Level 2 Costing

• What is the purpose of costing?


  It enables the managers of a business to know the cost of a firm's output and the revenue of sales
• How can managers use cost accounting?


  help determine a selling price

  value inventory

  provide info for financial documents

  make management decisions
• A costing system is used by an organisation to collect information about costs and use that information for decision making, planning & control
• Financial Accounting is recording transactions that have happened already
• Management Accounting consists of looking at current costs & looking into the future
• What are the 3 elements of cost?


  Materials

  Overheads

  Labour
• What are the types of costs by function?

  Production

  Administration

  Selling & distribution

  Finance
• How do you classify costs by nature?


  They are either direct costs or indirect costs
• What is a direct cost?


  A cost which can be directly identified with each unit of output
• What is an indirect cost?


  A cost that cannot be identified directly with each unit of output
• What is a cost centre?


  Sections of an organisation to which costs can be charged
• What is a revenue centre?


  Sections of a business to which income can be identified
• What is a profit centre?


  Sections of a business to which costs can be charged, income can be identified and profit can be calculated
• What is an investment centre?


  Sections of an organisation where not only can information on income and costs be gathered, but also information on the amount of investment
• What are the 3 Absorption methods for overheads?

  Units of outputs method

  Direct labour method

  Machine hours method
• Units of Output Method


  budgeted overheads / budgeted units

  suitable for organisations where all units of output are identical (or very similar)
• Direct Labour Method


  budgeted overheads / budgeted direct labour hours

  
  

  absorbed overheads onto the products into proportion to the number of direct labour hours that each product should take to manufacture
• Machine Hours Method

  budgeted overheads / budgeted machine hours

  
  

  produce fairer results than direct labour hours
• Cost behaviour is the way in which costs alter with changes in the level of output or activity
• Fixed costs do not alter when the level of output or activity changes
• Variable costs change in proportion to the level of output or activity
• Semi-variable costs contain both a fixed element and a variable element
• 3 types of inventory

  Raw materials

  Work in Progress (WIP)

  Finished goods
• What are raw materials?


  The materials that have been bought by a manufacturing business and are ready to be transferred to the production area where they will be used to make the finished goods
• What is work in progress?


  It is comprised of part-finished products that are awaiting completion
• What are finished goods?


  These are manufactured items that have been completed and are ready for sale
• What is inventory valuation used for?


  Calculating the cost of items that have been used in the production process to make a finished product

  Calculating the cost of items that remain
• What are the 3 valuation methods?


  FIFO

  LIFO

  AVCO
• FIFO


  First in, First out

  The purchase price of the inventory that has been in the stores the longest is used to value the inventory that is issued from the stores

  Most recent cost prices
• LIFO


  Last in, First out

  The valuation of the inventory is based on the cost of the inventory that was most recently purchased

  Older cost prices
• AVCO


  Average Cost

  total of the goods in store / no. of items in store
• Calculation of Inventory Valuations


  Opening Inventory + Purchases of Raw Materials - Issues of Raw Materials = Closing Inverntory
• Organisations should make sure that they hold an appropriate level of inventory of the various materials they need. If they hold too much inventory, they risk storage and cash flow problems. If they hold too little inventory, they may run out and bring production to a halt.
• An organisation may draw up an inventory control policy to help manage the inventory level.
• Buffer stock is the extra amount of inventory that is held as a contingency in case things do not go to plan and there is a danger that inventory may run out.
• Lead time is the length of time between placing an order to purchase more material, and it actually arriving
• Re-order level is warehouse stock level at which the business will re-order
• Re-order quantity is the amount of material that should be ordered each time that an order is placed
• Opening Inventory +

  Purchases -

  Closing Inventory =

  DIRECT MATERIALS USED +

  Direct Labour =

  DIRECT COST +

  Manufacturing Overheads =

  MANUFACTURING COST +

  Opening Inv of WIP -

  Closing Inv of WIP =

  COST OF GOODS MANUFACTURED +

  Opening Inv of Finished Goods -

  Closing Inv of Finished Goods =

  COST OF GOODS SOLD
• A time rate is a payment based on time worked