HND in Business

Unit 5: Management Accounting

Lesson 2

Different types of management

accounting systems

By Shan Wikoon
Cost Accounting Systems
Knowing unit costs help
managers:

Set selling prices

that will lead to
profits

Compute cost of
goods sold for the
income statement

Compute the cost

of inventory for
the balance sheet
Cost Accounting Systems

A cost accounting system (also called product costing system or costing system)
is a framework used by firms to estimate the cost of their products for profitability
analysis, inventory valuation and cost control.
Estimating the accurate cost of products is critical for profitable operations. A firm
must know which products are profitable and which ones are not, and this can be
ascertained only when it has estimated the correct cost of the product.
Further, a product costing system helps in estimating the closing value of
materials inventory, work-in-progress and finished goods inventory for the purpose
of financial statement preparation.
Cost Accounting Systems

There are two main cost accounting systems:

1. Job order costing is a cost accounting system that accumulates
manufacturing costs separately for each job. It is appropriate for firms that are
engaged in production of unique products and special orders.

2. Process costing is a cost accounting system that accumulates

manufacturing costs separately for each process. It is appropriate for products
whose production is a process involving different departments and costs flow
from one department to another. For example, it is the cost accounting
system used by oil refineries, chemical producers, etc.
Job Costing and Process Costing Systems
 Job Order Costing
Job order A job order costing system
costing
system Unique is an accounting system that
products accumulates costs by job.

Costs
accumulated
by job A job is the production of a
unique product or
specialized service. May be
https://www.youtube.com/watch?v=Uw_52M9GLbg one unit or a batch of units.
Steps in job-order costing process
In a job-order costing system, jobs are accounted for using the
job-order cost sheet. The process involves the following steps:
1. Identification of the job
2. Tracing direct costs to the job
3. Identifying the indirect costs i.e. manufacturing overheads and
finding the cost allocation base for each cost.
4. Applying the indirect costs to the job using the pre-determined
allocation rate.
5. Finding total cost by summing up all the cost components.
6. Closing the under/over-applied manufacturing overheads to
cost of goods sold/income statement.
7. Calculating revenue and profit.
1. Job order costing
How Do Materials and Labor Costs Flow Through the
Job Order Costing System?

17-12
 How Do Service Companies Use a Job
Order Costing System?
Service companies do not have inventory or manufacturing
costs.
Trace direct labor to jobs.
Allocate overhead costs to jobs:
1. Compute the predetermined overhead allocation rate.
2. Allocate indirect costs to jobs, using the predetermined
overhead allocation rate.
Use the costing information to make pricing decisions.
 Process Costing

Process A process costing

costing system is an
system Identical accounting system that
units accumulates costs by
Costs process. It is used
accumulated when companies
by process manufacture identical
units.
https://www.youtube.com/watch?v=guZc84c5HNI
Job Order Costing Vs Process Costing
Flow of Costs Through a Process
Costing System
How Is a Production Cost Report
Prepared?
Hybrid cost accounting system

There are situations when a firm uses a combination of features of both

job-order costing and process costing, in what is called hybrid cost
accounting system. E.g. General Motors

Job order costing

for specialty cars

Process costing
for normal cars
 Inventory Management Accounting Systems

Inventory management deals with when to order and

how much to order. It aims to minimize the total cost of
inventories so as to generate high return.

If we hold more than the optimum level of inventory, we are incurring

considerable opportunity cost because the funds are tied up in
inventories. There are other explicit costs of holding inventory such as
storage costs, insurance costs, etc.
If we hold too little inventory we might have to place more orders and
incur more communication and transportation costs. Then is another
category of inventory costs: the stock out of costs. If we are too low
inventories we might run out of stock and might not be able to lose sales
and customers.
Tools of Inventory Management Accounting Systems

Economic order quantity model

Just-in-time system
Inventory Management systems
Economic order quantity model

What is an 'Economic Order Quantity - EOQ'

Economic order quantity (EOQ) is an equation for inventory that determines the ideal order quantity a company
should purchase for its inventory given a set cost of production, demand rate and other variables. This is done to
minimize variable inventory costs, and the formula takes into account storage, or holding, costs, ordering costs and
shortage costs. The full equation is as follows:

where :

S = Setup costs D = Demand rate P = Production cost I = Interest rate (considered an opportunity cost, so the
risk-free rate can be used)
http://www.investopedia.com/terms/e/economicorderquantity.asp
Economic order quantity model
 How Do Just-In-Time Management
Systems Work?
A just-in-time management system
reduces inventory costs.
Raw materials and finished goods are
completed just in time for delivery to
customers.
The cost of buying, storing, and moving
inventory can be significant for companies.
 How Do
Just-In-Time
Management
Systems Work?

19-24
 Just-in-Time Costing
Just-in-time costing is a costing system
that simplifies accounting for companies.
Tracks costs after the units are completed
Combines Raw Materials Inventory and
Work-in-Process Inventory into Raw and
In-Process Inventory
The Conversion Costs account combines direct
labor and manufacturing overhead costs.
19-25
Just-in-Time Costing

19-26
Recording Transactions in JIT
Price Optimization systems

Price Optimization systems are mathematical programs that calculate how

demand varies at different price levels, then combine that data with information
on costs and inventory levels to recommend prices that will improve profits.
Price Optimization systems
Price Optimization systems can be used to
tailor pricing for customer segments by
simulating how targeted customers will
respond to price changes with data-driven
scenarios. Given the complexity of pricing
thousands of items in highly dynamic market
conditions, modeling results and insights
helps to forecast demand, develop pricing and
promotion strategies, control inventory levels
and improve customer satisfaction.
Companies use Price Optimization systems to:

Price Optimization systems help businesses determine initial pricing,

promotional pricing and markdown (or discount) pricing:

Initial price optimization works well for companies with a stable base of
long life-cycle productsgrocery stores, drug chains, officesupply
stores and commodities manufacturers
Promotional price optimization helps set temporary prices to spur sales of
items with long life-cycles-newly introduced products, products bundled
together in special promotions and loss leaders
Markdown optimization helps businesses selling short lifecycle products
subject to fashion trends and seasonalityairlines, hotels, specialty
retailers and mass merchants
How Price Optimization systems work:

Price Optimization systems should factor in three critical pricing elements: pricing strategy, the
value of the product to both buyer and seller, and tactics that manage all elements impacting
profitability. Practitioners should:

Select the preferred optimization model and determine desired outputs and required inputs
Collect historical data, including product volumes, the company's prices and promotions,
competitors' prices, economic conditions, product availability, seasonal conditions and
fixed and variable cost details
Clarify the business's value proposition and set strategic rules to guide the modeling
process
Load, run and revise the model
Establish decision-making processes that incorporate modeling results without alienating
key decision makers
Monitor results and upgrade data input to continuously improve modeling accuracy
 How Do Companies Manage Quality
Using a Quality Management System?

A system that help managers improve the businesss performance

by providing quality products and services is called a quality
management system.

The goals of quality management systems are to:

Improve performance
Increase customer satisfaction
Increase profits
 The Four Types of Quality Costs
Prevention costs: Costs incurred to avoid poor-quality goods or
services.

Appraisal costs: Costs incurred to detect poor-quality materials,

goods, or services.

Internal failure costs: Costs incurred to correct goods or services

before delivery to customers.

External failure costs: Costs incurred after delivery to the

customer has occurred.
The Four Types of Quality Costs
Quality Improvement Programs
 End.

About the tutor...

Shan is an experienced HND tutor and assessor who works in London, UK. He has a Degree of Master
of Laws in Law of International Trade - University of Wales, a - Diploma in Business Administration, a
Degree of Bachelor of Law and a Diploma in Computing.

If your institution is in London and seeking reliable tutors, please contact Shan on
shanwikoon@gmail.com