Contents

Chapter-1--------------------------------------------------------------------------------------------2
Chapter-2--------------------------------------------------------------------------------------------6
Direct and Indirect Cost----------------------------------------------------------------------6
Challenges in Cost Allocation--------------------------------------------------------------7
Factors Affecting Direct/Indirect Cost Classifications-------------------------------8
Cost Drivers------------------------------------------------------------------------------------10
Relavant Range-------------------------------------------------------------------------------10
Use Unit Cost Causiously------------------------------------------------------------------12
Three sectors of the economy-----------------------------------------------------------13
Commonly Used Classifications of Manufacturing Costs-------------------------14
Chapter-04----------------------------------------------------------------------------------------16
Concepts----------------------------------------------------------------------------------------16
2 basic Type of costing systems:--------------------------------------------------------17
Job Costing: Evaluation and Implementation----------------------------------------18
Time Period Used to Compute Indirect-Cost Rates--------------------------------21
Normal Costing-------------------------------------------------------------------------------22
 Chapter-1
Financial accounting is the process of preparing and sharing a
company's financial information with people outside the company. These
external parties include investors, government agencies, banks, and
suppliers, who rely on this information to make decisions.

The information shared comes from tracking and recording business

transactions—things like sales, expenses, and investments. These
transactions are then compiled into financial statements, such as the
balance sheet, income statement, and cash flow statement. These
statements are prepared following a set of standard rules called GAAP
(Generally Accepted Accounting Principles), which ensures that the
information is accurate, consistent, and comparable.

One of the significant impacts of financial accounting is on managers within

the company. Their compensation—like bonuses or stock options—can be
influenced by the company's financial performance as reported in these
financial statements. So, the better the numbers, the more they might earn.
This connection means that financial accounting plays a crucial role in
guiding managers' decisions and actions.

Management accounting is a process that helps managers within an

organization make informed decisions. It involves measuring and analyzing
different types of information—both financial (like costs and revenues) and
nonfinancial (like customer satisfaction or employee performance).
This information is crucial for managers because it helps them:
Set and Achieve Goals: Managers use the data to create strategies that
align with the organization's goals. For example, they might decide where to
allocate resources or how to improve efficiency based on the information
provided by management accounting.
Coordinate Business Activities: Management accounting helps in
planning and coordinating different areas of the business, such as product
design, production, and marketing. For example, if a new product is being
developed, management accounting can help determine the costs involved
and the best way to market it.
Evaluate Performance: Managers use this information to assess how well
different parts of the organization are performing. This could include
evaluating the success of a marketing campaign or measuring the efficiency
of production processes.
Unlike financial accounting, which follows strict rules like GAAP (Generally
Accepted Accounting Principles), management accounting is more flexible. It
doesn't have to follow any set rules because it's designed to meet the
specific needs of the organization's managers. The focus is on providing
useful information, not on adhering to standardized guidelines.

The key questions are always (1) how will this information
help managers do their jobs better, and (2) do the benefits
of producing this information exceed the costs?

1. How will this information help managers do their jobs better?

o The information provided by accounting systems helps managers
in several ways:
 Decision-Making: Managers can use detailed financial
and nonfinancial data to make informed decisions, such as
setting prices, evaluating performance, and developing
strategies.
 Coordination: Different managers (e.g., sales,
distribution, manufacturing) can access specific
information from a shared database to coordinate their
activities effectively. For example, a sales manager may
use sales data to determine commissions, while a
distribution manager uses order details to ensure timely
deliveries.
 Performance Evaluation: Managers can analyze how
costs have changed relative to revenues over time, helping
them to assess and improve the organization's
performance.
 Strategic Implementation: Management accounting
information supports the development and execution of
business strategies, ensuring that all departments are
aligned with the organization's goals.
2. Do the benefits of producing this information exceed the
costs?
o The passage suggests that the benefits of producing detailed
accounting information must outweigh the costs involved in
gathering, processing, and analyzing this data. For instance:
 Value Addition: The use of comprehensive databases
(like ERP systems) allows multiple managers to access the
information they need, increasing efficiency and reducing
the risk of errors or miscommunication.
  Informed Decision-Making: By providing managers with
relevant and accurate information, the organization can
improve decision-making, leading to better financial
performance and achievement of strategic goals.
 Cost Management: Effective cost management, informed
by accurate cost accounting, helps in making decisions
that increase value to customers and the organization,
such as whether to invest in new processes or products.

Overall, while there are costs associated with collecting and processing
this information, the benefits—such as improved decision-making,
better coordination, and enhanced performance—often justify these
expenses

Cost Accounting:

Cost Accounting is a specific area of accounting that focuses on tracking,

analyzing, and reporting the costs associated with acquiring and using
resources within an organization. These costs can include things like
materials, labor, and overheads.

Support for Financial and Management Accounting:

o For Financial Accounting: Cost accounting provides the

necessary data to help with tasks like valuing inventory. For
example, knowing the cost of a product helps in accurately
reporting the value of inventory on the balance sheet, which is
important for external reporting to investors, banks, and
regulators.
o For Management Accounting: Cost accounting also supports
management by providing detailed cost information that is
crucial for decision-making. For instance, understanding the cost
of producing a product helps managers decide how to price it,
which products to focus on, and where to cut costs.

Interconnection with Management Accounting:

o The passage notes that modern cost accounting views the

collection of cost information as closely tied to management
decisions. This means that the way cost data is gathered and
analyzed depends on what decisions managers need to make.
For example, if a manager is deciding whether to launch a new
product, cost accounting will provide detailed data on the
potential costs involved.
o Because cost accounting is so integral to decision-making, the
line between management accounting and cost accounting
 is often blurred. In practice, the two are frequently used together
or even interchangeably, as they both involve analyzing costs to
guide business decisions.

In summary, cost accounting is a critical tool that serves both financial and
management accounting by providing essential cost data. This information
helps in everything from accurate financial reporting to strategic decision-
making, making the distinction between management accounting and cost
accounting less clear-cut in many cases.

cost management

What is Cost Management?

The term "cost management" is used by business people, but it doesn't have
one clear definition. In general, it refers to the ways managers handle and
control costs to add value for customers and help the organization meet its
goals.

What Does Cost Management Involve?

Cost management involves making important decisions like:

 Whether to enter new markets.

 Implementing new organizational process
 Changing the product design

These decisions aren't just about cutting costs. Sometimes, it involves

spending more money to achieve better results, such as-

 improving customer satisfaction,

 enhancing product quality, or
 developing new products.
 increase revenues and profits.

that will boost the company’s success in the long run.

Role of Accounting Systems:

Accounting systems provide the information managers need to manage

costs effectively. However, cost management is more than just using these
systems; it's about making strategic decisions based on the information they
provide.
 Chapter-2
Direct and Indirect Cost

Direct costs are expenses that can be directly linked to a specific product,
service, or project, known as a "cost object." These costs can be easily
identified and traced to that particular item without much difficulty.
Example
Let's say you are baking a cake to sell. The flour, sugar, eggs, and
butter you use are direct costs because you can easily trace these
ingredients to the specific cake you're making. You know exactly
how much of each ingredient went into that cake, so you can
directly associate these costs with that particular cake.
In the same way, if you pay someone to decorate the cake, their labor is also
a direct cost because the time and effort they put into decorating can be
directly linked to that specific cake. You know that the payment to the
decorator was for that cake and no other.
So, direct costs are simply the costs that you can easily and accurately
assign to a specific product, service, or project.
Indirect costs are expenses related to a particular product, service, or project
(the cost object), but they cannot be directly traced to it in a simple or cost-
effective way. Instead, these costs are shared among multiple products or
services and need to be allocated across them.
Example
Let’s continue with the cake example. Suppose you rent a kitchen to bake
several cakes. The rent you pay for the kitchen is necessary for making the
cakes, but you can’t say exactly how much of that rent was for making a
particular cake. The rent is an indirect cost because it supports all the cakes
you bake, not just one specific cake.
Another example could be the electricity used in the kitchen. The electricity
powers the oven, lights, and mixers, which are used for baking multiple
cakes. You can’t easily determine how much electricity was used for each
specific cake, so electricity costs are indirect costs.
In both examples, rent and electricity are necessary for making the cakes,
but they cannot be traced directly to any single cake. Instead, you would
allocate these costs to each cake based on a reasonable method, like
dividing the rent and electricity costs by the number of cakes produced.
So, indirect costs are shared expenses that support the production of
multiple products, and cost allocation is the process of dividing these costs
among the various products they help to create.

Challenges in Cost Allocation

Cost allocation is the process of distributing indirect costs (costs that cannot
be directly traced to a specific product or service) to different products,
services, or projects. However, this process comes with its own set of
challenges, as illustrated in
Example
Eample: Running a Bakery
Imagine you own a bakery that makes two main products: cakes and cookies.
You rent a shop where both cakes and cookies are made. The rent is an
indirect cost because it supports both products, not just one. You need to
allocate this rent cost between the cakes and cookies to understand how
much each product really costs to make.
Challenge 1: Allocating the Rent
One way to allocate the rent might be based on the space used. If the cake-
making area takes up 60% of the shop, and the cookie-making area takes up
40%, you could assign 60% of the rent to cakes and 40% to cookies. This
method makes sense because it reflects how much of the shop each product
uses.
Challenge 2: Allocating Other Indirect Costs
Now, let’s consider another indirect cost: electricity. The ovens, lights, and
mixers all use electricity, but they’re used for both cakes and cookies. How
do you decide how much of the electricity cost should go to cakes and how
much to cookies?
Based on Baking Time: One approach could be to look at how long the
ovens are used for each product. If cakes take longer to bake than cookies,
you might allocate more electricity costs to cakes.
Based on Number of Products: Another way could be to allocate costs
based on how many cakes and cookies you make. If you bake more cookies
than cakes, you might allocate more of the electricity cost to cookies.
Why It’s Important
Getting this right is important because it helps you figure out how much it
really costs to make cakes and cookies. If you don’t allocate these costs
accurately, you might think cakes are cheaper to make than they really are,
or that cookies are more expensive, leading to poor pricing decisions.
Conclusion
In this bakery example, allocating rent and electricity costs involves
judgment and choosing a fair method. The goal is to ensure that the costs
assigned to cakes and cookies reflect the actual resources used, helping you
make better decisions about pricing and profitability.

Factors Affecting Direct/Indirect Cost Classifications

The materiality of the cost in question: The concept of materiality in

cost allocation refers to the significance or size of a cost when deciding
whether to trace it directly to a product or service. If a cost is very small or
insignificant (immaterial), it might not be worth the effort and expense to
trace it directly to a specific product. Instead, it’s treated as an indirect cost.
Example
Example: Running a Lemonade Stand
Imagine you run a lemonade stand, and you’re trying to figure out the costs
involved in selling each cup of lemonade.
Direct Cost (Lemons): The cost of lemons is a direct cost because each
lemon you use can be easily traced to each cup of lemonade you make. If
you use one lemon per cup, it’s simple to calculate how much each cup costs
in terms of lemons.
Indirect Cost (Stirring Sticks): Now, think about the little wooden sticks
you use to stir the lemonade. These sticks might cost only a few cents each.
You could try to figure out exactly how much each stick costs for each cup of
lemonade, but it’s such a tiny amount that it’s not really worth the time and
effort.
Why Stirring Sticks are an Indirect Cost
Even though you could calculate the cost of each stirring stick, the benefit of
knowing that, for example, each stick costs you 1 cent per cup, doesn’t really
help you much. The time you’d spend figuring out these tiny costs could be
better spent making more lemonade or serving customers.
Conclusion
In this lemonade stand example, the lemons are a significant cost that’s easy
to trace directly to each cup of lemonade, so they’re a direct cost. The
stirring sticks are so cheap and
insignificant that it’s not worth tracking them for each cup, so they’re
considered an indirect cost

Available information-gathering technology:Advances in technology

can make it easier to trace costs directly to products, even for items that
used to be considered too small or difficult to track.
Example
Example: Running a Bakery (Again)
Imagine you own a small bakery where you bake cupcakes. In the past, you
didn’t track the cost of small items like sprinkles or cupcake liners because
they were cheap and difficult to trace back to each cupcake. Instead, you just
considered these costs as part of a general overhead.
How Technology Changes This
Now, suppose you start using a barcode system in your bakery. Each
container of sprinkles and package of cupcake liners has a barcode. When
you use sprinkles or liners for a batch of cupcakes, you simply scan the
barcode. This lets you keep track of exactly how many sprinkles or liners you
used for each batch.
Why This Matters
Because the barcode system makes it so easy to track, you can now treat
the cost of sprinkles and liners as direct costs. You know exactly how much
each cupcake costs in terms of sprinkles and liners because the technology
allows you to trace these small items directly to each batch.
Conclusion
In this bakery example, technology (like barcodes) helps you keep track of
even small costs like sprinkles and liners. What used to be difficult or not
worth tracking can now be easily traced to each cupcake, giving you a
clearer idea of how much each one costs to make. This helps you price your
cupcakes more accurately and manage your expenses better.
Design of operations: The design of a company’s operations can make it
easier to classify certain costs as direct costs, especially when specific
facilities or parts of the business are dedicated to a single product or service.
Example: Running a Pizza Shop
Imagine you own a pizza shop that also sells ice cream. If you have a special
kitchen area that’s only used for making pizza, the costs associated with that
kitchen (like rent, utilities, and equipment) can be easily classified as direct
costs for the pizza. This is because the entire kitchen is dedicated to pizza-
making, so it’s clear that all the expenses related to that space are directly
tied to making pizza.
Why This Matters
Because the pizza kitchen is used exclusively for making pizza, you can
easily say, "The rent, electricity, and equipment costs for this kitchen are
direct costs of making pizza." There’s no need to guess or divide these costs
between different products because that part of the facility is only used for
one thing.
Conclusion
When a specific area of your business is dedicated to one product or service,
it’s much easier to classify the costs of that area as direct costs. In the pizza
shop example, the costs associated with the pizza kitchen are direct costs for
the pizza because that kitchen is used only for pizza-making. This clear
separation helps you accurately calculate the costs of each product.

Cost Drivers
Relavant Range
Fiixed Cost
Example: Running a Food Truck
Imagine you own a food truck that sells sandwiches, and you rent the truck
for $1,000 per month. This rent is a fixed cost because you have to pay the
same $1,000 every month, no matter how many sandwiches you sell.
However, this fixed cost is only true within a certain range of activity, called
the relevant range.
Relevant Range Explanation
Let’s say your food truck can handle up to 1,000 sandwiches per month. If
you sell anywhere between 0 and 1,000 sandwiches in a month, the rent
stays fixed at $1,000. This is your relevant range: 0 to 1,000 sandwiches.
But what happens if your business grows, and you need to sell more than
1,000 sandwiches? You might need to rent a second truck, which would
increase your fixed cost.
0 to 1,000 sandwiches: Rent is $1,000 (for 1 truck).
1,001 to 2,000 sandwiches: Rent is $2,000 (because you need 2 trucks).
2,001 to 3,000 sandwiches: Rent is $3,000 (because you need 3 trucks).
In each of these ranges, the fixed rent cost stays the same, but only for a
specific number of sandwiches. If your business keeps growing and you need
more trucks, your fixed costs will go up once you go beyond the relevant
range of 1,000 sandwiches per truck.
Conclusion
The relevant range refers to the level of activity (like the number of
sandwiches sold) where your fixed costs stay the same. Outside of that
range, your costs may change. In the food truck example, your rent is fixed
as long as you’re selling up to 1,000 sandwiches, but if you need a second
truck to sell more, your fixed costs will increase. This concept helps
businesses understand when their costs might start changing as they grow
or shrink.
Variable Cost
Example: Running a Food Truck (Again)
You own a food truck that sells sandwiches, and one of your variable costs is
the cost of bread. For each sandwich you make, you need one loaf of bread,
which costs $1 per loaf. If you make 500 sandwiches, you need 500 loaves of
bread, and your total bread cost is $500.
Within the Relevant Range
Let’s say your food truck can make up to 1,000 sandwiches per month. For
each sandwich you sell, the bread costs $1. So, if you sell:
500 sandwiches = $500 on bread.
1,000 sandwiches = $1,000 on bread.
This means within the relevant range (up to 1,000 sandwiches), your bread
costs are proportional to the number of sandwiches you make.
Outside the Relevant Range
Now, if your business grows and you need to make more than 1,000
sandwiches, you move outside the relevant range. Let’s say you need to buy
bread in larger quantities, and your supplier offers a bulk discount. If you buy
more than 1,000 loaves, the price per loaf drops to $0.80.
For 1,001 to 2,000 sandwiches: Now, instead of $1 per loaf, you pay $0.80
per loaf. So, while you're still buying more bread, the cost increases at a
lower rate because of the discount.
For example:
1,500 sandwiches = $1,000 for the first 1,000 loaves (at $1/loaf) + $400 for
the next 500 loaves (at $0.80/loaf) = $1,400 total.
Conclusion
Within the relevant range, your variable cost (bread) increases proportionally
with the number of sandwiches made. But when you move outside the
relevant range (making more than 1,000 sandwiches), the cost per loaf
decreases because of bulk discounts, meaning your total costs rise more
slowly. This demonstrates how variable costs can behave differently when
production volumes change significantly.

Use Unit Cost Causiously

Let’s use the food truck example to explain why managers should focus on
total costs instead of relying too much on unit costs.
Example: Sandwich Food Truck (Again)
Imagine you own a food truck that sells sandwiches. You have fixed costs like
the rental for the truck and equipment, which cost $10,000 per year. You also
have variable costs like bread and other ingredients, which cost $3 per
sandwich. So, your total costs will be a combination of both fixed and
variable costs.
Scenario 1: Producing 10,000 Sandwiches
In 2022, you made 10,000 sandwiches. Let’s calculate:
Total variable costs = 10,000 sandwiches × $3 = $30,000.
Total fixed costs = $10,000 (this doesn’t change no matter how many
sandwiches you make).
So, the total costs = $30,000 (variable) + $10,000 (fixed) = $40,000.
Now, you want to know the unit cost (cost per sandwich):
Unit cost = $40,000 (total costs) ÷ 10,000 sandwiches = $4 per sandwich.
Scenario 2: Producing Only 5,000 Sandwiches
Let’s say in 2023, there is less demand, and you can only sell 5,000
sandwiches. Your fixed costs are still $10,000, but your variable costs will
change:
Total variable costs = 5,000 sandwiches × $3 = $15,000.
Total fixed costs = $10,000 (same as before).
So, the total costs now = $15,000 (variable) + $10,000 (fixed) = $25,000.
If you calculate the unit cost again:
Unit cost = $25,000 (total costs) ÷ 5,000 sandwiches = $5 per sandwich.
What Happens If You Rely on Unit Costs?
If you only look at the unit cost from 2022 ($4 per sandwich) and plan based
on that, you would think that selling 5,000 sandwiches will cost you $4 per
sandwich × 5,000 sandwiches = $20,000. But this would underestimate the
real cost of $25,000 because your fixed costs are the same regardless of how
many sandwiches you sell.
Why Focus on Total Costs?
In 2023, with fewer sandwiches sold, your total fixed costs remain the same,
so the unit cost increases. If you only think in terms of unit costs, you could
run into cash flow problems. Therefore, it’s better to focus on total costs
(both variable and fixed) to make more accurate business decisions.
This shows that unit costs can change depending on the number of items
produced. Managers should always calculate total costs first and then
consider unit costs if needed.

Three sectors of the economy

Manufacturing-sector companies purchase materials and components
and convert them into various finished goods. Examples are automotive
companies such as Pragoti Industries, cellular phone producers such
as Walton, food-processing companies such as Pran, and computer
companies such as Singer Bangladesh.
Merchandising-sector companies purchase and then sell tangible
products without changing their basic form. This sector includes companies
engaged in retailing (for example, bookstores such as Boi Bichitra or
department stores such as Agora), distribution (for example, a supplier of
hospital products, such as JMI Group), or wholesaling (for example, a
supplier of electronic components, such as Systech Digital).
Service-sector companies provide services (intangible products)—for
example, legal advice or audits—to their customers. Examples are law firms
such as Dr. Kamal Hossain and Associates, accounting firms such as
Rahman Rahman Huq (KPMG Bangladesh), banks such as BRAC Bank,
mutual fund companies such as LR Global, insurance companies such
as Green Delta Insurance, transportation companies such as Biman
Bangladesh Airlines, advertising agencies such as Grey Advertising
Bangladesh, television stations such as Channel i, Internet service
providers such as Banglalion, travel agencies such as Galaxy Travels,
and brokerage firms such as IDLC Securities.

Commonly Used Classifications of Manufacturing Costs

Direct Material Costs
These are the ingredients that go directly into the cake, such as flour, sugar,
eggs, and butter. These ingredients can be easily identified and traced to the
specific cake you're making.
Example: The cost of flour, sugar, and butter used in making the cake is
your direct material cost.
2. Direct Manufacturing Labor Costs
These are the wages or payments made to the bakers who are directly
involved in making the cake. Their work can be clearly linked to the
production of the cake.
Example: The baker's salary for mixing the batter and baking the cake is a
direct manufacturing labor cost.
3. Indirect Manufacturing Costs (Overhead)
These are the costs that support the production of the cake but cannot be
traced directly to just one cake. This includes things like electricity to run the
ovens, cleaning supplies for the bakery, and the salary of the person who
cleans the kitchen.
Example: The cost of electricity used by the oven or the cleaning supplies
used to keep the bakery clean are indirect manufacturing costs or
overhead.
In summary, direct materials and direct labor are costs you can easily trace
to the cake (the final product), while indirect costs are the supportive costs
that help in the production but aren’t specific to just one cake.

Inventoriable costs are costs related to making or purchasing a product

that are recorded as assets on the balance sheet until the product is sold. For
manufacturers, this includes costs like materials, labor, and factory
overhead. These costs are tracked as the product moves through production
(work-in-process) and when it's finished. When the product is sold, the costs
become "cost of goods sold" in the income statement. For retailers,
inventoriable costs are the costs of buying products to resell, while service
companies have no inventoriable costs since they don’t hold physical
products.
Period costs are all the costs that are not related to making or buying
products. These costs are recorded as expenses in the income
statement during the period they happen because they help generate
revenue only in that time. Examples include marketing, distribution, and
customer service costs.
For manufacturers, period costs include things like shipping and design
costs, not related to production. For retailers, it’s costs like store
worker wages and advertising. For service companies, all costs are
period costs since they don’t have products to sell.
In short, period costs are non-production costs that are treated as
expenses immediately.

The main differences between inventoriable costs and period costs are:
1. Timing of Expense Recognition:
o Inventoriable Costs: These are recorded as assets on the
balance sheet (as inventory) and only become expenses (cost of
goods sold) when the product is sold.
o Period Costs: These are expensed immediately in the period
they are incurred and are recorded on the income statement.
2. Relation to Production:
o Inventoriable Costs: Directly related to the production or
purchase of goods. For manufacturers, this includes raw
materials, labor, and manufacturing overhead.
o Period Costs: Not related to production. These include costs like
marketing, selling, distribution, and administrative expenses.
3. Business Type:
o Inventoriable Costs: Apply to manufacturing and
merchandising companies (because they produce or sell physical
goods).
o Period Costs: Apply to all types of businesses, including service
companies, where all costs are considered period costs because
there is no inventory.
4. Balance Sheet vs. Income Statement:
o Inventoriable Costs: Start on the balance sheet as inventory
and move to the income statement as cost of goods sold when
the product is sold.
o Period Costs: Go directly to the income statement as expenses
for the current period.
 Chapter-04
Concepts
Cost Pool
A cost pool is just a grouping of various indirect costs. These are costs that
are not directly tied to making a single product but are necessary for the
overall operation. For example, the cost of running all the machines in a
factory is an indirect cost.
Cost-Allocation Base
A cost-allocation base is the method you use to divide these indirect costs
(from the cost pool) between the different products, jobs, or services. This
base links the cost pool to each product in a logical way.
Example: Baking Cakes and Cookies in a Bakery
Cost Pool: Imagine you run a bakery that makes cakes and cookies. The
bakery has an oven that costs $1,000 per month to operate (electricity,
maintenance, etc.). This $1,000 is your cost pool, the total cost for running
the oven.
Cost-Allocation Base: Now, you need to divide this $1,000 oven cost
between cakes and cookies in a fair way. One method is to base it on oven
usage time. Let’s say:
Baking a batch of cakes takes 5 hours.
Baking a batch of cookies takes 2 hours.
If the oven is used for 50 hours total in a month, the cost per hour is:

$1,000 ÷ 50 hours = $20 per hour.

Allocating the Costs:
If you bake cakes for 20 hours in a month, the cost allocated to cakes is:
20 hours × $20 per hour = $400.
If you bake cookies for 30 hours in a month, the cost allocated to cookies is:
30 hours × $20 per hour = $600.
In this case, the oven usage time (hours) is the cost-allocation base because
it’s a fair way to divide the cost based on how much each product (cakes and
cookies) uses the oven.
2 basic Type of costing systems:
Job-Costing System:
In a job-costing system, costs are assigned to a specific product or service
that is unique or different from others. Since every job is different, the cost of
materials, labor, and overhead used in each job is tracked separately.
Example:
 Think of a custom furniture shop that builds made-to-order chairs. Each
chair may have a different design and use different materials based on
what the customer requests.
 The shop will track how much wood, fabric, and labor go into each
specific chair, and that cost will be unique to that job.
In short, job costing is used when products or services are unique.
2. Process-Costing System:
In a process-costing system, costs are assigned to large quantities of
identical or very similar products. Since every unit is the same, the cost is
spread evenly across all units produced during a given period.
Example:
 Think of a juice factory that makes bottles of orange juice. Every bottle
is made the same way using the same ingredients.
 The total cost to run the factory (e.g., ingredients, labor, electricity) for
a day is divided by the total number of bottles produced to get a per-
unit cost.
In short, process costing is used when products are identical or similar.
Summary:
 Job costing is used for unique, individual products (e.g., a custom
chair, an advertising campaign).
 Process costing is used for large quantities of identical products
(e.g., orange juice, computer chips).
Both systems help businesses figure out how much it costs to make their
products or provide services, but they are used in different situations based
on the nature of what’s being produced.

Job Costing: Evaluation and Implementation

Scenario:
Robinson Company needs to decide how much to bid for a job from Western
Pulp and Paper (WPP), which involves making a unique paper-making
machine.
5 Steps in the Job-Costing Process:
1. Identify the Problems and Uncertainties:
o Robinson's management must decide if they should bid on the
WPP job and what price to set.
o The two main uncertainties are:
 How much it will cost to make the machine.
 What price their competitors might bid.
2. Obtain Information:
o Robinson’s team checks if this job fits their company’s strategy
and goals.
o They gather technical information by studying the machine’s
design and specifications provided by WPP.
o They also research their competitors to estimate what their bids
might be.
3. Make Predictions About the Future:
o The team estimates the costs for materials, labor, and overhead
(indirect costs) needed to complete the job.
o They consider risks like cost overruns and whether their
employees have the skills to successfully complete the job.
4. Make Decisions by Choosing Among Alternatives:
o Robinson decides to bid $15,000 for the WPP job.
 This is based on an estimated manufacturing cost of
$10,000, with a 50% markup to cover risks and profit.
o They compare their bid with potential competitor bids and the
risks involved.
5. Implement the Decision, Evaluate Performance, and Learn:
o Robinson wins the bid, and they start working on the machine.
o During the project, they track the actual costs and later compare
them to their original estimates.
 o This helps them learn and improve their cost-estimation process
for future jobs.
Job-Costing System:
Robinson uses a job-costing system to accumulate costs for each job (like the
WPP machine). They track costs across different areas, such as
manufacturing, marketing, and customer service.
 Actual Costing:
o Robinson can use a job-costing system called "actual
costing" to track the real costs for direct materials and labor (by
using actual prices and hours worked).
o However, actual indirect costs (like factory overhead) are
harder to calculate on a weekly or monthly basis, so the
company may have to wait until the end of the fiscal year to
know the full indirect costs.
o Because of this delay, companies often avoid using actual
costing systems in practice.
Time Period Used to Compute Indirect-Cost Rates
This section explains why it's better to use a longer time period, such as a
year, to calculate indirect-cost rates instead of shorter periods, like a month.
Here's a simpler explanation, breaking it down into two main reasons:
1. Numerator Reason (Indirect-Cost Pool):
This is about smoothing out seasonal or erratic costs over the year.
 Seasonal Costs: Some costs, like heating during winter, only occur in
certain seasons. If you calculate indirect-cost rates monthly, these
costs would only be charged during the winter months, making those
months more expensive.
o Example: If heating costs are only added during December, any
product made in December would seem more expensive than
those made in summer. But heating benefits the whole business
throughout the year.
 Nonseasonal Erratic Costs: Sometimes, costs like equipment repairs
or vacation pay happen randomly throughout the year. If you calculate
rates monthly, jobs done in those high-cost months would be unfairly
charged more.
o Example: If you repair a machine in May, only the products
made in May would be charged for that repair, even though the
repair benefits the rest of the year as well.
Solution: Using a full year to calculate indirect-cost rates smooths out these
irregular costs and creates a fairer, more consistent rate.
2. Denominator Reason (Quantity of the Cost-Allocation Base):
This is about avoiding big fluctuations in costs due to varying
production levels each month.
 Fluctuating Production: In busy months, a business produces more,
while in slow months, production is lower. However, fixed costs (like
rent or salaries) stay the same every month. If you calculate indirect
costs monthly, those fixed costs would be spread over fewer products
during slow months, making the cost per unit much higher.
o Example: Imagine two tax accountants, Reardon and Pane, who
are very busy during tax season and slow afterward. In a high-
output month, they have 3,200 labor hours, and in a low-output
month, only 800 labor hours.
  In the busy month: Total indirect costs ($100,000) spread
over 3,200 hours result in a rate of $31.25 per hour.
 In the slow month: Total indirect costs ($70,000) spread
over only 800 hours result in a rate of $87.50 per hour.
 Jobs done in the slow month would cost nearly 3 times
more per hour just because fewer hours were worked!
 Unfair Rates: This creates a problem, especially if fees for jobs are
based on costs. If you charge more for jobs done in slow months
(because of higher indirect costs), you might lose business when you
actually want to take on more work to fill your idle time.
Solution: Using an annual rate averages the indirect costs over the entire
year, preventing these big fluctuations. This makes it more representative of
the true costs, giving managers a better idea of overall costs and capacity.
Summary:
 Numerator Reason: Smoothing seasonal or irregular costs over the
year makes the rate more consistent.
 Denominator Reason: Using a full year helps avoid unfairly charging
higher costs during slow months and lower costs during busy months,
keeping rates more balanced.

Normal Costing
Normal costing is a method used by businesses to estimate job costs more
accurately and promptly throughout the year. It provides a close
approximation of costs without waiting for year-end actual data, helping
managers make decisions on pricing, cost control, and bidding on new jobs
as they go. Here's a simpler explanation of how normal costing works:
Why Use Normal Costing?
 Timely Decision-Making: Managers, like those at Robinson
Company, need to know the costs of ongoing jobs regularly during the
year. They can't wait until the fiscal year ends to get the actual cost
data. Immediate access to job costs is crucial for:
o Setting prices for jobs
o Monitoring and controlling costs
o Evaluating the success of a project
 o Learning from past jobs to improve
o Bidding on new jobs
o Preparing financial reports during the year
 Predetermined Rates: To achieve this, companies calculate a
budgeted (predetermined) indirect-cost rate at the beginning of
the fiscal year. This allows them to allocate overhead costs to jobs as
work progresses, instead of waiting for actual figures.
What is Normal Costing?
In normal costing, costs are assigned to jobs using the following approach:
1. Direct Costs: These are traced directly to the job using the actual
cost rates for things like materials and labor. For example, the actual
price paid for materials or the actual wages of workers are recorded
and charged to each job.
2. Indirect Costs (Overhead): These are allocated to jobs using
budgeted indirect-cost rates. The budgeted rate is calculated at the
start of the year, and it's multiplied by the actual amount of the cost-
allocation base (such as labor hours or machine hours) used in each
job.
Budgeted indirect cost rate=Budgeted annual indirect cost/Budgeted
annual quantity of the cost-allocation base
7 Steps of Normal Costing (Illustrated with Robinson Company
Example):
Robinson Company, like other companies, would follow these general steps
to allocate costs using normal costing:
1. Identify the cost object: The specific job or project you are tracking
costs for (e.g., manufacturing a machine for a client).
2. Identify direct costs: These could be direct materials and direct
labor specifically used for the job.
3. Select cost-allocation bases: Decide how you will allocate indirect
costs, like overhead. This could be based on direct labor hours,
machine hours, or another base.
4. Identify indirect costs for each cost pool: For instance, Robinson
might group all factory overhead costs into one pool.
 5. Calculate the budgeted indirect-cost rate: Divide the total
budgeted overhead for the year by the total expected amount of the
cost-allocation base (e.g., machine hours).
6. Allocate indirect costs to the job: Multiply the budgeted indirect-
cost rate by the actual number of labor or machine hours used by that
job.
7. Add direct and indirect costs: Combine both direct and allocated
indirect costs to get the total job cost.
Example:
 Direct Costs: Suppose Robinson needs $2,000 worth of steel and 50
hours of labor to build a machine. The actual labor rate is $20 per hour.
So, direct costs would be:
o Steel: $2,000
o Labor: $20 × 50 hours = $1,000
o Total Direct Costs: $3,000
 Indirect Costs: The company calculates a budgeted indirect cost rate
of $50 per machine hour. If this job used 40 machine hours, the
indirect costs allocated to the job would be:
o $50 × 40 machine hours = $2,000
 Total Job Cost:
o Direct costs: $3,000
o Indirect costs: $2,000
o Total cost of the job: $5,000
By using normal costing, Robinson can estimate job costs more quickly
during the year, helping them make better decisions on how to manage each
job.
Steps for Job Costing:
1. Identify the Job: The job in question is WPP 298, where Robinson
manufactures a paper-making machine for a customer.
2. Direct Costs:
o Direct Materials: The materials used for the job, like metal
brackets, are tracked through a materials-requisition record.
o Direct Labor: Labor costs, like employee hours and wages, are
recorded using a labor-time sheet.
3. Allocate Indirect Costs:
o Indirect Costs: These include things like factory utilities or
supervisors’ salaries that cannot be directly tied to a specific job.
o Cost Allocation: To allocate these costs, Robinson uses a
formula based on labor hours. The budgeted overhead costs for
2011 are divided by the total budgeted labor hours to get an
overhead rate ($40 per labor hour).
4. Calculate Total Indirect Costs: Multiply the actual labor hours used
on the job (88 hours) by the budgeted rate ($40), which gives $3,520
in overhead for this job.
5. Total Job Cost: Add up the direct materials ($4,606), direct labor
($1,579), and indirect costs ($3,520) to get the total cost of the job,
which is $9,705.
6. Gross Margin: Since Robinson bid $15,000 for the job and the total
cost was $9,705, the gross margin is $5,295, with a 35.3% profit
margin.
This system helps Robinson track the cost of the job and understand its
profitability.