Fundamentals of Managerial Accounting

Financial Accounting vs. Managerial Accounting

Accounting information is used for both external and internal purposes. Financial Accounting focuses on preparing financial statements for external users, while Managerial Accounting provides information for internal decision-making, planning, and control.

• Financial Accounting: Reports to external users (investors, creditors, regulators), follows GAAP, produces mandatory, historical, and summarized reports quarterly and annually.

• Managerial Accounting: Reports to internal users (managers), not bound by GAAP, produces detailed, flexible, and future-oriented reports as needed.

Product Costs vs. Period Costs

Costs are classified as Product Costs or Period Costs for financial and managerial purposes. Product costs are capitalized as assets and expensed when sold; period costs are expensed as incurred.

• Product Costs: Costs to acquire or produce inventory (e.g., raw materials, labor, overhead). Remain on the Balance Sheet until inventory is sold, then expensed as Cost of Goods Sold.

• Period Costs: Costs not directly tied to production (e.g., office rent, salaries, insurance). Expensed immediately as Selling, General, and Administrative (SG&A) expenses.

Inventory Cost Flow for Merchandisers

Merchandisers purchase inventory and sell it without modification. The flow of inventory is tracked from purchase to sale, affecting both the Balance Sheet and Income Statement.

• Beginning Inventory + Purchases = Goods Available to Sell

• Ending Inventory is reported on the Balance Sheet

• Cost of Goods Sold is reported on the Income Statement

Direct vs. Indirect Costs

Costs assigned to a cost object (product, service, department) are classified as Direct or Indirect (Overhead).

• Direct Costs: Easily traced to a cost object (Direct Materials, Direct Labor).

• Indirect Costs (Overhead): Not easily traced; benefit multiple cost objects (Indirect Materials, Indirect Labor, other overhead).

Overhead Allocation

Overhead is allocated using a Predetermined Overhead Rate (PDOH):

• Calculated as:

• Allocated Overhead:

Total Cost Calculation for Cost Objects

To estimate the total cost of a product or service, sum direct materials, direct labor, and allocated overhead:

Example: Service Firm

• Direct Materials: $1,000

• Direct Labor:

• Allocated Overhead:

• Total Cost:

Cost Flow in Manufacturing

Manufacturers track product costs through three inventory accounts: Raw Materials, Work-in-Process, and Finished Goods. Costs flow from purchase to production to sale.

• Raw Materials Inventory: Tracks materials purchased and used.

• Work-in-Process Inventory: Tracks costs of products in production (direct materials, direct labor, allocated overhead).

• Finished Goods Inventory: Tracks completed products ready for sale.

Example: Shoe Fly, Inc.

• Raw Materials: Began with $5,000, purchased $45,000, used $37,000 direct and $3,000 indirect materials.

• Work-in-Process: Began with $8,000, added $37,000 direct materials, $60,000 direct labor, $30,000 overhead, ended with $15,000.

• Finished Goods: Began with $80,000, added $120,000 cost of goods manufactured, ended with $40,000.

Job-Order Costing vs. Process Costing

Manufacturers use different costing systems based on their operations:

• Job-Order Costing: Used for unique or custom products/services; costs accumulated by job (e.g., contractors, hospitals).

• Process Costing: Used for mass-produced identical items; costs accumulated by process (e.g., food producers, oil refineries).

Additional info: Job-order costing is ideal for industries with distinct, traceable jobs, while process costing suits continuous production environments.