Management Accounting For Manufacturing And Service

Purpose of Production Costing System

Discuss about the Management Accounting for Manufacturing and Service.

It is very important for both the manufacturing and service providing organization to compute the cost of goods or services accurately. Cost of any product or services is the base of the its selling price and it is used for ascertaining the profit of the organization. According to AASB 102, the cost of inventories should include cost of purchase, cost of conversion and other costs, related to the inventories (Hart et al. 2012). Hence, it is very necessary to identify the proper expenses and allocate in the appropriate cost units for calculating the cost of purchase, cost of conversion and other production related cost. For example, a manufacturing company uses to purchase lot of items, but it should include only the purchase of raw materials in the cost of purchase. Purchase of other indirect materials must be included in the other production related costs.

Product costing system can be defined as the process of computing the cost of any product or service by allocating all the business expenses proportionately into total production cost. Thus, it helps to determine the cost of products in proper procedures as per the general concepts and the requirements of AASB.

Product costing system is not only adopted by the manufacturing units but also by service providing companies. It helps to determine the costs of both the product and services. Primarily, it seems that the only purpose of objective of the system is cost production cost determination. However, it helps the organization to fulfill other objectives also. The purposes or objectives of product costing systems can be classified into two groups – Primary Objectives and Secondary Objectives.

The primary objectives of production costing system can be stated as the basic reasons of implementing of production system method in any business firm. The primary objectives of production costing system are discussed below:

• Determination of Cost & Selling Price:

Product costing system is applied for determination of manufacturing cost of the products and services. As discussed above, production cost of any product or service is very essential for the business firms. Management cannot determine the proper selling prices of the product or service without accurate production cost and may lead to loss eventually (Kaplan and Atkinson 2015).

• Allocation of Expenses:

Product costing method is used to allocate the expenses under proper overheads. There are many expenses, which are not related to the production of the manufacturing of the product or service, rendered. It should be noted the basic cost of the business firm is its production cost. If the production cost is calculated higher by incorporating unrelated expenses, then it will lead to either higher selling price or gross loss. Therefore, it is very important to incorporate only those expenses, which are actually incurred for the production. Moreover, AASB also requires that the production cost should be calculated on the basis of the production related expenses only. Thus, production cost can be used to identify the actual expenses, incurred for production purpose and can help the business to determine the different overhead expenses accurately (DRURY 2013).

• Ascertainment of Selling Price and Profits:

Primary Objectives

As already stated above, production cost is base of selling price of any product or services. The business firms calculate the selling price by adding a certain percentage for profit and other non-production expenses on the production cost. For many firms, the selling price is determined on the basis of the competitors’ price or market price. In that case, through production cost helps the firm to ascertain the amount of profit. Moreover, as per the accounting methods, cost of production is used to calculate the gross profit by deducting the cost from the sales revenue. Gross profit is used further to ascertain the net profit of the firm. Apart from that, the gross profit is also used for various decision making purpose by the managers. Hence, it is not possible to determine the appropriate selling price or accurate profit without the production costing system.

Secondary objectives of the business firms for using the production cost system are related to management and decision making processes.

• Better Control:

As production cost is one of the major expenses of the business firms, management always try to control it properly. Production costing system can help the management to control the product costs more effectively. It provides the details of various production related costs, through which the firm can identify the expenses, that should be controlled immediately (Horngren et al. 2013).

• Budget Preparation:

The business firms maintain yearly or periodic budget for operating in more planned way. Production cost system can be proved to be very beneficial for preparing such budgets. The firms can obtain necessary information related to the various production related expenses through the system and forecast the future expenses accordingly.

• Increasing Efficiency Level:

The business firm can use the production costing system for increasing the efficiency level of various production levels. Production costing system allocates the various production expenses under various overheads or departments on basis of the nature of the expenses. The firms can analyze the expenses of various overheads or departments and compare it with the respective output levels of the departments. Thus, it can determine efficiency levels of the different departments and implement proper control system to increase the efficiency level. As product costing system provides the necessary data for such control system, it indirectly helps to increase the efficiency levels of the various departments.

• Decision Making:

Product costing system can provide many useful information to the management. The managers use the system to ascertain the various overhead expenditures. It can also be used for classifying the fixed expenses and variable expenses. Thus, it can be very helpful for calculating contribution margin and break even margin. Hence, by providing vital statistics, the product costing system helps the management in various decision-making process (Demski 2013).

Preparation of Schedule of Cost of Goods Manufactured and Cost of Goods Sold.

Secondary Objectives

Schedule of Cost of Goods Manufactured is the statement that exhibits the total production cost of the produced goods. It is prepared for ascertaining the actual manufacturing cost of the product, manufactured for a certain period.

The schedule includes various production related costs to compute the cost of goods manufactured and calculate it step-by-step. Primarily, the basic costs, required for any productions, are calculated by adding the amount of consumed direct material and direct labors, required for producing the products for a specified period. The total of direct material and direct labor is referred as prime cost. The prime cost is added with the factory overhead to determine the factory cost. Factory overhead includes various indirect expenses, related to production, and other factory related expenses.

Production is a continuous process. Therefore, at the end of certain period, there are many materials, which use to be still in production or partly completed. Such uncompleted materials are considered as work-in-progress. The units in work-in-progress at the beginning of a period get fully completed during the certain production period. On the other hand, in the end of the period, there are some units, left uncompleted. Hence, as the cost of goods manufactured is calculated for the fully complete products, it is necessary to adjust the opening and closing amount of work-in-progress to determine how much amount is spent for completing the partly completed products.

In the end, the cost of goods manufactured is determined by adjusting the net amount of work-in-progress with the factory cost.

Schedule of Costs of Goods Sold is prepared to calculate the total expenses, incurred for the sold units. It has been observed that in the end of any period, all the goods, produced are not sold completely and some units are left in the stock. Such unsold goods are referred as finished goods. Like cost of goods manufactured, it is very necessary to compute the cost of the total unit of goods sold. In the schedule of cost of goods manufactured, the total cost reflects the amount, incurred for the units, produced. As the gross profit is determined on the basis of the revenue, earned from sold goods and expenses, incurred for the sold goods, therefore, it is important to ascertain the cost of the units sold.

The cost of goods sold is determined by the adjusting the opening balance of finished goods with its closing balance and the net balance is then added with the cost of goods manufactured.

Schedule of Cost of Goods Manufactured

Cost of goods manufactured or cost of goods sold are the costs, which are directly or indirectly related with the production process of the product. Advertisement expenses are considered as marketing expenses, which is an indirect expense, incurred to increase the sales (Needles et al. 2013). Hence, it is not included in both the cost of goods manufactured and cost of goods sold. Moreover, Administrative (Sales) salaries, Depreciation of Sales Office, General Sales Liability Insurance, Sales Manager’s Salary and Travel and Entertainment (Sales) expense are directly or indirectly related to the sales activities, not with the production process. Hence, these expenses are also excluded from the schedules (Warren et al. 2013).

Completion of T-Accounts:

Cost of Goods Sold A/c..Dr.     $3550

To, Manufacturing Overhead A/c.   $3550

The business firms use to maintain prepare budgets for the future costs and outputs for better production process and control over the production levels. It has been observed that in many cases the amount of actual overhead expenses differ with the budgeted amounts (Needles and Crosson 2013).

The differences between the actual and budgeted overhead are categorized into two segments. When the actual overhead becomes higher than the budgeted amount, it is considered as under applied overhead. On the other hand, if the actual overhead remains lower the budgeted amount, then it is described as over applied overhead. The reasons for such differences are discussed below:

• Increase or decrease of actual output level
• Increase or decrease of actual consumption units of various cost factors, such as material, labor, energy etc.
• Increase or decrease of actual per unit costs of the cost factors (Maher et al. 2012)
• Inefficient manufacturing process, which leads to over consumption of various elements
• Manufacturing outputs more efficiently, which reduce the consumption level of various elements
• Strong budgetary control
• Implementation of advanced technology (Weygandt et al. 2015)

The journal entries for eliminating the differences are shown below:-

For under applied overhead:

Cost of Goods Sold A/c..Dr.

To, Manufacturing Overhead A/c.

For over applied overhead:

Manufacturing Overhead A/c.Dr.

To, Cost of Goods Sold A/c. (Needles et al. 2013)

Standard costing system is a popular costing process for implementing proper budgetary control over the production process. In this method, the opening balances of direct material, direct labor and manufacturing overhead are calculated on the basis of expected standard rates and expected standard consumption units (Drury 2013). The budgeted balances are then adjusted with the actual expenses, incurred for the cost elements. If any variance occurs between the actual and budgeted amount, the management gets aware of the situation immediately and can take proper measures for it (Ward 2012).

When the actual amount becomes lower than the budgeted amount, it is considered as favorable variance and for vice versa, the variance is treated as adverse variance.

The owners and managers of Seafarer Kayaks can enjoy the following benefits by implementing Standard Costing system for their production process:-

• Strong budgetary control over the cost elements
• Reconciling the actual expense with the budgeted expense in the record entry stage
• Identifying the reasons of variances not at the end of any financial period but within the period
• Implementing corrective measures at early stage of operation (Collier 2015)

Conclusion:

It is quite clear from the above discussion that in modern time, it is very important to maintain a proper product costing method. It not only provides the management to determine the cost of the products or services, but also helps in various decision-making processes. Therefore, the owners of Seafarer Kayaks should implement proper costing methods for continuing its manufacturing operations more efficiently.

References:

Collier, P.M., 2015. Accounting for managers: Interpreting accounting information for decision making. John Wiley & Sons

Demski, J., 2013. Managerial uses of accounting information. Springer Science & Business Media

Drury, C., 2013. Costing: an introduction. Springer

DRURY, C.M., 2013. Management and cost accounting. Springe

Hart, J., Wilson, C. and Fergus, C., 2012. Management Accounting: Principles & Applications. Pearson Higher Education AU

Horngren, C.T., Sundem, G.L., Schatzberg, J.O. and Burgstahler, D., 2013.Introduction to management accounting. Pearson Higher Ed

Kaplan, R.S. and Atkinson, A.A., 2015. Advanced management accounting. PHI Learning

Maher, M.W., Stickney, C.P. and Weil, R.L., 2012. Managerial accounting: An introduction to concepts, methods and uses. Cengage Learning

Needles, B.E. and Crosson, S.V., 2013. Managerial accounting. Nelson Education

Needles, B.E., Powers, M. and Crosson, S.V., 2013. Financial and managerial accounting. Nelson Education.

Needles, B.E., Powers, M. and Crosson, S.V., 2013. Principles of accounting. Cengage Learning

Ward, K., 2012. Strategic management accounting. Routledge

Warren, C.S., Reeve, J.M. and Duchac, J., 2013. Financial & managerial accounting. Cengage Learning

Weygandt, J.J., Kimmel, P.D. and Kieso, D.E., 2015. Financial & Managerial Accounting. John Wiley & Sons. Schedule of Cost of Goods Manufactured.

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