Chapter 14 Managerial Accounting Concepts and Principles
Chapter 14
Managerial Accounting Concepts and Principles
Related Assignment Materials
Student Learning Objectives
Questions
Quick
Studies*
Exercises*
Problems*
Beyond the
Numbers
Conceptual objectives:
C1. Explain the purpose and nature
of managerial accounting and
the role of ethics.
1, 2, 3, 13
14-1, 14-2,
14-1, 14-2,
14-3
14-1, 14-4
RIA,EC, TTN,
ED, HTR, GD
C2. Describe accounting concepts
useful in classifying costs.
4, 5, 6, 9, 10
14-5, 14-4
14-4, 14-16
14-2, 14-3,
14-4
ED, HTR, CA
C3. Define product and period costs
and explain how they impact
financial statements.
4, 5, 7, 8, 11
14-3
14-6
14-4, 14-3
EC
C4 Explain how balance sheets and
income statements for
manufacturing and
merchandising companies
differ.
12, 14, 15, 16,
22, 25
14-6
14-7
14-5, 14-6
C5. Explain manufacturing
activities and the flow of
manufacturing costs.
17, 18, 19
14-9, 14-12
14-10
TIA
C6. Describe trends in managerial
accounting
3, 24
14–11
14-14, 14-15
14-8
CIP, ED
Analytical objectives:
A1 Access raw materials inventory
management using raw
materials inventory turnover
and days’ sales in raw materials
inventory.
23
14–13
14-7
Procedural objectives:
P1. Compute cost of goods sold for
a manufacturer.
14-7, 14-8
14-8, 14-9
14-6
P2. Prepare a manufacturing
statement and explain its
purpose and links to financial
statements.
20, 21
14-10
14-8, 14-11,
14–12, 4–13
14-7
TIA
*See additional information on next page that pertains to these quick studies, exercises and problems.
Chapter 14 Managerial Accounting Concepts and Principles
Assignment materials that can be completed by students using:
Sage 50 and QuickBooks Pro 2013 templates – none
Excel templates – Problems 14-6A
McGraw-Hill’s Connect – All of the Quick Studies, all of the Exercises, and Problems in set A.
** The Serial Problem for Success Systems, which covers numerous learning objectives, can be
the chapters. Even if previous segments were not assigned, students can begin the segment of the
serial problem that is included in this chapter. It is most readily solved if students use the Working
Papers that accompany the book.).
Synopsis of Chapter Revision
• Back to the Roots: NEW opener with new entrepreneurial assignment
• New analytical learning objective
• Updated ACFE statistics on fraud costs
• New exhibit and discussion on fraud occurrence and average fraud loss by industry
• Revised discussion of direct and indirect costs and related exhibit for added clarity
• New summary of cost classifications and associated managerial decisions
• New Decision Analysis to focus on raw materials inventory turnover and days’ sales in raw
materials inventory
• Moved discussion of types of manufacturing costs to appear before presentation of
manufacturer’s financial statements
• Expanded discussion of financial statements for service companies
• New end of chapter assignments on raw materials inventory management and cost classification
for service companies
• Moved cycle time discussion to Chapter 23
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Chapter 14 Managerial Accounting Concepts and Principles
Chapter Outline
Notes
I. Managerial Accounting Basics—also called management accounting
which is an activity that provides financial and nonfinancial
information to an organization’s managers and other decision makers.
A. Purpose of Managerial Accounting—to provide useful information
to decision makers of an organization.
1. Cost of products and services⎯this information is very
important to managers when making planning and control
decisions. This includes predicting the future costs of a
product or service. Predicted costs are used in:
a. product pricing.
b. profitability analysis.
c. deciding whether to make or buy a product or component.
2. Planning is the process of setting goals and making plans to
achieve them.
a. Strategic plans usually set the long-term direction of a
firm based on opportunities such as new products, new
markets, and capital investments.
b. Medium and short-term plans often cover a one-year
period which, when translated in monetary terms, is
known as the budget.
3. Control is the process of monitoring planning decisions and
evaluating the organization’s activities and employees.
a. Control includes measurement and evaluation of actions,
processes and outcomes.
b. Feedback allows managers to take timely corrective
actions to avoid undesirable outcomes.
B. Nature of Managerial Accounting—illustrated by comparing the
seven key differences between managerial to financial accounting:
1. Users and decision makers
a. In financial—investors, creditors, analysts, regulators and
a. In financial—assist external users in making investment,
credit and other decisions.
b. In managerial—assist managers in making planning and
control decisions.
Chapter 14 Managerial Accounting Concepts and Principles
Chapter Outline
Notes
3. Flexibility of practice
a. In financial—relies on structured principles often
controlled by GAAP.
b. In managerial—systems are relatively flexible (no GAAP)
to assist in planning, decision-making, and control.
4. Timeliness of information
a. In financial—often available only after the audit is
complete which is usually several weeks after period-end.
b. In managerial—available quickly without the need to wait
for an audit. Internal auditing evaluates the flow of
information inside and outside the company and is
responsible for preventing and detecting fraudulent
company activities.
5. Time dimension
a. In financial—provides primarily historical information
with only limited predictions.
b. In managerial—includes many projections and estimates;
historical information is also presented.
6. Focus of information
a. In financial—emphasis on whole organization.
b. In managerial—emphasis on organization’s specific
b. In managerial—mostly monetary; but also nonmonetary
activities but financial and managerial accounting are not entirely
separate since both can affect people’s decisions and actions.
D. Fraud and Ethics in Managerial Accounting – are important
factors in running a business. Fraud involves the use of one’s job
for personal gain, through deliberate misuse of the employer’s
assets.
The most common type of fraud involves employees who steal or
misuse the employer’s resources. All fraud is done to provide
direct or indirect benefit to the employee; violates the employee’s
duties to his employer; costs the employer money; and is secret.
1. Implications for Managerial Accounting – fraud increases a
business’s costs which can result in poor pricing decisions,
improper product mix, and faulty performance evaluations.
Managers rely upon an internal control system to monitor
and control business activities. An internal control system is
Chapter 14 Managerial Accounting Concepts and Principles
Chapter Outline
Notes
the policies and procedures managers use to urge adherence to
company policies; promote efficient operations; ensure
reliable accounting; and protect assets.
Ethics are beliefs that distinguish right from wrong. They are
accepted standards of good and bad behavior. The Institute
of Management Accountants (IMA) has issued a Statement
of Ethical Professional Practice which provides a road map for
resolving ethical conflicts.
II. Managerial Cost Concepts
A. Types of Cost Classifications – Costs can be classified based on
any one or combination of the five classifications listed below.
1. Classification by Behavior—at a basic level, a cost can be
classified as fixed, variable or mixed.
1. Fixed cost—cost does not change with changes in the
volume of an activity (within a certain range of activity
known as an activity’s relevant range).
2. Variable cost—cost changes in proportion to changes in
the volume of activity.
3. Mixed—combination of fixed and variable costs.
2. Classification by Traceability—cost is traced to a cost object
(a product, process, department or customer). Cost is classified
as either a direct or indirect cost. To classify, must identify the
cost object.
1. Direct costs—traceable to a single cost object.
2. Indirect costs— not traceable to a single cost object
3. Classification by Controllability—costs can be defined as
controllable or not controllable. Classification is dependent
on employee’s responsibilities to the hierarchical levels in
management.
4. Classification by Relevance—costs classified by identifying it
as either a sunk cost or an out-of-pocket cost.
a. Sunk cost—already incurred and cannot be avoided or
changed. Irrelevant to future decisions.
b. Out-of-pocket cost—requires a future outlay of cash and is
relevant for decision making.
c. Opportunity cost—is the potential benefit lost by choosing
a specific action from two or more alternatives.
5. Classification by Function—costs classified as capitalized
inventory (product) or expensed (period) as incurred.
Chapter 14 Managerial Accounting Concepts and Principles
Chapter Outline
Notes
a. Product costs – expenditures necessary and integral to
finished products. Includes direct materials, direct labor,
and overhead costs. First assigned to inventory (on the
balance sheet) and flow to the income statement when they
become part of cost of goods sold.
b. Period costs—expenditures identified more with a time
period than finished products. Include selling and general
administrative expenses. Reported on income statement as
expenses.
B. Identification of Cost Classification. Must be able to identify the
activity for behavior, cost object for traceability, management
hierarchical level for controllability, opportunity cost for
relevance, and benefit period for function.
C. Cost Concepts for Service Companies. The concepts are also
applicable to service organizations. Classification by function is
not relevant to service companies because services are not
inventoriable.
III. Reporting Manufacturing Activities—financial statements for
manufacturing companies have some unique features resulting from
their activity of producing goods from materials and labor.
A. Manufacturer’s Costs
1. Direct materials—tangible components of a finished product;
separately and readily traced through the manufacturing
process to finished goods.
2. Direct labor—wages and salaries for direct labor that are
separately and readily traced through the manufacturing
process to finished goods.
Indirect labor—costs of other workers’ efforts not linked to
specific units or batches of product. Part of overhead costs.
3. Factory overhead—all manufacturing costs that cannot be
separately or readily traced to finished goods. Include indirect
associated with the manufacturing of finished goods. Direct
converting raw materials to finished goods.
B. Manufacturer’s Balance Sheet—carry several unique assets and
use in making products Two types are:
a. Direct materials—physically become part of the product
Chapter 14 Managerial Accounting Concepts and Principles
Chapter Outline
b. Indirect Materials—used in support of the production
process. Generally, do not become a part of a product.
Exception: materials that do become part of a product, but
have low or insignificant cost, and traceability is not
economically sound (application of materiality principle).
2. Goods in Process Inventory – (or work in process inventory)
consists of products in the process of being manufactured but
not yet complete.
3. Finished Goods Inventory – consists of completed products
ready for sale.
4. Balance Sheets for Merchandising and Service Companies.
The current assets section will look different for
merchandising and service companies as compared to those of
manufacturing companies. A merchandiser will report
Merchandise Inventory and a service company will not have
any inventory while a manufacturer will have the three types
of inventory.
C. Manufacturer’s Income Statement –the main difference between a
merchandiser’s and manufacturer’s income statement is in items
that make up cost of goods sold (COGS).
Notes
1. Merchandiser computes COGS: Beginning merchandise
inventory plus cost of goods purchased minus ending
merchandise inventory.
2. Manufacturer computes COGS: Beginning finished goods
inventory plus cost of goods manufactured minus ending
finished goods inventory.
3. Cost of goods manufactured is the sum of direct materials,
direct labor, and overhead costs incurred in producing the
products.
4. Reporting Performance – operating expenses include sales and
office salaries, and depreciation of delivery and office
equipment. Manufacturing costs are reported as part of cost of
not make or buy inventory, so they do not have cost of goods
manufactured or cost of goods sold. All operating expenses
D. Flow of Manufacturing Activities—the three manufacturing
activities are:
some beginning raw materials inventory and then acquire
Chapter 14 Managerial Accounting Concepts and Principles
Chapter Outline
Notes
additional raw materials. When these purchases are added
to beginning inventory, we get the total raw materials
available for use in production. These raw materials are
then either used in are then either used in production
during the year or remain on hand at the end of the period
for use in future periods.
2. Production activity—four factors come together in
production:
Beginning goods in process inventory—consists of partly
produced goods from the previous period.
a. Direct materials used—traceable materials added
during the period.
b. Direct labor used – traceable labor added during
period.
c. Overhead used—nontraceable manufacturing costs
added during the period.
Note: The production activity results in goods either
finished or unfinished. Both groups represent product
costs. The cost of finished goods make up the cost of
goods manufactured for the year. Unfinished goods are
identified as ending goods in process inventory.
3. Sales activity—newly completed units are combined with
beginning finished goods inventory to make up total
finished goods available for sale. The cost of those goods
that are sold during the year is reported on the income
determined from a physical count.
2. Direct labor incurred—includes payroll taxes and fringe
benefits and is taken directly from the direct labor account
balance.
website, in whole or part. 14-9
Chapter 14 Managerial Accounting Concepts and Principles
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Chapter Outline
determinant of value. The better a company is at controlling
costs, the better its performance.
IV. Global View – Manufacturing accounting is more flexible than financial
accounting and does not follow a set of rules. Many international
businesses use managerial accounting concepts and principles outlined
in this chapter.
Notes
V. Decision Analysis—Assess Raw Materials Inventory Management
using raw materials inventory turnover and days’ sales in raw materials
inventory.
A. Raw Materials Inventory Turnover reveals how many times a
company turns over (sells) its raw materials inventory during a
period. A high ratio is preferred. Computed as Raw Materials
Used / Average Raw Materials Inventory.
B. Days’ Sales in Raw Materials Inventory reveals how much raw
materials inventory is available in terms of the number of days’
sales. Measures how long it takes raw materials to be used in
production. Computed as Ending Raw Materials Inventory / Raw
Materials used x 365.
Chapter 14 Managerial Accounting Concepts and Principles
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Chapter 14 – Alternate Demonstration Problem #1
Using the following information for Superior Manufacturing Company
prepare the income statement for the year ended December 31, 2013.
(Assume a 30 % income tax.)
Administrative Expenses ……………………………………………………..
$ 70,000
Finished Goods Inventory January 1, 2013 …………………………..
120,000
Cost of Goods Manufactured during the year ……………………….
200,000
Finished Goods Inventory December 31, 2013 ……………………..
60,000
Selling Expenses …………………………………………………………………
40,000
Sales …………………………………………………………………………………..
680,000
Chapter 14 Managerial Accounting Concepts and Principles
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Solution Chapter 14: Alternate Demonstration Problem #1
SUPERIOR MANUFACTURING COMPANY
Income Statement
For Year Ended December 31, 2013
Sales …………………………………………………………………
$ 680,000
Cost of Goods Sold:
Finished Goods Inventory, 1/1/13 ……………………….
$120,000
Cost of Goods Manufactured ……………………………..
200,000
Cost of Goods Available for Sale ………………………..
320,000
Finished Goods Inventory, 12/31/13 ……………………
60,000
Cost of Goods Sold ……………………………………………
260,000
Gross Profit ……………………………………………………….
$ 420,000
Operating Expenses: …………………………………………
Selling Expenses ……………………………………………….
$ 40,000
Administrative Expenses ……………………………………
70,000
Total Operating Expense ……………………………………
110,000
Net Income before Taxes ……………………………………
310,000
Income Tax Expense ………………………………………….
93,000
Net Income after Taxes ………………………………………
$ 217,000