1.1 The different fields in accounting

Financial accounting – provides a scorecard by which the past performance of a business is judged in the form of the financial statements which are used by stakeholders outside the organisation
Managerial accounting – reports are prepared for managers and other users inside the organisation

1.2 The importance of managerial accounting in the management of an enterprise

The four essential functions of management:

1. Planning – identifying ways of attaining goals and the resources needed in the process of reaching the goals
2. Organising – developing a framework or organisational structure and putting measures in place to ensure that the resources are in place to reach the set goals
3. Leading – directing the human resources of the organisation and motivating employees in such a way that their actions are in line with previously formulated goals and plans
4. Controlling – check that performance and actions conform to plans to reach the predetermined goals. Control makes it possible for management to identify any deviations from these plans, rectify these deviations and if
   needed, revise the goals and plans

1.3 Classification of costs

Classification of costs according to their nature

• Manufacturing, factory or production costs ( direct material, direct labour and manufacturing overheads)
• Commercial costs or non-manufacturing (administrative and marketing costs)

Classification of costs according to the elements of manufacturing costs

• Direct materials (examples, wood for furniture, leather for shoes and leather for tyres)
• Direct labour (example, machine operators)
• Manufacturing overheads (examples, glue, screws, staples, nails, maintenance and repairs, wages and salaries of factory supervisors, depreciation of plant and equipment)

Classification according to cost behaviour

• Variable costs- vary with the level of output. The variable cost per unit is constant.
• Fixed costs- remains constant regardless of changes in the level of output. The fixed cost per unit decreases with an increase in production.
• Semi-variable costs – contain both elements of fixed and variable costs.

Classification costs for decision making

Relevant costs – future costs that will be changed by a decision. Example petrol costs, cost of raw materials
Opportunity costs – potential benefits sacrificed when one alternative is chosen over another. Example, the opportunity cost of studying is the leisure forgone. Opportunity costs are not quantifiable in monetary terms.
Sunk costs– costs that have already been incurred as a result of past decisions and do not influence decision making. Example cost of machinery bought last year.

Classification of costs as product and period costs

Product costs – costs that are identified with the product manufactured. Include –direct labour, direct material and manufacturing overheads.

Period costs – costs that are not included in product costs. They are treated as expenses in the income statement in the period in which they are incurred.

2.1 Inventory concepts

1. Direct material (Raw material or primary material) – the basic material that is converted during the production process
2. Work-in-progress (incomplete work or half-finished) – materials which have already entered the production process and to which some labour and overhead costs have been added but which is not yet completed and is therefore not ready to be sold
3. Finished goods (completed goods) – is the product becomes available for sale after the production process has been completed

2.2 Terminology

1. Normal stock – is a material which is in the process of production is about to enter the production process or has just been completed
2. Buffer stock – is material which forms a buffer between production and usage where production is constant, but where the supply of raw material takes place irregularly
3. Safety stock – is similar to buffer stock but is more extensive as it is specifically aimed at ensuring that the enterprise can continue with production as usual if a specific raw material is not delivered within the normal delivery time
4. Speculative stock – is stock held for financial reasons such as an expected substantial rise in the price of the stock in the near future
5. Stock in transit – stock which has already been ordered and paid for but still in the process of delivery
6. Overstocking – the amount of stock held is not justified by the volume of inventory needed for production

2.3 Activity- based costing (ABC)

ABC – is a cost model used to assign manufacturing overheads to different products produced by a manufacturing entity based
on the premise that products consume activities, and activities consume resources which incur costs.

ABC assists in reducing product cost distortion by creating a cost pool for activities that can identified as cost drivers and then
assigning overheads to products based on the actual number of separate activities they require for completion.

By reducing cost distortion and enabling more precise product cost estimation,an organisation can obtain a better understanding
of product cost and profitability by:

• Identifying inefficient and unnecessary costs and activities
• Identifying profitable products and activities, to allocate more resources to them
• Facilitating improved product control and pricing
• Identifying and eliminating products that are unprofitable
• ABC is based on the concept that products consume activities and activities consume resources.

2.4 The four – step ABC system

The step-by-step ABC costing approach can be summarised as follows:
Step 1: Process Value Analysis (PVA)
Identify the activities – such as purchasing of materials – that consume resources and assign costs to them.
Step 2: Identify the cost driver (s)
After the PVA analysis has been completed, the cost driver (s) with each activity must be determined .
Step 3: Compute a cost rate per cost driver unit or transaction
The cost driver rate could be the could be the cost per purchase order, for example. each activity could have multiple cost drivers.
Step 4: Assign cost to products
This is done by multiplying the cost driver rate times the volume of cost driver units consumed by the product

2.5 Cost-Volume- Profit Analysis

CVP analysis enables management to plan and cope with planning decisions.

Underlying assumptions

• Costs and revenue exhibit a linear behaviour throughout a given activity range
• Costs can be accurately classified as either fixed or variable
• Costs are affected by changes in activity levels
• There is a short-term planning period
• All units produced are sold
• When a company sells more than one product type, the sales mix remains constant

Break-even analysis

• Break-even analysis determines the break-even point, that is, the level of sales where profits are Rnil (total revenue = total cost)
• Break-even point (units) = fixed costs/ unit contribution margin
• Break-even point (sales) = fixed costs/ unit contribution ratio

Margin of safety
Margin of safety indicates the extent to which sales can decrease before a loss will be incurred, and can be expressed as a percentage of sales

Margin of safety = budgeted sales volume – break-even sales volume

1. Terms

Direct or raw materials: Recorded in asset account. Examples – Leather, wood, flour, cement etc.

Work-in-process inventory: Shows the cost of raw materials, labour and factory overheard already paid. Examples – wood used + salaries + rent

Finished goods: Indicates the production costs of finished goods manufactured during the period. 

2. The production cost statement

The production statement is the most widely used and summarised statement of manufacturing costs. The statement consists of:

• Direct materials (cost of raw materials used)
• Direct labour
• Manufacturing overheads

3. Direct material costs

The formula for calculating direct material costs in the Institute of Certified Bookkeepers CMGT exam is as follows:

Opening raw materials

Add: Net purchases

Add: Freight on raw material purchases

Add: Import duties

Less: Closing inventory

4. Direct labour costs

In the Institute of Certified Bookkeepers CMGT exam, you will need to know the formula for calculating direct labour costs. It is as follows:

Factory wages

Add: Pension fund contributions paid by employer

Add: Medical aid contributions paid by employer

Add: UIF contributions paid by employer

5. Factory overhead costs

Students studying with the Institute of Certified Bookkeepers are required to know how to calculate the factory overhead costs. The following formula could be of assistance:

Indirect labour

Add: Security expense: Factory

Add: Rent expense: Factory

Add: Insurance expense: Factory

Add: Telephone expense: Factory

Add: Indirect material

Add: Depreciation: Factory machinery

You will have noticed that overheads are incurred in the factory.  If you are given a question which includes both factory and administrative overheads, focus only the factory overheads to determine your factory overhead costs.

6. Apportionment of overheads

There are three methods that can be used to apportion overheads:

• The direct method
• The ‘step’ method
• The linear algebraic method

7. Predetermined overhead rates

Actual manufacturing overhead costs is the actual or real cost of overheads to the manufacturing enterprise
Budgeted manufacturing overhead costs: This is the total amount of overheads as expressed in the budget of the manufacturing enterprise
Allocated or applied manufacturing overheads: these overhead costs allocated to the production process during the manufacturing period according to a predetermined rate

1. Introduction

A budget can be described as a financial plan of action to achieve specific performance goals over a specified time of period. It represents a plan for the future expressed in formal numerical terms. The process of setting budgets is known as budgeting.

The budget period could be anything from one week, one month or even one to five years.

2. The functions of budgets and budgetary control

Budgets serve as a planning tool

Because budgets are forward looking, they ensure that management plan for the future. The budgeting process helps management identify the limitations under which an organization operates. It helps managers plan the effective use of resources in order to achieve the set objectives. It also encourages management to foresee problems and plan for them before they happen.

Budgeting helps to coordinate resources and activities

Medium to large organisations are divided into various departments. Each of these departments deal with an organisation’s various business functions. Through budgeting, these functions can be merged and integrated into a single plan. A plan helps to coordinate all the resources and activities into achieving a set of short- and long-term objectives.

Budgets help to communicate objectives to all levels of management
Budgets show how resources are allocated to different divisions. This helps management to control the use of these resources.

Budgets can be used to evaluate performance
Management can compare the actual results with the budget. This helps the managers to evaluate the performance of the individual divisions and of the organisation as a whole. It also helps them to evaluate the achievability of the set objectives and to change plans if necessary.

3. The master budget

A master budget is a summary of an organisation’s plans that sets specific targets for sales, production, distribution and financing activities. The master budget represents a comprehensive expression of management’s plans for the future and how these plans are to be accomplished. It covers the following:

• operating decisions, which deal with obtaining and using scarce resources such as materials, labour and equipment
• financing decisions, which deal with how to obtain the funds required for the resources

4. The operating budget

The operating budget comprises the following:

• The sales budget
• The production budget
• The direct materials usage and direct materials purchases budgets
• The direct labour budget
• The manufacturing overhead budget
• The cost of goods sold budget
• Other nonproduction cost budgets

5. The financial budget

The financial budget includes the following:

• The cash budget
• The capital budget
• The budgeted statement of comprehensive income and statement of financial position

6. The sales budget

The revenue budget is the cornerstone of budget preparation. Any of the other budgets, production, materials purchases and expenses, can only be completed once the expected sales levels are known. If the revenue budget is inaccurate, the other
budget estimates will also be unreliable.

6. The production budget

Once the revenue budget has been completed, the sales plan contained in it is matched with inventory policies and the production budget is completed. The number of units to be produced is determined as follows:
Budgeted production = budgeted sales + desired closing inventory – desired opening inventory

7. The direct materials usage budget

The production budget is the point of departure for the preparation of the direct materials budget. Direct materials are all those materials that can be physically identified with a specific product.

8. The direct materials purchases budget

Once the quantity of raw materials required to meet the production requirements has been determined, the materials purchases budget can be prepared. This budget is a combination of both the usage and purchases budget.

9. The direct labour budget

The production budget also serves as a starting point for the direct labour budget. Direct labour consists of those labour costs that can be specifically traced to a particular product.

10. The manufacturing overheads budget

Manufacturing or factory overheads consist of all manufacturing costs other than the direct materials cost and direct labour cost. These overheads therefore include all indirect labour and material costs, as well as other indirect manufacturing costs.

11. Flexible budgeting

A master budget provides a comprehensive view of anticipated operations. Such a budget is typically a static budget and is developed in detail for one level of anticipated activity. Such a budget is referred to as a fixed budget. Budgets may also be drawn up for a series of possible production and sales volumes or adjusted to a particular level of production. These budgets, which are based on different levels of activity, are known as flexible budgets, and are used to determine what costs should have been for an attained volume of activity.

12. Standard costing

Uses of standard costing

• Serves as a yardstick against which actual costs can be measured
• Draws attention to aspects which are not being controlled efficiently, and this could give rise to cost reduction programmes
• Reduces clerical work

Advantages of standard costing

• Standard costing provides a benchmark against which actual costs can be measured
• It helps management to determine prices and formulate policies
• Standard costing also provides information on variances which management can analyse

13. Different types of standards

Ideal standards
These are the highest standards that can be achieved under perfect operating conditions.

Basic standards
Basic standards are constant standards which have not changed over a long period.

Currently attainable standards
These are standards that can be met or even bettered, as they take into account factors such as lost time, spoilage or wastage of materials.

14. Material variances

Material price variance

(Standard price – actual price) x actual quantity purchased

Material issue price variance

(Standard price – actual price) x actual quantity issued

Material issue price variance

(Standard quantity – actual quantity) x standard price

15. The possible causes of material quantity (usage) variance

Possible causes of unfavourable variance 

• Inferior quality material resulting in poorer output
• Inefficient production department
• Machine breakdowns or faulty machines

Possible causes of favourable

• Efficient production department
• The usage of materials of supreme quantity
• Highly skilled workforce

16. Labour variances

Labour rate variance

(Standard rate – actual rate) x actual hours

Possible causes of unfavourable variance

• Incorrect standards (set too high)
• Unexpected wage increases
• Higher rates paid because of higher skilled
  workers

Possible causes of favourable

• Incorrect standards (set too low)

Labour efficiency variance

(Standard hours – actual hours) x standard rate

Possible causes of unfavourable variance

• Lack of skilled workers taking longer to complete their jobs
• The use of poor quality materials

Possible causes of favourable

• The use of materials of superior quality
• Well-maintained machinery

17. Fixed overheads variance

Fixed overheads variance

(Actual fixed overheads – budgeted fixed overheads)

Possible causes of unfavourable variance

• Actual overhead cost higher than expected

Possible causes of favourable

• Actual overhead cost lower than expected

1. Introduction

In a job costing system costs are accumulated and categorised per job.  A job is a group (number of units) of similar products that are manufactured as a batch. Direct material and direct labour are tracked at their actual values.  It is appropriate where heterogeneous products are manufactured using the same manufacturing facilities. All costs are recorded on a job card or job sheet. Job costing systems are used in the construction industry, furniture and general motor repair shops

2. Steps involved in job costing

Step 1: allocation – allocate overheads costs to various functional areas
Step 2: Primary apportionment – apportion the overhead costs to the various departments
Step 3: Secondary apportionment – re-apportionment the overhead costs incurred by service departments to the various production departments that have made use of their service
Step 4: Calculate the total overhead costs – total the overhead costs for each production department
Step 5: Calculate the overhead absorption rate – calculate the overhead absorption rates for each production department involved in the production process

3. Ledger accounts in a job costing system

Material control account: The account records the movements (purchases and issues) of material.

Work-in-progress account (Production control account): Is a summary of all the movements (materials received from stores, labour, allocated overheads applied and finished goods transferred).

Finished goods: Records the movement of goods received from production and costs of goods sold.

Labour control account: Is used to allocate labour costs paid and payable.

Factory overheads control account: Provides a comparison between applied overheads and actual overheads in order to determine the over/under applied overheads.

Cost of sales: This account is where cost of goods sold and the over/ under applied overheads written off will be recorded.

Job cost sheets or job order cost sheet or job card: Used to track the job number; customer information; job information (date started, completed and shipped); individual cost information for materials used, labour and overheads; a total job cost summary.

Work-in-process: Refers to a product or products that were started in the previous periods but were not completed until the period ended
Finished goods: 100% complete.

1. Introduction

CIMA defines contract accounting as ‘A form of specific order costing involving the attribution of costs to individual contracts’ and also ‘aggregated costs of a single contract usually applied to major long-term contracts rather than short-term jobs’.

Contract costing covers large continuous jobs that can take years. The features of long-term contracts are:

• Long-term and large contracts – civil engineering contracts for building houses, roads, bridges etc.
• Every contract and each development will be accounted for separately and has some features in common with job costing
• Work is generally confined to a specific site

2. Specific contract accounting terminology

Contract price – gross revenue to the contractor in accordance with the contract agreement
Total estimated costs – the total costs incurred to complete the contract
Total estimated profit – the contract price less the total estimated costs
Certified work – The value of work for partial completion of the contract
Retention money – the amount of payment withheld on certified work, as a contingency against comebacks

3. The cost elements

Direct costs

• Materials
• Wages
• Salaries
• Hiring of plant
• Subcontract work
• Other consumables

Indirect costs

• Head office costs
• Transport of good to site
• Warehousing
• Insurance
• Others

4. Contract revenue

Contract revenue can be fixed but there can be variation clauses to protect the contractor from unexpected costs escalations. Revenue can decrease if there is a set deadline and penalties are incurred for late completion. If the contract has various levels of output then the revenue will vary accordingly.

5. Process costing

Definition: a system of accumulating total manufacturing costs of a process where products are manufactured during a particular period.

Features that apply to process costing

• The output of products which are similar
• Production is continuous but there are different stages

Process costing is concerned with the issue of:

• Process cost
• Wastage
• Valuation of work-in-progress

Valuation in process costing

• Direct materials
• Direct labour
• Factory overhead

Four elements in a process

• Opening WIP
• Materials and conversion costs
• Transfers to the next process
• Closing WIP