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Introduction to Management Accounting

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

Introduction to Management
Accounting
Chapter 5

Relevant Information for


Decision Making with a Focus
on Pricing Decisions

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

Learning
Objective 1

The Concept of Relevance


Relevant information depends
on the decision being made.
Decision making is choosing
among several courses of action.

Relevant information is the predicted future costs


and revenues that differ among the alternatives.

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

The Concept of Relevance


Accountants should use two criteria to
determine whether information is relevant:
1. Information must be an
expected revenue or cost and...
2. it must have an element of
difference among the alternatives.

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

Learning
Objective 3

Relevance of Alternate Income


Statements
Cordell Company makes and
sells 1,000,000 seat covers.
Total manufacturing cost is
$30,000,000, or $30 per unit.

Direct Material Costs are $14,000,000


Direct-labor costs are $6,000,000

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

Absorption Approach

Schedule 1: Variable Costs (in thousands of dollars)


Supplies (lubricants, expendable tools, coolants, sandpaper
Materials-handling labor (forklift operators)
Repairs on manufacturing equipment
Power for factory
200
Schedule 2: Fixed Costs
Managers salaries in factory
Factory employee training
180
Factory picnic and holiday party
Factory supervisory salaries
Depreciation, plant and equipment
3,600
Property taxes on plant
300
Insurance on plant
$ 6,000
Total indirect manufacturing costs
$10,000

$ 600
2,800
400
$ 4,000
$ 400
20
1,400
100

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

Absorption Approach

Schedule 3: Selling Expenses (in thousands of dollars)


Variable
Sales Commission
$1,400
Shipping Expenses for products sold
600
$2,000
Fixed
Advertising
$1,400
Sales salaries
2,000
Other
600
$4,000
Total Selling Expenses
$6,000
Schedule 4: Administrative Expenses
Variable
Some clerical wages
$160
Computer time rented
40
$200
Fixed
Office supplies
200
Other salaries
400
Depreciation on office facilities
200
Public accounting fees
80
Legal fees
200
Other
720
1,800
Total Administrative
expenses
$
2008 Prentice
Hall Business Publishing,
Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

Absorption Approach
Sales (in thousands of dollars)
Less: Manufacturing costs of good sold
Direct Materials
Direct Labor
Indirect Manufacturing (Schedule 1 plus 2)
30,000
Gross Margin or Gross Profit
Selling expenses (Schedule 3)
Administrative expenses (Schedule 4)
Total selling and administrative expenses
Operating income

$40,000
6,000

$ 14,000
10,000
$ 6,000
2,000

10,000
8,000

$2,000

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

Contribution Approach
Internal (management accounting) reporting that emphasizes the
distinction between variable and fixed costs for the purpose of
better decision making.
Cordell Company
Contribution Form of the Income Statement
For the Year Ended December 31, 2007 (000)

Sales (1,000,000 units)


Less: Variable expenses
Manufacturing
$24,000
Selling and administrative
2,200
Contribution margin
Less: Fixed expenses
Manufacturing
$ 6,000
Selling and administrative
5,800
Operating income

$40,000
26,200
$13,800
11,800
$ 2,000

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

Learning
Objective 4

Special Sales Orders

Cordell Company makes and


sells 1,000,000 seat covers.
Total manufacturing cost is
$30,000,000, or $30 per unit.
Cordell is offered a special order
of $26 per unit for 100,000 units.

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

Special Sales Order


Accepting the special order:
1. would not affect Cordells regular business.
2. would not raise any antitrust issues.
3. would not affect total fixed costs.
4. would not require additional variable selling and
administrative expenses.

5. would use some otherwise idle manufacturing cap

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

Special Sales Order

Only variable manufacturing costs are


affected by this particular order, at a rate of
$24 per unit ($24,000,000 1,000,000 units).
All other variable costs and all fixed
costs are unaffected and thus irrelevant.

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

Special Sales Order


Special order sales price/unit
Increase in manufacturing costs/unit
Additional operating profit/unit

$26
24
$ 2

Based on the preceding analysis,


should Cordell accept the order?

$2 100,000 = $200,000 additional profit

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

Special Sales Order


Cordell Company
Contribution Form of the Income Statement
For the Year Ended December 31, 2007 (000)
Without
Effect of
special order
special order
1,000,000 units Total
Per Unit
Sales
$40,000,000
$2,600,000
$26
Less: Variable expenses
Manufacturing
$24,000,000
$2,400,000 $24
Selling and administrative
2,200,000
Total variable expenses
26,200,000 $2,400,000
Contribution margin
$13,800,000
$ 200,000
Less: Fixed expenses
Manufacturing
$ 6,000,000
Selling and administrative
5,800,000
Total fixed expenses
11,800,000
Operating income
$ 2,000,000

With
special order
1,100,000 un
$42,600,000

$26,400,
2,200,
$28,600,000
$14,000,000

$6,000,000
5,800,
11,800,000
$2,200,000

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc

The End

End of Chapter 5

2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Sch
Horngren/Sundem/Stratton/Sc