
Example

In addition to the direct materials, Pure-
Ice incurred $306,000 of direct labor cost
during 2002. Manufacturing overhead for
2002 was $724,000.
Pure-Ice started 2002 with $132,000 in
work in process. During 2002, units
costing $1,480,000 were transfered to
finished goods inventory.
What is the ending balance in work
in process at December 31, 2002?
In addition to the direct materials, Pure-
Ice incurred $306,000 of direct labor cost
during 2002. Manufacturing overhead for
2002 was $724,000.
Pure-Ice started 2002 with $132,000 in
work in process. During 2002, units
costing $1,480,000 were transfered to
finished goods inventory.
What is the ending balance in work
in process at December 31, 2002?
Example
Example

Example
Example

The overhead application rate expresses an
expected relationship between
manufacturing overhead costs and some
activity base related to the production
process.
The overhead application rate expresses an
expected relationship between
manufacturing overhead costs and some
activity base related to the production
process.
Overhead Application RatesOverhead Application Rates

Overhead costs are estimated based
on budgets and using mathematical
estimation techniques.
Overhead costs are estimated based
on budgets and using mathematical
estimation techniques.

The base is the activitiy that “drives” the
cost, called the cost driver.
Direct labor hours and machine hours are
commonly used cost drivers.
The base is the activitiy that “drives” the
cost, called the cost driver.
Direct labor hours and machine hours are
commonly used cost drivers.

Big “T” Company produces
engines for big trucks. Total
overhead for 2002 is estimated to
be $2,600,000. Big “T” applies
overhead based on machine hours.
Big “T” estimates machine hours
for 2002 to be 162,500 hours.
Compute Big “T’s”
predetermined overhead rate
for 2002.
Big “T” Company produces
engines for big trucks. Total
overhead for 2002 is estimated to
be $2,600,000. Big “T” applies
overhead based on machine hours.
Big “T” estimates machine hours
for 2002 to be 162,500 hours.
Compute Big “T’s”
predetermined overhead rate
for 2002.
Overhead Application Rates
Example
Example

Example
Example

Some companies use different cost drivers
for different manufacturing activities, a
process called ACTIVITY BASED COSTING.
Some companies use different cost drivers
for different manufacturing activities, a
process called ACTIVITY BASED COSTING.

A schedule of the cost
of finished goods
manufactured is
prepared to assist
managers in
understanding and
evaluating the overall
cost of manufacturing
products.
A schedule of the cost
of finished goods
manufactured is
prepared to assist
managers in
understanding and
evaluating the overall
cost of manufacturing
products.
Determining the Cost of Finished
Goods Manufactured
Determining the Cost of Finished
Goods Manufactured

The cost of goods
completed during
the period is used
to compute COGS
for the period.
The cost of goods
completed during
the period is used
to compute COGS
for the period.

The income
statement is
prepared
using
established
financial
accounting
procedures.

This is a great job, but
the overhead is killing
my profit margin!
End of Chapter 16End of Chapter 16

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