Managerial Accounting

Weygandt, Kieso, & Kimmel

Prepared by
Karleen Nordquist..
The College of St. Benedict...
and St. Johns University...
with contributions by
Marianne Bradford..
The University of Tennessee...
Gregory K. Lowry.
Macon Technical Institute..

John Wiley & Sons, Inc.

Chapter 1

Managerial Accounting

Chapter 1
Managerial Accounting
After studying this chapter, you should be able to:
1 Explain the distinguishing features of managerial
accounting.
2 Identify the three broad functions of management.
3 Define the three classes of manufacturing costs.
4 Distinguish between product and period costs.
5 Explain the difference between a merchandising and a
manufacturing income statement.

Chapter 1
Managerial Accounting
After studying this chapter, you should be able to:
6 Indicate how cost of goods manufactured is
determined.
7 Explain the difference between a merchandising and a
manufacturing balance sheet.

Preview of Chapter 1
Managerial Accounting Basics

Comparing managerial and

MANAGERIAL
ACCOUNTING

financial accounting
Ethical standards
Management functions

Managerial Cost Concepts

Manufacturing costs
Product versus period costs

Preview of Chapter 1
Manufacturing Costs in
Financial Statements

MANAGERIAL
ACCOUNTING

Income statement
Balance sheet
Cost Concepts: a review
Contemporary Developments in
Managerial Accounting

Technological change
Quality
Focus on activities
Service industry needs

Managerial Accounting Basics

Managerial accounting (management
accounting) is a field of accounting that
provides economic and financial information
for managers and other internal users.

Managerial Accounting Basics

The activities that are part of managerial
accounting are as follows:
1 Explaining manufacturing and nonmanufacturing
costs and how they are reported in the financial
statements.
2 Computing the cost of rendering a service or
manufacturing a product.
3 Determining the behavior of costs and expenses as
activity levels change and analyzing cost-volumeprofit relationships within a company.

Managerial Accounting Basics

The activities that are part of managerial accounting are as follows:
4 Assisting management in profit planning and formalizing the plans in
the form of budgets.
5 Providing a basis for controlling costs and expenses by comparing
actual results with planned objectives and standard costs.
6 Accumulating and using relevant data for management decision
making.

Study Objective 1

Explain the distinguishing features

of managerial accounting.

Differences Between Financial

and Managerial Accounting
FINANCIAL
ACCOUNTING

MANAGERIAL
ACCOUNTING

Primary Users of Reports

External users, who are
Internal users, who are officers,
stockholders, creditors, and
department heads, managers,
regulatory agencies.
and supervisors in the
company.
Types and Frequency of Reports
Classified financial statements. Internal reports
Issued quarterly and annually. Issued as frequently as needed.
Purpose of Reports
To provide general-purpose
To provide special-purpose
information for all users.
information for a particular
user for a specific decision.
Illustration 1-1a

Differences Between Financial

and Managerial Accounting
FINANCIAL
ACCOUNTING

MANAGERIAL
ACCOUNTING

Content of Reports
Pertains to entity as a whole
Pertains to subunits of the
and is highly aggregated
entity and may be very
(condensed).
detailed.
Limited to double-entry
May extend beyond doubleaccounting system and cost
entry accounting system to
data.
any type of relevant data.
Reporting standard is generally Reporting standard is relevance
accepted accounting
to the decision to be made.
principles.
Verification Process
Annual independent audit by
No independent audits.
certified public accountant.
Illustration 1-1b

Ethical Standards for

Managerial Accountants
Managerial accountants recognize that they have an ethical
obligation to their companies and the public.
To provide guidance for managerial accountants in the performance
of their duties, the Institute of Management Accountants (IMA)
has developed a code of ethical standards, entitled Standards of
Ethical Conduct for Management Accountants.
This code divides the managerial accountants responsibilities into
4 areas:
competence,
confidentiality,
integrity, and
objectivity.

Study Objective 2

Identify the three broad functions of

management.

Management Functions
The management of an organization performs
three broad functions:
Planning
Directing and motivating
Controlling

Management Functions:
Planning
Planning requires management to

look ahead, and

establish objectives.
These objectives are usually quite diverse, but a key
modern management objective appears to be to add
value to the business under its control.
Value is usually measured by
the trading price of the companys stock and
the potential selling price of the company.

Management Functions:
Directing and Motivating
Directing and motivating involves coordinating
diverse activities and human resources to produce a
smooth-running operation.
This function relates to the implementation of
planned objectives.
Most companies prepare organization charts to show
the interrelationship of activities, and
the delegation of authority and responsibility
within the company.

Management Functions:
Controlling
Controlling is the process of keeping the
firms activities on track.
In controlling operations, management
determines
whether planned goals are being met, and
what changes are necessary when there are
deviations from targeted objectives.

Managerial Cost Concepts

To perform the three management functions effectively,
management needs information. One very important type of
information is related to costs. For example, questions such
as the following need answering:
What costs are involved in making the product?
If production volume is decreased, will costs decrease?
What impact will automation have on total costs?
How can costs best be controlled in the organization?

Management Functions
Review

Pla
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ing

&
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i
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D
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ito
n
Decision
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Controlling
Page 7

Study Objective 3

Define the three classes of

manufacturing costs.

Managerial Cost Concepts

Manufacturing consists of activities and
processes that convert raw materials into
finished goods. Manufacturing costs are usually
classified as follows:
Direct Materials
Direct Labor
Manufacturing Overhead

Manufacturing Costs:
Direct Materials
Raw materials represent the basic materials
and parts that are to be used in the
manufacturing process.
Raw materials that can be physically and
conveniently associated with the finished
product during the manufacturing process are
termed direct materials.

DIRECT MATERIALS

Manufacturing Costs:
Indirect Materials
Some raw materials cannot be easily associated with the
finished product. These are considered indirect materials.
Indirect materials
do not physically become part of the finished product,
or
cannot be traced because their physical association with
the finished product is too small in terms of cost.
Indirect materials are accounted for as part of manufacturing
overhead.

Manufacturing Costs:
Direct Labor
Direct labor is the work of factory
employees that can be physically and
conveniently associated with converting
raw materials into finished goods.

DIRECT LABOR

Manufacturing Costs:
Indirect Labor
The wages of maintenance people, timekeepers,
and supervisors are normally categorized as
indirect labor because their efforts have no
physical association with the finished product
or it is impractical to trace the costs to the
goods provided..
Like indirect materials, indirect labor is part of
manufacturing overhead.

Manufacturing Costs:
Manufacturing Overhead
Manufacturing overhead consists of costs that are indirectly
associated with the manufacture of the finished product.
These costs may also be defined as manufacturing costs that
cannot be classified as either direct materials or direct
labor.
Manufacturing overhead includes

indirect materials;
indirect labor;
machinery; and
depreciation on factory buildings and
MANUFACTURING
facilities.
insurance, taxes, and maintenance on factory
OVERHEAD

Study Objective 4

Distinguish between product and

period costs.

Product Costs
Product costs (also called inventoriable costs)
include each of the manufacturing cost
elements (direct materials, direct labor, and
manufacturing overhead). They are the costs
that are a necessary and integral part of
producing the finished product.
These costs are not expensed (as cost of goods
sold) under the matching principle until the
finished goods inventory is sold.

Product Costs:
Prime and Conversion
Direct materials and direct labor are often
referred to as prime costs due to their direct
association with the manufacturing of the
finished product.
Direct labor and manufacturing overhead are
often referred to as conversion costs since
they are incurred in converting raw materials
into finished goods.

Period Costs
Period costs are identifiable with a specific time
period rather than a salable product.
Period costs are deducted from revenues in the
period in which they are incurred.
Period costs relate to nonmanufacturing, (thus,
noninventoriable) costs, and include selling
and administrative expenses.

Product Versus
Period Costs
All Costs
Product Costs

Period Costs

Manufacturing Costs

Nonmanufacturing Costs

(Go to Balance Sheet before

Income Statement)

Direct Materials
Direct Labor
Manufacturing
Overhead

(Go straight to Income Statement)

Prime
Costs
Conversion
Costs

Selling
Expenses
Administrative
Expenses
Illustration 1-4

Study Objective 5

Explain the difference between a

merchandising and a manufacturing
income statement.

Merchandising versus
Manufacturing Income Statements
Under a periodic inventory system, the income statements
of a merchandising company and a manufacturing
company differ in the cost of goods sold section.
For a merchandising company, cost of goods sold is
calculated by adding the beginning merchandise inventory
and the cost of goods purchased, and subtracting the
ending merchandise inventory.
For a manufacturing company, cost of goods sold is
calculated by adding the beginning finished goods
inventory and the cost of goods manufactured, and
subtracting the ending finished goods inventory.

Cost of Goods Sold

Components
Merchandising Company
Beginning
Merchandise
Inventory

Cost of Goods
Purchased

Ending
Merchandise
Inventory

Cost of
Goods Sold
Manufacturing Company
Beginning
Finished Goods
Inventory

Cost of Goods
Manufactured

Ending
Finished
Goods
Inventory

=
Illustration 1-5

Cost of Goods Sold Sections

of Merchandising and
Manufacturing Companies
The following cost of goods sold sections for
merchandising and manufacturing enterprises
highlight the different presentations:
MERCHANDISING COMPANY
Partial Income Statement
For the Year Ended December 31, 1999
Cost of goods sold
Merchandise inventory, January 1
Cost of goods purchased
Cost of goods available for sale
Merchandise inventory, December 31
Cost of goods sold

$ 70,000
650,000
720,000
400,000
$ 320,000
Illustration 1-6a

Cost of Goods Sold Sections

of Merchandising and
Manufacturing Companies
MANUFACTURING COMPANY
Partial Income Statement
For the Year Ended December 31, 1999
Cost of goods sold
Finished goods inventory, January 1
Cost of goods manufactured
Cost of goods available for sale
Finished goods inventory, December 31
Cost of goods sold

$ 90,000
370,000
460,000
80,000
$ 380,000

Illustration 1-6b

Study Objective 6

Indicate how cost of goods

manufactured is determined.

Cost of Goods
Manufactured Formula
The total cost of work in process for the year is equal to the sum of:
the cost of the beginning work in process inventory and
the total manufacturing costs for the current period.
To find the cost of goods manufactured, we subtract the cost of the
ending work in process inventory from the total cost of work in process.

Beginning
Work in Process
Inventory

Total Cost of
Work in Process

Total Current
Manufacturing
Costs

Total Cost of
Work in Process

Ending
Work in Process
Inventory

Cost of Goods
Manufactured
Illustration 1-7

Cost of Goods
Manufactured Schedule
To eliminate
excessive detail, it is
customary to present
only the total cost of
goods
manufactured in the
Income Statement.
An internal financial
schedule called a
Cost of Goods
Manufactured
Schedule (as shown
on the right) shows
each of the cost
elements.
Illustration 1-8

OLSEN MANUFACTURING COMPANY

Cost of Goods Manufactured Schedule
For the Year Ended December 31, 1999
Work in process, January 1
$ 18,400
Direct materials
Raw materials inventory, January 1
$ 16,700
Raw materials purchases
152,500
Total raw materials available for use
169,200
Less: Raw materials inventory, December 31 22,800
Direct materials used
$ 146,400
Direct labor
175,600
Manufacuring overhead
Indirect labor
14,300
Factory repairs
12,600
Factory utilities
10,100
Factory depreciation
9,440
Factory insurance
8,360
Total manufacturing overhead
54,800
Total manufacuring costs
376,800
Total cost of work in process
395,200
Less: Work in process, December 31
25,200
Cost of goods manufactured
$ 370,000

Study Objective 7

Explain the difference between a

merchandising and a manufacturing
balance sheet.

Merchandising versus
Manufacturing Balance Sheets
Unlike the balance sheet for a merchandising company, which
shows just one inventory category, the balance sheet of a
manufacturing company may have three inventory accounts:
Finished Goods Inventory, which shows the cost of
completed goods on hand;
Work in Process Inventory, which shows the cost
applicable to units that have been started into production
but are only partially completed; and
Raw Materials Inventory, which shows the cost of raw
materials on hand.

Current Assets Sections of

Merchandising and Manufacturing
Balance Sheets
The following current assets sections of balance sheets contrast the
presentation of inventories of a merchandising company with those of a
manufacturing company. The remainder of the balance sheet is similar
for the two types of companies.
Merchandise Company
Balance Sheet
December 31, 1999
Current assets
Cash
Receivables (net)
Merchandise inventory
Prepaid expenses
Total current assets

$ 100,000
210,000
400,000
22,000
$ 732,000
Illustration 1-10a

Current Assets Sections of

Merchandising and Manufacturing
Balance Sheets
Manufacturing
inventories are
generally listed
in the order of
liquidity
their expected
realization in
cash. Thus,
finished goods
inventory is
listed first.

Manufacturing Company
Balance Sheet
December 31, 1999
Current assets
Cash
Receivables (net)
Inventories:
Finished goods
Work in process
Raw materials
Prepaid expenses
Total current assets

$ 180,000
210,000
$ 80,000
25,200
22,800

128,000
18,000
$ 536,000
Illustration 1-10b

Cost Concepts: A Review

Assignment of Costs to Cost Categories

Cost Item

Material cost ($10 per door)

Labor costs ($8 per door)
Depreciation on new equipment
($25,000 per year)
Property taxes ($6,000 per year)
Advertising costs ($30,000 per
year)
Sales commissions ($4 per door)
Maintenance salaries ($28,000 per
year)
Salary of plant manager ($70,000)
Cost of shipping pre-hung doors
($12 per door)

Product Costs
Direct
Direct Manufacturing
Materials Labor
Overhead

Period
Costs

X
X
X
X

Prime
Costs

Conversion
Costs

X
X

X
X
X

X
X
X
X

X
X
X

Illustration 1-11

Cost Concepts: A Review

Computation of Manufacturing Cost
Total manufacturing costs are the sum of the product costs direct
materials, direct labor, and manufacturing overhead costs.
Northridge Company produces 10,000 pre-hung wooden doors the
first year. The total manufacturing costs are:
Cost Number and Item

Illustration 1-12

1. Material cost ($10 X 10,000)

2. Labor cost ($8 X 10,000)
3. Depreciation on new equipment
4. Property taxes
7. Maintenance salaries
8. Salary of plant manager
Total manufacturing costs

Manufacturing
Cost
$ 100,000
80,000
25,000
6,000
28,000
70,000
$ 309,000

Contemporary Developments
in Managerial Accounting
Due to increased global competition from such
countries as Japan and Germany, contemporary
business managers demand different and better
information than they needed just a few years
ago.
The factors on the following slides contribute to the
expanding role of managerial accounting as we
look toward the next century.

Contemporary Developments
in Managerial Accounting
Technological Change Through computerintegrated manufacturing (CIM), many
companies can now manufacture products that
are untouched by human hands. Also, the
widespread use of computers has greatly reduced
the cost of accumulating, storing, and reporting
managerial accounting information.

Contemporary Developments
in Managerial Accounting
Quality Many companies have installed a total quality
control (TQC) system to reduce defects in finished
products. More emphasis is now put on nonfinancial
measures such as customer satisfaction, number of service
calls, and time to generate reports. Attention to these
measures, which employees can control, leads to increased
profitability. In addition, many companies have begun
using just-in-time inventory methods (JIT), under which
goods are manufactured or purchased just in time for use.
This lowers the costs of holding and storing inventory.

Contemporary Developments
in Managerial Accounting
Focus on Activities In order to obtain more
accurate product costs, many companies are
accounting for overhead costs by the activities
used in making the product. Activities include
purchasing materials, handling raw materials, and
production order scheduling. This development
is called activity based costing (ABC).

Contemporary Developments
in Managerial Accounting
Service Industry Needs In some respects, the
challenges for managerial accounting are greater
in service enterprises than in manufacturing
companies. In some companies, it may be
necessary for the managerial accountant to
develop new systems for measuring the cost of
serving individual customers and new operating
controls to improve the quality and efficiency of
specific services.

Contemporary Developments
in Managerial Accounting
A Final Comment Not long ago, the
managerial accountant was primarily engaged in
cost accounting collecting and reporting
manufacturing costs to management. Today, the
managerial accountants responsibilities extend
to cost management providing managers with
data on the efficient use of company resources
in both manufacturing and service industries.

Appendix 1A
Accounting Cycle for a
Manufacturing Company

Appendix 1A
Study Objective 8
Prepare a worksheet and closing
entries for a manufacturing company.

Appendix 1A

Accounting Cycle for a

Manufacturing Company
The accounting cycle for a manufacturing company
is the same as for a merchandising company
when a periodic inventory system is used.
Except for additional manufacturing inventories and
cost accounts, the journalizing and posting of
transactions and adjustments, and the preparation
of a trial balance are the same.
There are some changes in the preparation of the
work sheet and closing entries.

Appendix 1A

Accounting Cycle for a

Manufacturing Company
Two additional columns are needed in the work
sheet for the cost of goods manufactured. In
these columns, the beginning inventories of raw
materials and work in process are entered as
debits, and the ending inventories are entered as
credits; all manufacturing costs are entered as
debits. To close all of the accounts that appear in
the cost of goods manufactured schedule, a
Manufacturing Summary account is used.

Copyright
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these programs or from the use of the information
contained herein.

Chapter 1
Managerial Accounting