Understanding Managerial Accounting: Cost Classification and Break-Even Analysis | Appunti di Cost Accounting

Managerial Accounting

It is similar to Financial accounting, we are working with numbers and we collect, classify,

organise and report data. Now the audience is the company itself, mostly the management (from

the top management to the middle management and the operating management). !

We are talking about monetary/quantitative Information that are used at all level in the

Organization of one Organization. It’s an internal audience versus an external audience. !

If we have to address the management with this piece of Information, Will the information be

aggregated referred to the company or a bit more detailed? If I have to Address a production and

plant manager, do I tell him/her the net Financial position of a company, its indebtedness? I would

in General, but he/she doesn’t really need this information. He cares only about knowing the

goods needed to produce the product and how much is the unitary cost of the components.

We’re going from very aggregated measure of the company, overall to small detailed partial

measurement of Resources used versus profit margin realized, versus revenues realized of tiny

little pieces. We’re supporting the single unit of managers with important information.!

It’s a free format, we don’t have principles. We may have as many segmentation as we need, we

only care about what is suitable for our company. We look at Information (of particular interest, in

a particular instance and context) that are good and important for our company.!

We still have practices that are more or less correct, we have some methodologies (more or less

coherent with the particular Setting where we employ this kind of Information). Instead of

institutionalized uniform principles we have methodologies suggest by best practices.!

Only historical Information or also forward looking information?!

Suppose that we have to set a plan of purchases to establish the cost of purchases of raw

material, this Information Will reflect the future. We have past data but also estimated data. !

This accounting data have an influence on the audience addressed, so internally. !

Managerial emphasis is more on relevance, more then on verifiability and objectivity. The group

controller is one position below the CFO and he/she controls the number (= compute and

communicate those number to the relevant person), he/she says: “I don’t want to be correct, but I

want to start compute and feed this Information to attract the attention of the management on this

specific managerial issue packaging”. Packaging is a big deal, it’s always the same but it’s Activity

may change (Organization of operations). !

Precision vs. Timeliness => Financial accounting is focus on precision, not timeliness (statement

published at the end of the reporting period). Since we have to organize our Activity and cannot

be waiting months, we have to be more timely. The informations have to come as early as

possible. !

Subject => focused on segment report, the informations are more detailed.!

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Managerial Accounting

It is similar to Financial accounting, we are working with numbers and we collect, classify, organise and report data. Now the audience is the company itself, mostly the management (from the top management to the middle management and the operating management). We are talking about monetary/quantitative Information that are used at all level in the Organization of one Organization. It’s an internal audience versus an external audience. If we have to address the management with this piece of Information, Will the information be aggregated referred to the company or a bit more detailed? If I have to Address a production and plant manager, do I tell him/her the net Financial position of a company, its indebtedness? I would in General, but he/she doesn’t really need this information. He cares only about knowing the goods needed to produce the product and how much is the unitary cost of the components. We’re going from very aggregated measure of the company, overall to small detailed partial measurement of Resources used versus profit margin realized, versus revenues realized of tiny little pieces. We’re supporting the single unit of managers with important information. It’s a free format, we don’t have principles. We may have as many segmentation as we need, we only care about what is suitable for our company. We look at Information (of particular interest, in a particular instance and context) that are good and important for our company. We still have practices that are more or less correct, we have some methodologies (more or less coherent with the particular Setting where we employ this kind of Information). Instead of institutionalized uniform principles we have methodologies suggest by best practices. Only historical Information or also forward looking information? Suppose that we have to set a plan of purchases to establish the cost of purchases of raw material, this Information Will reflect the future. We have past data but also estimated data. This accounting data have an influence on the audience addressed, so internally. Managerial emphasis is more on relevance, more then on verifiability and objectivity. The group controller is one position below the CFO and he/she controls the number (= compute and communicate those number to the relevant person), he/she says: “I don’t want to be correct, but I want to start compute and feed this Information to attract the attention of the management on this specific managerial issue packaging”. Packaging is a big deal, it’s always the same but it’s Activity may change (Organization of operations). Precision vs. Timeliness => Financial accounting is focus on precision, not timeliness (statement published at the end of the reporting period). Since we have to organize our Activity and cannot be waiting months, we have to be more timely. The informations have to come as early as possible. Subject => focused on segment report, the informations are more detailed.

The managerial accounting is by no means mandatory, we have to organize it as we Think it’s more suitable. If we don’t have it we risk to NOT have our company under control, to lead the way and make sure that we reach the performance planned.

Work of Management

To produce data meaningful for the managerial Activity, we have to know what it implies.

Planning => identify a target or Objective, organize the timetable, etc.
Controlling => make sure that what we have organized goes according to plan, we have it under control
Decision making => identify the best solution based on a budget set. There’s always a lead person that looks at Information, organize and share the Information to get a feedback, it controls that everything is going according to the plan. If the plan cannot be respected, the Organizer finds solution and does a revise plan. How much should we budget? => we decide it based on what we did in the past, what we target in the future and based on the additional Informations that managerial accounting Will be able to support us with. It’s a detailed Information, it comes only if somebody has organized a data Collection for the prices.

Managerial accounting: planning, control and decision making

Measurement skills means having the framework to Measure phenomenon, to get the monetary data, to support planning, controlling and decision making.

Foglio excel

TABLE 1

To gather Information and make sense of what we need to gather, we need to know the business. If they do different things, the Analysis of the business we need to define and describes the segments. We can use to describe the company. Firstly we have to identify the customer

segments, who we want to serve makes a different (local and International students). Changes have a big impact. Customer needs, still divided in local and International. They may be looking for a university with a Selection of major or a university with the major of our interest. What are these customers looking for. Competitors, once we define customer identity and the customer needs we can define whose competing with us. Critical Factor of success, what we need to have to be successful in this business. For example, in universities the Quality of teaching, the Quality of Resources, an high employment rate of student (get employed fast). Costs structures, is it mainly variable or fixed? Which item of cost Will depend on volume? Ingredients. Which cost Will depend on the number of people? Soap, using of detergent to wash linens, not much. Explain what is variable and what is considered mainly fixed. Critical variables (KPIs), are key performance indicators. Number of stars on review, number of reservation, so the occupation. TABLE 2 On table 2, organize the data accordingly. We’ll find the total result of data, if they are increasing and decreasing. Then we break the total into the different categories to compute the: contribution margin, the segment margin and combined segment margin for each of the three segment. The contribution margin is the difference between revenues, consumption (variable cost) and rental (= noleggi), it’s variable cost. The contribution margin is the difference between revenues and all the variable costs. It gives us a first margin that depends on volume. It needs to be reduced or compared with the fixed costs, that we can specify segment by segment. We try to organize strategic Analysis consistent with a breakdown of Information, called “segmental PNL”. We can Detail some Information, whilst other cannot be detailed. We divided the table in segment of three different categories, we can identify the one that generate lower profits.

IDENTIFY AND GIVE EXAMPLES OF EACH OF THE THREE BASIC MANUFACTURING COST CATEGORIES. To answer the question: how much does it cost? We take into consideration this classification. Direct materials: are raw materials that a become an integral part of the production and are conveniently traced directly to it, ex: a radio installed in a car. Direct labor: all those labour that can be easily traced to invidiano units of product, ex: wages paid. Manufacturing overhead: all the cost that cannot be traced to the cost object, ex. Power. It included indirect material and direct labour costs. PRIME COSTS AND CONVERSION COSTS

NON MANUFACTURING COSTS Are all the costs of selling of example or what is implied in the sale fonte product. Administrative costs are operative costs that are needed to run the company, they could be either direct or indirect costs. Are typically the cost of the employees that work in administration. Typically these two type of costs are most frequently indirect. UNDERSTAND COST CLASSIFICATION USED TO PREPARE FINANCIAL STATEMENTS: PRODUCT COSTS AND PERIOD COSTS The cost of those products that haven’t been sold yet, is capitalised in the inventory, when the inventory will be sold the cost will appear in the PNL. Product costs typical coincide with manufacturing costs:

UNDERSTAND COST CLASSIFICATION USED IN MAKING DECISION: RELEVANT COST AND IRRELEVANT COSTS = framing the analysis. DIFFERENTIAL COSTS OPPORTUNITY COSTS SUNK COSTS (DOESN’T GENERATE A CASH OUTFLOW)

PREPARE INCOME STATEMENTS FOR A COMPANY SUING THE TRADITIONAL AND CONTRIBUTION FORMATS The non operating income can be represented in a different way in this example (in red). It’s up to the company (for managerial purposes) to use the criteria in the most suitable way for they decision making. Exercise 1-5 p. 51

Sunk cost
No one
No one
Differential cost
No one
Differential cost
Opportunity cost
Differential cost COST VOLUME PROFIT ANALYSIS (BREAK EVENT ANALYSIS) Break-even analysis is a small-business accounting process for determining at what point a company, or a new product or service, will be profitable. It's a financial calculation used to determine the number of products or services you must sell to at least cover your production costs. If we know the split between variables and fixed cost, we can compute the quantity of break even or the sales of break even, to report the profit( π )=0. This is the limit of losses, below this we are losing, its an important information because it’s a minimum requirement. The minimum requirement can be computed in terms of quantity or sales. It’s given by:

contribution fixed cost divided by contribution margin per unit OR
fixed cost divided by contribution margin percentage per unit. OR
Per unit price - variable cost per unit OR
contribution margin per unit divided by price per unit OR
contribution margin total divided by revenues. Each individual student brings a contribution margin to the university, we need at least 45, students to be able to recover all the university’s cost. If we do better we’ll gain, if we do worse we’ll lose, it’s less intuitive. The total amount of fixed cost is the fixed selling + fixed administrative = 17,000 / 30 = 1,60 is the COGS. The variable selling divided by 20,000 is equal to two, it means that we need 27,000-28,000 units. We are very safe in terms of profits.

Understanding Managerial Accounting: Cost Classification and Break-Even Analysis, Appunti di Cost Accounting

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Foglio excel

TABLE 1