ACCTBA3 FINALS REVIEWER Line positions: directly related to the

achievement of the basic objectives of

I. CHAPTER 1: MANAGERIAL ACCOUNTING AND an organization
THE BUSINESS ENVIRONMENT Example: production
supervisors in a
Globalization manufacturing plant
The marketplace is becoming increasingly global Staff positions: support and assist line
o Reductions in barriers to free trade (tariffs, positions
quotas, etc) Example: cost accountants in
o Improvements in global transportation the manufacturing plant
o Expansion of the Internet o Chief Financial Officer
o Increasing sophistication in international Provides timely and relevant data to
markets support planning and controlling
Effects of globalization activities
o Greater and wider competition Prepares financial statements for
o Greater access to new markets, customers and external users
workers
o More variety of goods and services for Process Management
consumers Business Process
The Internet and globalization o A series of steps that are followed in order to
o The internet provides companies with greater carry out some task in a business
access to geographically dispersed customers, Value Chain
employees and suppliers o Consists of the major business functions that
However, 78% of the population was add value to a companys products and services
still not connected to the Internet. Business functions making up the value chain
R Product Manufacturi Market Distributi Custo
Strategy and Design ng ing on mer
A game plan that enables a company to attract D Service
customers by distinguishing itself from competitors Three approaches to improving business processes
Customer Value Propositions o Lean Production
o Customer Intimacy o Theory of Constraints
Understand and respond to individual o Six Sigma
customer needs Traditional push manufacturing company
o Operational Excellence Strategy Make sales from
Deliver products and services faster, Forecast sales finished goods
more conveniently, and at lower prices inventoy
o Product Leadership Strategy
Offer higher quality products Order components Store inventory

Organizational Structure
Produce goods in
Decentralization Store inventory anticipation of
o Delegation of decision-making authority sales
throughout an organization Lean Production
Can be done by giving managers the o Lean thinking model
authority to make decisions relating to Five-step management approach
their area of responsibility 1. Identify value in
Corporate Organization Chart specific
products/services
o Shows how responsibility is divided (chain of
command) 5. Continuously 2. Identify business
pursue perfection process that delivers
Board of Directors in business process value

President
4. Create a pull 3. Organize
system work
Vice President Chief Financial arangements
Puchasing Personnel Operations Officer

Results in a pull manufacturing

Treasurer Controller system that reduces inventories and
wasted effort, decreases defects, and
o Depicts the line and staff positions in an shortens customer response times
organization
 Customer places an Goods delivered Provide accurate, clear, concise, and
order when needed timely decision support information
o Confidentiality
Do not disclose (and ensure
Create production Production begins
order as parts arrive subordinates do not disclose)
confidential information unless legally
Generate obligated
component Components are Do not use confidential information
requirements
ordered
for unethical or illegal advantage
o Integrity
o Lean thinking can be used to improve business Mitigate conflicts of interest and advise
processes that link companies together others of potential conflicts
o Supply Chain Management Abstain from activities that might
Coordination of business processes discredit the profession
across companies to better serve end Refrain from conduct that would
consumers prejudice carrying out duties ethically
Theory of Constraints o Credibility
o Based on the observation that effectively Communicate information fairly
managing the constraint is the key to success Disclose delays or deficiencies
Constraint (bottleneck): anything that Disclose all relevant information that
prevents you from getting more of could influence a users understanding
what you want. of reports and recommendations
Determined by the step that has the IMA Guidelines for Resolution of an Ethical Conflict
smallest capacity o Follow employers established policies
o For an unresolved ethical conflict:
1. Identify the Discuss conflict with immediate
weakest link supervisor or next highest uninvolved
manager
If immediate is CEO,
4. Recognize that 2. Allow the
the weakest link is weakest link to set consider BoD or the audit
no longer so the tempo committee
Contact with levels above the
immediate supervisor should only be
3. Focus on
improving the done with the supervisors knowledge
weakest link Except where legally prescribed,
Six Sigma maintain confidentiality
o Relies on customer feedback and fact-based data Clarify issues in a confidential
gathering and analysis techniques to drive discussion with an objective advisor
process improvement Consult an attorney as to legal
o Refers to a process that generates no more than obligations
3.4 defects per million opportunities Why have ethical standards?
o Sometimes associated with the term zero defects. o These are essential for a smooth functioning
o DMAIC Framework economy
Stage Goals o Without ethical standards will lead to a lower
Define Establish scope and purpose quality of life with less desirable goods and
Diagram the flow services at higher prices
Establish customers requirements
Corporate Governance
Measure Gather baseline performance data
The system by which a company is directed and
Narrow the scope of the project to the most controlled
important problems
Boards of directors provide incentives and monitoring
Analyze Identify root cause(s) of the problems for top management to pursue objectives of
Improve Develop, evaluate and implement solutions stockholders.
Control Ensure problems remain fixed
Seek to improve the new methods over time Enterprise Risk Management
IMAs Code of Conduct for Management Accountants Process used by a company to proactively identify and
IMA Guidelines for Ethical Behavior manage risk
o Competence Once a company identifies its risks, specific controls may
Recognize and communicate be implemented to reduce these risks
professional limitations
Follow applicable laws Corporate Social Responsibility
 Concept whereby organizations consider the needs of all Prime Cost = Direct Labor + Direct Material
stakeholders when making decisions Conversion Cost = Direct Labor + Manufacturing
Extends beyond legal compliance to include voluntary Overhead
actions that satisfy stakeholder expectations
Nonmanufacturing Costs (PERIOD COSTS)
II. CHAPTER 2: MANAGERIAL ACCOUNTING AND Selling costs
COST CONCEPTS o Necessary to secure the order and deliver the
product
Work of Management Administrative costs
Planning o Executive, organizational and clerical costs
Develop
Identify Select budgets to Income Statement
alternatives alternative guide Format for Merchandising
progress
Directing and Motivating
o Involves managing day-to-day activities to keep
the organization running smoothly
Controlling
o Ensuring that plans are being followed
o Feedback in the form of performance reports
that compare actual results with the budget are
an essential part of the control function
Planning and Control Cycle
Formulating
long- and short-
term plans

Comparing actual to Decision Implementing Format for Manufacturing

planned Making plans
performance

Measuring
performance

Comparison of Financial and Managerial Accounting

Financial Managerial
Users External persons who Managers who plan for
make financial and control an
decisions organization
Time focus Historical perspective Future emphasis
Verifiability Verifiability Relevance for planning
vs. relevance and control
Precision vs. Precision Timeliness
timeliness Schedule of Cost of Goods Manufactured
Subject Focus is on the whole Focuses on segments of
organization an organization
GAAP Required Not required
Requirement Mandatory for external Optional
reports

Manufacturing Costs (PRODUCT COSTS)

Direct Materials (Direct Cost)
o Raw materials that can be conveniently traced
directly to the finished product
Direct Labor (Direct Cost)
o Labor costs that can be easily traced to
individual units of product
Manufacturing Overhead (Indirect Cost)
o Cannot be traced directly to the specific units Cost Behavior
produced (indirect materials and indirect labor; How a cost will react to changes in the level of activity
support) within the relevant range
 Variable Costs vs. Fixed Costs Job Order Costing Overview
Behavior of Cost (within the relevant range)
Cost In Total Per Unit
Direct Materials
Variable Total variable cost Variable cost per unit Job 1
changes as activity level remains the same over
changes wide ranges of activity
Direct Labor Job 2
Fixed Total fixed cost Average fixed cost per
remains the same even unit goes down as
when activity level activity level goes up Job 3
changes Manufacturing
Overhead
Differential Cost and Revenue
Costs and revenues that differ among alternatives Direct materials and direct labor costs are charged to each
job as work is performed
Opportunity Cost Manufacturing overhead, including indirect materials and
Potential benefit that is given up when one alternative is indirect labor, are allocated rather than directly traced to
selected over another each job
Job Cost Sheet
Sunk Costs
Costs that have already been incurred and cannot be
changed now or in the future
These costs should be ignored when making decisions

Summary of the Types of Cost Classifications

Financial reporting
Predicting cost behavior (variable/fixed)
Assigning costs to cost objects (direct/indirect)
Making business decisions

III. CHAPTER 3: SYSTEMS DESIGN: JOB-ORDER

COSTING Applying Manufacturing Overhead
An allocation base (a measure such as direct labor-hours
Types of Product Costing Systems or machine-hours that is used to assign overhead costs to
Process Costing products and services) is used because:
o Production of many units of a single, o It is impossible/difficult to trace overhead costs
homogenous product to particular jobs
o The identical nature of each unit of product o Manufacturing overhead consists of many
enables assigning the same average cost per unit different items
o Basic formula for process costing: o Many times of manufacturing overhead costs are
fixed in spite of output fluctuation
Predetermined overhead rate
o Determined before the period begins
o Enables estimation of total job costs sooner, as
Job-Order Costing actual overhead is not known until the end of
o Usually used in service-oriented industries the period
o Many different products are produced each o Formula:
period
o Manufactured to order
o The unique nature of each order requires tracing
or allocating costs to each job, and maintaining
cost records for each job. Applied Manufacturing Overhead
Comparison
Job-Order Process
Number of jobs worked Many Single Product Note: we use Applied MOH for the COGM schedule.
Cost accumulated by Job Department
Average cost computed by Job Department
 Job-Order Costing Document Flow Summary Underapplied overhead
o Actual MOH > Applied MOH
Production Materials
Sales Order Overapplied overhead
Order requisition
o Actual MOH < Applied MOH
form*
Allocation of under/overapplied OH
Employee
time ticket* If MOH is: ALTERNATIVE 1 ALTERNATIVE 2
Job cost Close to COGS Allocation
sheet Increase Increase
Production Underapplied WIP
Order COGS Finished Goods
COGS
*Note: Indirect materials and indirect labor are first included in the
Decrease Decrease
manufacturing overhead account before the job cost sheet
Oveapplied WIP
COGS Finished Goods
Flow of Costs and Applying Manufacturing Overhead COGS
T-account format ; Journal Entries
New format used for COGM and COGS!
Raw Materials
Material DM
Purchases IM

Work In Process
(Job Cost Sheet)
DM
DL
Overhead
Applied

Salaries and Wages

Payable
DL
IL

Mfg. Overhead
Actual Applied
IM OH
IL applied to
Others WIP

Accounting for Nonmanufacturing Cost

These costs are not assigned to individual jobs, rather
they are expensed in the period incurred.
Debit expense, credit asset/liability

Transferring Completed Units

T-account format ; Journal Entries
Work In Process
(Job Cost Sheet)
DM
DL COGM
Overhead
Applied

Finished Goods
COGM COGS

Cost of Goods Sold

COGS

Overhead Application Problems

 Total Cost
Cost Per
Unit

Activity Level Activity Level

Step-variable cost
o Cost of a resource that is obtained in large
chunks and that increases or decreases only in
response to fairly wide changes in activity
Small changes in production are unlikely to
have any effect on the number of workers
employed
Only wide changes in activity
Cost level will cause a change in
the number of workers
employed

Activity Level

The Linearity Assumption and the Relevant Range

We assume a strictly
linear relationship
between cost and volume
Relevant Range
o Range of activity
within which the
assumptions are
reasonably valid

IV. CHAPTER 5: COST BEHAVIOR: ANALYSIS AND Fixed Costs

USE A cost whose total dollar amount remains constant as the
activity level changes
Variable Costs Average fixed cost per unit decrease as the activity level
Cost driver increases
o A measure of what causes the incurrence of a
variable cost
Units produced Total Cost
Per
Machine hours Cost
Unit
Labor hours
Miles driven, etc.
Activity Level Activity Level
Examples of variable costs
Types of fixed costs
Merchandising o Committed: long-term, cannot be significantly
Merchandising Manufacturing And Service reduced in the short term
Manufacturing Depreciation, real estate taxes
o Discretionary: may be altered in the short-term
>Cost of >Direct >Commissions >Supply
by current managerial decisions
goods sold materials >Shipping >Travel
>Direct labor costs >Clerical Advertising, research and development
>Variable >Clerical costs Fixed Costs and the Relevant Range
overhead o The relevant range of activity for a fixed cost is
the range of activity over which the graph of the
cost is flat
True variable cost o Concludes that discretionary and committed
o Total variable cost is directly proportional to the fixed costs are really just step-variable costs
activity level In the long run, almost all costs can be
o Variable cost per unit is constant adjusted
o Difference with step-variable costs
Step-variable costs can often be
adjusted quickly as conditions change
 Width of the steps in step-variable Use both the highs and
costs is much narrower lows to ensure that the
value of a is constant
Releva
nt Substitute the values of b and a in the
general formula
Cost Range
Least-Squares Regression Method
o Method used to analyze mixed costs if a
Volume scattergraph plot reveals an approximately linear
relationship between X and Y variables
Summary of Cost Behavior Patterns o Uses all of the data points to estimate the fixed
and variable cost components of a mixed cost
Cost In Total Per Unit o Provides a statistic called R2, which is a measure
Total variable cost is Variable cost per unit of the goodness of fit of the regression line to
Variable proportional to the remains the same over the data points.
activity level within the ranges of activity o Goal: to fit a straight line to the data that
relevant range minimizes the sum of the squared errors
Total fixed costs remain Average fixed costs per
Fixed the same even when the unit decrease as the
activity level changes activity level increases
within the relevant range

Mixed Costs (semivariable costs)

Contains both variable and fixed cost elements
Can be expressed as an equation

o Y = total mixed cost

o a = Total fixed cost
o b = Variable cost per unit of activity (slope)
Can be obtained with the formula:

o X = The level of activity

Mixed Cost
Slope = Contribution Format
variable
cost/unit
Total Variable cost element
Cost

Intercept = total Fixed cost element

fixed cost
Activity Level

Analysis of Mixed Costs

o Account analysis
Each account is classified as either The contribution margin format emphasizes cost
variable or fixed based on the analysts behavior. Contribution margin covers fixed costs and
knowledge of how the account behaves provides for income.
o Engineering approach Used primarily by management
Classifies costs based upon an
industrial engineers evaluation of
product methods, and material, labor
and overhead requirements
High-Low Method
o Steps:
Find b (variable cost per unit) with the
formula:

Find a (fixed cost) with the (derived)

formula:
 CVP Graph

Fixed expense

Contribution Margin Ratio

Application

Variable Expense Ratio

Formula

Application

Break-Even Analysis

Target Profit

V. COST-VOLUME-PROFIT RELATIONSHIPS
Margin of Safety
CVP Relationships in Equation Form The excess of budgeted (or actual) sales over the break-
Profit formula even volume of sales

Unit CM formula
 Cost Structure and Profit Stability
Cost structure refers to the relative proportion of fixed
and variable costs in an organization.
High fixed cost (or low variable cost) structures
Advantage Disadvantage
> Income will be higher in > Income will be lower in bad
good years compared to years compared to companies
companies with lower with lower proportion of fixed
proportion of fixed costs costs
Companies with low fixed cost structures enjoy greater
stability in income across good and bad years.
Operating Leverage
Measure of how sensitive net operating income is to
percentage changes in sales
Concept of Sales Mix
Sales mix the relative proportion in which a companys
products are sold
Different products = different selling prices, cost
structures and contribution margin
Setting Standard Costs
Accountants, engineers, purchasing agents, and
production managers combine efforts to set standards
that encourage efficient future operations
Setting Direct Material Standards
Price Standards: final, delivered cost of materials, net of
discounts
Quantity Standards: summarized in a Bill of Materials
Setting Direct Labor Standards
Rate Standards: often a single rate is used that reflects the
mix of wages earned
Time standards: use time and motion studies for each
labor operation
Setting Manufacturing Overhead Standards
Rate Standards: the rate is the variable portion of the
predetermined overhead rate
Quantity Standards: the quantity is the activity in the
allocation base for predetermined overhead
Standard Cost Card

Key Assumptions of CVP Analysis A B AxB

Standard Standard Standard
Selling price is constant Quantity Price Cost
Costs are linear and can be accurately divided into Inputs or Hours or Rate per Unit

variable (constant per unit) and fixed (constant in total) Direct materials 3.0 lbs. $ 4.00 per lb. $ 12.00
Direct labor 2.5 hours 14.00 per hour 35.00
elements Variable mfg. overhead 2.5 hours 3.00 per hour 7.50

In multiproduct companies, the sales mix is constant. Total standard unit cost $ 54.50

In manufacturing companies, inventories do not change.

Price and Quantity Standards
VI. CHAPTER 11: STANDARD COSTS AND OPERATING Determined separately for the following reasons:
PERFORMANCE MEASURES o The purchasing manager is responsible for raw
material purchase prices; the production
Standard Costs manager is responsible for the quantity of raw
Standards: benchmarks or norms for measuring materials used
performance o Buying and using activities occur at different
o Quantity standards: specify how much of an times. Raw material purchases may be held in
input should be used to make a product or inventory for a period of time before using.
provide a service
o Price standards: specify how much should be General Model for Variance Analysis
paid for each unit of input Variance
Management by exception: practice in which deviations Analysis
from standards deemed significant are brought to the
attention of management Quantity
Price Variance
Variance
Variance Analysis Cycle
1. Prepare standard Difference Materials PV Difference Materials QV
cost performance between between
Labor Rate Labor efficiency
report actual price actual
and
PV quantity and variance
6. Conduct next 2. Analyze standard VOH Rate standard VOH efficiency
period's variances price variance quantity variance
operations

5. Take corrective 3. Identify

actions questions

4. Receive
explanations
 FORMULAS (Shortcut, as taught by Sir Drex ) Emphasis on negative may impact morale
Continuous improvement may be more important than
meeting standards

Examples
Standard example

Responsibility for Material Variance

Materials Quantity Variance: Production Manager
Materials Price Variance: Purchasing Manager
o The standard price is used to compute the
quantity variance so that the production
manager is not held responsible for the
purchasing managers performance

Responsibility for Labor Variances In which materials purchased materials used

Production managers are usually held accountable, for
they can influence:
o Mix of skill levels assigned to work tasks
o Level of employee motivation
o Quality of production supervision
o Quality of training provided to employees

Variance Analysis and Management by Exception

Larger variances are investigated first
Plotting variance analysis data on a statistical control chart
is helpful in investigation decisions
Advantages of Standard Costs
Management by exception
Promotes economy and efficiency
Enhances responsibility accounting
Simplified bookkeeping

Potential Problems with Standard Costs

Emphasizing standards may exclude other important
objectives
Standard cost reports may not be timely
Invalid assumptions about the relationship between labor
cost and output
Favorable variances may be misinterpreted
 VII. CHAPTER 12: SEGMENT REPORTING,
DECENTRALIZATION AND THE BALANCED
SCORECARD

Decentralization
Benefits
o Top management can concentrate on strategy
o Lower-level managers gain experience in
decision-making
o Decision-making authority leads to job
satisfaction
o Lower-level decisions often based on better
information
o Lower level managers can respond quickly to
customers
Disadvantages
o May be a lack of coordination among
autonomous managers
o Lower-level managers may make decisions
without seeing the big picture
o Lower-level managers objective may not be
those of the organization
o May be difficult to spread innovative ideas in the
organization

Responsibility Center
Cost Center
o Segment whose manager has control over costs,
Backtracking but not over revenues or investment funds
Profit center
o Segment whose manage has control over both
costs and revenues, but not investment funds
Investment center
o Segment whose manager has control over costs,
revenues, and investments in operating assets

Decentralization and Segment Reporting

Segment: any part or activity of an organization about
which manager seeks cost, revenue or profit data

Segmented Income Statements

Two keys to building:
o Contribution format should be used because it
separates fixed from variable costs, and enables
calculation of contribution margin
o Traceable fixed costs should be separated from
common fixed costs to enable the calculation of
a segment margin
o Common costs should not be allocated to the
divisions, as these would remain even if one of
the divisions were eliminated
 Income Statement Examples
Company Television Computer Standard
Sales $ 500,000 $ 300,000 $ 200,000
Variable costs 230,000 150,000 80,000
CM 270,000 150,000 120,000
Traceable FC 170,000 90,000 80,000
Division margin 100,000 $ 60,000 $ 40,000
Common costs 25,000
Net operating
income $ 75,000

Identifying Traceable Fixed Costs

Traceable costs arise because of the existence of a
particular segment and would disappear over time if the
segment itself disappeared.
Common costs arise because of the overall operation of
the company, and would not disappear if any particular
segment were eliminated.

Segment Margin
Computed by subtracting the traceable fixed costs from
its contribution margin
Best gauge of the long-run profitability of a segment

Return on Investment
Measures net operating income earned relative to the
investment in average operating assets
Formulas

Increasing ROI Backtracking

o Increase sales
o Reduce expenses
o Reduce assets
Net book value: used by most companies to calculate
average operating assets

Residual Income
Another measure of performance
Measures net operating income earned less the minimum
required return on average operating assets
Encourages managers to make profitable investments that
would be rejected by managers using ROI
Disadvantage: Cannot be used to compare the
performance of divisions of different sizes
Formula
 With Analysis
VIII. APPENDIX 12-A TRANSFER PRICING
Key Concepts
Transfer price: price charged when one segment of a
company provides goods or services to another segment
Objective: motivate managers to act in the best interests
of the overall company
Three approaches
o Negotiated transfer prices
o Transfers at the cost to the selling division
o Transfers at market price
Negotiated Transfer Prices
Results from discussions between the selling and buying
divisions
Advantages:
o Preserve the autonomy of divisions consistent
with decentralization
o Managers are likely to have better information
about potential costs and benefits
Range of Acceptable Transfer Prices
o Upper limit: buying division
o Lower limit: selling division
Formulas (Sir Drexs formulas )
o Selling Division (Lower limit, LL)
o Buying Division (Upper limit, UL)
Evaluation
o If an intracompany would result in higher
profits, there is always a range of transfer prices
within which both the selling and buying
divisions would have higher profits should they
agree to the transfer
o If managers are pitted against each other rather
than against their past performances, a no
cooperative atmosphere is almost guaranteed
o Given disputes that accompany the negotiation
process, most rely on other means of setting
transfer prices.
Transfers at the Cost to the Selling Division
Many companies set transfer prices at either the variable
cost or full (absorption) cost incurred by the selling
division
Drawbacks
o Using full cost can lead to suboptimization
o Selling division will never show a profit on any
internal transfer
o Cost-based transfer prices do not provide
incentives to control costs
Transfers at Market Price
Market price (price charged for an item on the open
market) : often regarded as the best approach to the
transfer pricing problem
Works best when the product or service is sold in its
present for to outside customers and the selling division
has no idle capacity
Does not work well when the selling division has idle
capacity
Divisional Autonomy and Suboptimization
Managers should be granted autonomy to set transfer
prices and decide whether to sell internally or externally,
even if it may result in suboptimal decisions
 Example the data at hand and isolate the relevant costs in each
situation.

Relevant Cost Analysis

Step 1: Eliminate costs and benefits that do not differ
between alternatives
Step 2: Use the remaining costs (avoidable costs) and
benefits to make a decision.

Total and Differential Cost Approaches

Only rarely will enough information be available to
prepare detailed income statements for both alternatives
Mingling irrelevant costs with relevant costs may cause
confusion and distract attention from critical information
General Formula for Differential Cost

Adding or Dropping Segments

Formula

Make or Buy Analysis

When a company is involved in more than one activity in
the entire value chain, it is vertically integrated
o Advantages
Smoother flow of parts and materials
Better quality control
Realize profits
o Disadvantage
Companies may fail to take advantage
of supplies who can create economies
of scale advantage by pooling demand
A company must be careful to retain
control over activities that are essential
to maintaining its competitive position
Formula

Whichever is lower should be accepted.

Opportunity Cost: benefit that is forgone as a result of

pursuing some course of action
o Not actual cash outlays and not recorded in the
IX. CHAPTER 13: RELEVANT COSTS FOR DECISION formal accounts of an organization
MAKING Special Orders
Special Order: one-time order that is not considered part
Relevant Cost: cost that differs between alternatives of the companys normal ongoing business
Types of relevant costs Only incremental costs and benefits are relevant
o Avoidable costs Since manufacturing overhead costs would not be
Types of irrelevant costs affected by the order, they are not relevant.
o Unavoidable costs Formula
o Sunk costs
o Future costs that do not differ between
alternatives
Costs that are relevant in one situation may not be
relevant in another context. The manager must examine
Examples Make or Buy Analysis
Dropping Segments

Special Orders
 Total Cost It is profitable to continue processing a joint product
after the split-off point so long as the incremental
Situation Differential
Current With New Costs and revenue from such processing exceeds the incremental
Situation Machine Benefits processing costs incurred after the split-off point
Sales (5,000 units @ $40 per unit) $ 200,000 $ 200,000 -
Less variable expenses: General formula
Direct materials (5,000 units @ $14 per unit) 70,000 70,000 -
Direct labor (5,000 units @ $8 and $5 per unit) 40,000 25,000 15,000
Variable overhead (5,000 units @ $2 per unit) 10,000 10,000 -
Total variable expenses 120,000 105,000 -
Contribution margin 80,000 95,000 15,000
Less fixed expense:
Other 62,000 62,000 -
Rent on new machine - 3,000 (3,000)
Total fixed expenses 62,000 65,000 (3,000)
Net operating income $ 18,000 $ 30,000 12,000

Differential Cost
If there is profit, process further. If loss, sell at split-off
Net Advantage to Renting the New Machine point.
Decrease in direct labor costs (5,000 units @ $3 per unit) $ 15,000
Increase in fixed rental expenses (3,000)
Net annual cost saving from renting the new machine $ 12,000 Examples
Managing Constraints

Constrained Resources
Constraint: limited resource of some type restricts a
companys ability to satisfy demand
Bottleneck: machine or process that limits overall output
Utilization
o Fixed costs are usually unaffected, so the
product mix that maximizes the companys total
contribution margin should be selected
o A company should not necessarily promote
those products with highest unit CM
o Total CM will be maximized by promoting
products or accepting orders that provide the
highest CM in relation to the constraint
General formula

Several Methods on Managing Constraints

Working overtime on the bottleneck
Subcontracting some of the processing
Investing in additional machines
Shifting workers to the bottleneck
Focusing business process improvement efforts on the
bottleneck
Reducing defective units processed

Joint Costs
Two or more products produced from a common input
Traditionally allocated among different products at the
split-off point
o Split-off point: point in the manufacturing
process where each joint product can be
recognized as a separate product
o Typical approach: allocated joint costs according
to relative sales value of the end products
Can be dangerous for decision making

Sell or Process Further

Joint costs are considered irrelevant here
 Sell or Process Further

Per Log
Lumber Sawdust
Sales value at the split-off point $ 140 $ 40

Sales value after further processing 270 50

Allocated joint product costs 176 24
Analysis of Sell or Process Further
Cost of further processing 50 20
Per Log
Lumber Sawdust

Sales value after further processing $ 270 $ 50

Sales value at the split-off point 140 40
Incremental revenue 130 10
Cost of further processing 50 20
Profit (loss) from further processing $ 80 $ (10)

o In this case, the lumber should be processed

further and the sawdust should be sold at split-
off point.

REMINDERS:
Do not forget to bring the ff:
o CALCULATOR
o Ruler
o Assignment notebook
Please dont rely on this reviewer alone! This is just a
summarized version of the PPTs STUDY WELL! And
best of luck!