Chapter 1

Managerial Accounting
Concepts and Principles
The Meaning of Managerial Accounting

• Managerial accounting is providing accounting

information for a company’s internal users
• Is not bound by generally accepted accounting
principles (GAAP)
• Managerial accounting has three broad
objectives:
– To provide information for planning the organization’s
actions
– To provide information for controlling the
organization’s actions
– To provide information for making effective decisions
Financial Accounting and Managerial Accounting

• Financial Accounting provides information for

external users:
– Investors, creditors, customers, suppliers, government
agencies, and labor unions
– Financial accounting is historical:
– Investment decisions, stewardship evaluation, monitoring
activity, and regulatory measures
• Financial statements must follow rules defined by:
– Securities and Exchange Commission (SEC)
– Financial Accounting Standards Board (FASB)
– International Accounting Standards Board (IASB)
Financial Accounting and Managerial Accounting

• Managerial Accounting produces

information for internal users, such as
managers, executives, and workers
• Managerial Accounting identifies, collects,
measures, classifies, and reports financial and
nonfinancial information to internal users in
planning, controlling, and decision making
Comparison of Financial and Managerial Accounting

Financial Accounting Managerial Accounting

Externally focused Internally focused
Must follow externally imposed No mandatory rules
rules
Objective financial information Financial and nonfinancial
information; subjective information
possible
Historical Orientation Emphasis on the future
Information about the firm as a Internal evaluation and decisions
whole based on very detailed information
More self-contained Broad, multidisciplinary
 Types of Companies

Service Businesses Service

Delta Air Lines Transportation services
The Walt Disney Company Entertainment services

Merchandising Businesses Product

Wal-Mart Stores, Inc. General merchandise
Amazon.com Internet books, music, videos, …

Manufacturing Businesses Product

Ford Motor Company Cars, trucks, vans
Merck & Co., Inc. Pharmaceutical drugs
 Types of Costs Classifications

• Fixed vs Variable
• Direct vs Indirect
• Product vs Period
 Fixed vs Variable Costs
• Costs can be fixed or variable, and are analyzed with
respect to their behavior patterns, or the way in which a
cost changes when the level of the output changes.
– Variable cost: A variable cost is one that increases in
total as output increases and decreases in total as output
decreases
– Fixed cost: A fixed cost is a cost that does not increase
in total as output increases and does not decrease in
total as output decreases
 Direct Costs

• Direct costs are costs that can be easily and

accurately traced to a cost object
• When a cost is easy to trace, we mean that
the relationship between the cost and the
object can be physically observed, is easy to
track, and results in more accurate cost
assignments
 Indirect Costs

• Indirect costs are costs that cannot be

easily and accurately traced to a cost object
• Allocation means that an indirect cost is
assigned to a cost object by using a
reasonable and convenient method
• Allocating indirect costs is based on
convenience
 Product Costs and Period Costs
• Output represents one of the most
important cost objects
• Products are goods produced by
converting raw materials through the use
of labor and indirect manufacturing
resources, such as the manufacturing plant,
land, and machinery
– Televisions, hamburgers, automobiles,
computers, clothes, and furniture are examples
of products
 Product Cost
• Product (manufacturing) costs are costs,
both direct and indirect, of producing a
product in a manufacturing firm or of
acquiring a product in a merchandising
firm and preparing it for sale
– Only costs in the production section of the
value chain are included in product costs

– https://www.youtube.com/watch?v=3Wh9NYvfStk
 Product Cost
• Product costs are inventoried
• Product costs initially are added to an inventory
account and remain in inventory until they are
sold, at which time they are transferred to cost of
goods
• Product costs are classified as direct materials,
direct labor, and manufacturing overhead
• Product Cost
– Direct Materials
– Direct Labor
– Manufacturing Overhead
 Period Costs
• Costs of production are assets that are carried in
inventories until the goods are sold
• Other costs, such as period costs, are not carried
in inventory
– Period costs are all costs that are not product
costs (i.e., all areas of the value chain except for
production)
• Examples of period costs: Office supplies,
research and development activities, the CEO’s
salary, and advertising
• Period costs typically are expensed in the period in
which they are incurred
 Period Costs - Selling Costs
• Those costs necessary to market, distribute, and
service a product or service are selling costs
• Order-getting
EXAMPLES
Sales personnel Salaries & Commissions Advertising
• Order-Filling
EXAMPLES
Warehousing
Shipping
Customer Service
Period Costs - Administrative Costs
• Administrative costs include research, development,
and general administration of the organization and
cannot be assigned to either selling or production
• General administration ensures that the various
activities of the organization are integrated so that the
overall mission of the firm is realized
• Examples of general administrative costs are executive
salaries, legal fees, printing the annual report, and
general accounting
• Research and development costs are the costs
associated with designing and developing new
products and must be expensed in the period incurred
 Product Cost
• Product costs are inventoried
• Product costs initially are added to an inventory
account and remain in inventory until they are
sold, at which time they are transferred to cost of
goods
• Product costs are classified as direct materials,
direct labor, and manufacturing overhead
• Product Cost
– Direct Materials
– Direct Labor
– Manufacturing Overhead
 Direct Materials
• Direct materials are materials that are a
part of the final product and can be directly
traced to the goods being produced
• Materials cost can be directly charged to
products because physical observation can
be used to measure the quantity used by
each product
• Materials that become part of a product
usually are classified as direct materials
 Direct Labor
• Direct labor is the labor that can be
directly traced to the goods being produced
– Physical observation can be used to measure
the amount of labor used to produce a product
– Those employees who convert direct materials
into a product are classified as direct labor
• A company can also have indirect labor
costs
– Indirect labor is included in overhead and,
therefore, is an indirect cost rather than a direct
cost
 Manufacturing Overhead
• All product costs other than direct materials and direct
labor are considered manufacturing overhead
• Manufacturing overhead also is known as indirect
manufacturing costs
• Costs are included as manufacturing overhead if they
cannot be traced to the cost object of interest (e.g., unit
of product)
• Manufacturing overhead cost category includes a
variety of items
– Examples: depreciation on plant buildings and
equipment, janitorial and maintenance labor, plant
supervision, materials handling, power for plant
utilities, and plant property taxes
 Calculating Total Product Cost
• The total product cost equals the sum of direct
materials, direct labor, and manufacturing overhead:
Total Product (Manufacturing) Cost =
Direct Materials
+ Direct Labor
+ Manufacturing Overhead
• The unit product cost equals total product cost
divided by the number of units produced:
 Example: How to Calculate Product Cost in
Total and Per Unit
BlueDenim Company makes blue jeans. Last week, direct materials (denim,
thread, zippers, and rivets) costing $48,000 were put into production. Direct
labor of $30,000 (50 workers×40 hours×$15 per hour) was incurred.
Manufacturing overhead equaled $72,000. By the end of the week,
BlueDenim had manufactured 30,000 pairs of jeans.
Required:
1. Calculate the total product cost for last week.
Direct materials $48,000
Direct labor 30,000
Manufacturing overhead 72,000
Total product (manufacturing) costs $150,000

2. Calculate the cost of one pair of jeans that was produced last week.
$150,000 / 30,000 = $5.00
 Prime and Conversion Costs
• Product costs of direct materials, direct labor, and
manufacturing overhead can be grouped into prime
cost and conversion cost:
• Prime cost is the sum of direct materials cost and
direct labor cost:
– Prime Cost = Direct Materials
+ Direct Labor
• Conversion cost is the sum of direct labor cost and
manufacturing overhead cost:
– Conversion Cost = Direct Labor
+ Manufacturing Overhead
 Example: How to Calculate Product Cost in
Total and Per Unit
BlueDenim Company makes blue jeans. Last week, direct materials (denim,
thread, zippers, and rivets) costing $48,000 were put into production. Direct
labor of $30,000 (50 workers×40 hours×$15 per hour) was incurred.
Manufacturing overhead equaled $72,000. By the end of the week,
BlueDenim had manufactured 30,000 pairs of jeans.
Required:
1. Calculate the total prime cost for last week.
Direct materials $48,000
Direct labor 30,000
Total prime costs $78,000

2. Calculate the per-unit prime cost.

$78,000 / 30,000 = $2.60
 Example: How to Calculate Product Cost in
Total and Per Unit
BlueDenim Company makes blue jeans. Last week, direct materials (denim,
thread, zippers, and rivets) costing $48,000 were put into production. Direct
labor of $30,000 (50 workers×40 hours×$15 per hour) was incurred.
Manufacturing overhead equaled $72,000. By the end of the week,
BlueDenim had manufactured 30,000 pairs of jeans.
Required:
1. Calculate the total conversion cost for last week.
Direct labor $30,000
Manufacturing overhead 72,000
Total conversion costs $102,000

2. Calculate the per-unit conversion cost.

$102,000 / 30,000 = $3.40
Preparing Income Statements: Direct
Materials Used in Production
• The cost of direct materials used in production can be derived:
Beginning Inventory of Materials
+ Purchases
– Direct Materials Used in Production
= Ending Inventory of Materials
• So:
Beginning Inventory of Materials
+ Purchases
– Ending Inventory of Materials
= Direct Materials Used in Production
Example: How to Calculate the Direct Materials
Used in Production
BlueDenim Company makes blue jeans. On May 1, BlueDenim
had $68,000 of materials in inventory. During the month of May,
BlueDenim purchased $210,000 of materials. On May 31, materials
inventory equaled $22,000.
Required:
Calculate the cost of direct materials used in production for the
month of May.

Materials inventory, May 1 $ 68,000

Purchases 210,000
Materials inventory, May 31 (22,000)
Direct materials used in production $256,000
 Work-in-Process
• Once the direct materials are calculated,
the direct labor and manufacturing
overhead for the period are added to get
the total product cost for the period
• The second type of inventory—work in
process (WIP) is the cost of the partially
completed goods that are still on the
factory floor at the end of a time period
 Work-in-Process
• WIP units are units that have been started, but
are not finished; they have some value, but not
as much as they will when they are completed;
and there are beginning and ending inventories
of WIP
• We must adjust the total product cost for the
time period for the inventories of WIP
• After this adjustment, we will have the total cost
of the goods that were completed and
transferred from work-in-process inventory to
finished goods inventory during the current time
period which is the cost of goods manufactured
 Preparing Income Statements:
Cost of Goods Manufactured
• The direct materials Used in Production are then
used to calculate the cost of goods manufactured
as follows:

Direct materials Used in Production

+ Direct labor
+ Manufacturing overhead costs
Total product costs
+ Beginning WIP inventory
− Ending WIP inventory
= Cost of goods manufactured
 Preparing Income Statements:
Cost of Goods Manufactured
• The primary use of calculating the direct
materials used in production is to serve as
the first number in calculating the cost of
goods manufactured
• Direct materials used in production also
show managers the difference between the
amount of materials purchased and the
amount of materials used in manufacturing
for the period
 Example: How to Calculate Cost of Goods
Manufacture
• BlueDenim Company makes blue jeans. During the month of May,
BlueDenim purchased $210,000 of materials and incurred direct labor cost
of $135,000 and manufacturing overhead of $150,000. On May 31,
materials inventory equaled $22,000. Inventory information is as follows:
May 1 May 31
Materials $68,000 $22,000
Work in process 50,000 16,000
Direct materials used in production (earlier example) $256,000
Direct labor 135,000
Manufacturing overhead 150,000
Total product cost for May $541,000
WIP, May 1 50,000
WIP, May 31 (16,000)
Cost of goods manufactured $575,000
 Cost of Goods Sold
• Cost of goods sold represents the cost of goods
that were sold during the period and then
transferred from finished goods inventory on the
balance sheet to cost of goods sold on the income
statement (i.e., as an inventory expense). Cost of
goods sold is calculated as:

Beginning finished goods inventory

+ Cost of goods manufactured
− Ending finished goods inventory
= Cost of goods sold
 Example: How to Calculate Cost of
Goods Sold
BlueDenim Company makes blue jeans. During the month of May,
115,000 pairs of jeans were completed at a cost of goods manufactured
of $575,000 (from earlier example). Suppose that on May 1, BlueDenim
had 10,000 units in the finished goods inventory costing $50,000 and on
May 31, the company had 26,000 units in the finished goods inventory
costing $130,000.
Required:
1. Prepare a cost of goods sold statement for the month of May.
Cost of goods manufactured $575,000
Finished goods inventory, May 1 50,000
Finished goods inventory, May 31 (130,000)
Cost of goods sold $495,000
2. Calculate the number of pairs of jeans that were sold during May.
10,000 + 115,000 – 26,000 = 99,000
Income Statement: Manufacturing Firm
• It is important that all sales revenue and expenses
attached to a time period appear on the income
statement
• The heading of the financial statement tells us
what type of statement it is—Income Statement;
for what firm—BlueDenim Company; and for
what period of time—For the Month of May
• Also note that in the income statement, expenses
are separated into three categories: production
(cost of goods sold), selling, and administrative
• Sales revenue is calculated as:
Sales Revenue = Price × Units Sold
 Example: Income Statement for a
Manufacturing Firm
Recall that BlueDenim Company sold 99,000 pairs of jeans during the
month of May at a total cost of $495,000 (from earlier example). Each
pair sold at a price of $8. BlueDenim also incurred two types of selling
costs: commissions equal to 10% of the sales price and fixed selling
expense of $120,000. Administrative expense totaled $85,000.
Required:
Prepare an income statement for BlueDenim for the month of May.
 Example: Income Statement for a
Manufacturing Firm
Recall that BlueDenim Company sold 99,000 pairs of jeans during the
month of May at a total cost of $495,000 (from earlier example). Each
pair sold at a price of $8. BlueDenim also incurred two types of selling
costs: commissions equal to 10% of the sales price and fixed selling
expense of $120,000. Administrative expense totaled $85,000.
Required:
Prepare an income statement for BlueDenim for the month of May.
 Example: Income Statement for a
Manufacturing Firm
Recall that BlueDenim Company sold 99,000 pairs of jeans during the
month of May at a total cost of $495,000 (from earlier example). Each
pair sold at a price of $8. BlueDenim also incurred two types of selling
costs: commissions equal to 10% of the sales price and fixed selling
expense of $120,000. Administrative expense totaled $85,000.
Required:
Prepare an income statement for BlueDenim for the month of May.
 Example: Income Statement for a
Manufacturing Firm
Recall that BlueDenim Company sold 99,000 pairs of jeans during the
month of May at a total cost of $495,000 (from earlier example). Each
pair sold at a price of $8. BlueDenim also incurred two types of selling
costs: commissions equal to 10% of the sales price and fixed selling
expense of $120,000. Administrative expense totaled $85,000.
Required:
Prepare an income statement for BlueDenim for the month of May.
 Example: Income Statement for a
Manufacturing Firm
Recall that BlueDenim Company sold 99,000 pairs of jeans during the
month of May at a total cost of $495,000 (from earlier example). Each
pair sold at a price of $8. BlueDenim also incurred two types of selling
costs: commissions equal to 10% of the sales price and fixed selling
expense of $120,000. Administrative expense totaled $85,000.
Required:
Prepare an income statement for BlueDenim for the month of May.
 Example: Income Statement for a
Manufacturing Firm
Recall that BlueDenim Company sold 99,000 pairs of jeans during the
month of May at a total cost of $495,000 (from earlier example). Each
pair sold at a price of $8. BlueDenim also incurred two types of selling
costs: commissions equal to 10% of the sales price and fixed selling
expense of $120,000. Administrative expense totaled $85,000.
Required:
Prepare an income statement for BlueDenim for the month of May.
 Example: Income Statement for a
Manufacturing Firm
Recall that BlueDenim Company sold 99,000 pairs of jeans during the
month of May at a total cost of $495,000 (from earlier example). Each
pair sold at a price of $8. BlueDenim also incurred two types of selling
costs: commissions equal to 10% of the sales price and fixed selling
expense of $120,000. Administrative expense totaled $85,000.
Required:
Prepare an income statement for BlueDenim for the month of May.
 Example: Income Statement for a
Manufacturing Firm
Recall that BlueDenim Company sold 99,000 pairs of jeans during the
month of May at a total cost of $495,000 (from earlier example). Each
pair sold at a price of $8. BlueDenim also incurred two types of selling
costs: commissions equal to 10% of the sales price and fixed selling
expense of $120,000. Administrative expense totaled $85,000.
Required:
Prepare an income statement for BlueDenim for the month of May.
 Example: Income Statement for a
Manufacturing Firm
Recall that BlueDenim Company sold 99,000 pairs of jeans during the
month of May at a total cost of $495,000 (from earlier example). Each
pair sold at a price of $8. BlueDenim also incurred two types of selling
costs: commissions equal to 10% of the sales price and fixed selling
expense of $120,000. Administrative expense totaled $85,000.
Required:
Prepare an income statement for BlueDenim for the month of May.
 Example: Income Statement for a
Manufacturing Firm
Recall that BlueDenim Company sold 99,000 pairs of jeans during the
month of May at a total cost of $495,000 (from earlier example). Each
pair sold at a price of $8. BlueDenim also incurred two types of selling
costs: commissions equal to 10% of the sales price and fixed selling
expense of $120,000. Administrative expense totaled $85,000.
Required:
Prepare an income statement for BlueDenim for the month of May.
 DM
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