“Cost accounting deals with the classification, accumulation, control and allocation of costs. The cost accountant classifies costs according to behavior patterns, activities and processes with which the products to which they correspond are related and other categories, depending on the type of measurement that is desired ”.
Costs can accrue across accounts, jobs, processes, products, or other business segments. With this information, the cost accountant calculates, reports, and analyzes the cost to perform different functions such as the operation of a process, the manufacture of a product and the realization of special projects. Cost accounting is currently called Administrative Accounting.
1.2 DIFFERENCES BETWEEN COST ACCOUNTING AND FINANCIAL ACCOUNTING.
Despite the fact that financial and administrative accounting (or cost accounting) emanate from the same information system intended to facilitate decision-making by its different users, they have differences and similarities that it is necessary to know:
- Administrative accounting is organized to produce information for internal use by the administration, such as: Formulate, improve and evaluate policies for the company Know within the company which areas are efficient and those that are not Plan and control daily operations Know costs of the different products or processes, to achieve cost leadership in a sector. Administrative accounting is focused on the future, unlike financial accounting, which generates information about the past or historical events of the organization; Administrative accounting is oriented towards the future, because one of the essential functions of the executive is planning directed at the design of actions that project the company towards the achievement of competitive advantages.Administrative accounting does not attempt to determine the utility with the precision of financial accounting, since it gives relevance to the qualitative data and costs necessary in the analysis of decisions, which in many cases, are estimates or approximations that are made to predict the future of the company.
THE ROLE OF COST ACCOUNTING IN PLANNING
Planning activity has become vitally important today, due to globalization in which many countries find themselves, faced with technological development, the changing economy, the accelerated growth of companies, professional development and the availability of relevant information that is owned.
Planning basically receives help from cost accounting (or administrative accounting) in the design of actions whose mission is to achieve the objectives that are desired in a given period, especially in relation to the operation of the company, through the use of different tools such as budgets, the cost-volume-profit model, costing by activities; that provides great help in the strategic planning process to determine what the competitive strategy should be towards which the company should be oriented.
THE ROLE OF COST ACCOUNTING IN ADMINISTRATIVE CONTROL
The current era is characterized by the economic complexity in the administration of resources, both at the macroeconomic and microeconomic levels they are scarce, which requires effectiveness and efficiency of the professionals committed to the administration in order to achieve an optimal use of the inputs. This can be achieved when the philosophy of continuous improvement is applied, which is nothing more than the total quality culture whose essential purpose is to eliminate everything that does not meet the standards in such a way that it eliminates everything that does not allow satisfactory competition. Administrative control should be the process by which the administration ensures that resources are obtained and used efficiently and effectively, according to the objectives planned by the organization.
THE ROLE OF COST ACCOUNTING IN DECISION-MAKING.
Within the decision-making model, cost accounting helps to make a better decision, according to the quality of the information that is available. In every organization decisions are made daily, some are routine, such as hiring a new employee; others are not, such as introducing or deleting a product line, both require adequate information.
The quality of the decisions of companies, small or large, is a direct function of the type of information available; therefore, if you want an organization to develop normally, you must have a good information system, the better the quality of the information, the better the decision is ensured.
1.6 OBJECTIVES OF COST ACCOUNTING
The primary objective of cost accounting is to provide accurate information for the development of productive activity. The cost model to be applied in the company will depend on its operating characteristics, its possibilities and its limitations; but it should always be aimed at achieving an improvement of the information and control that allows optimizing decision-making for management.
Consequently, the fundamental objectives that cost accounting must achieve are the following:
- Generate reports to mediate profit, providing the correct cost of sales Assess inventories for the study of financial situations Provide reports to help exercise administrative control Provide information for decision-making Generate information to help management base the competitive strategy Help management in the process of continuous improvement, eliminating activities or processes that do not generate value Its ultimate goal is to provide the costs and returns of the production processes by facilitating a follow-up of the sections, production centers and products. Sales and production cost is the first step in calculating costs, thereby obtaining the cost of the product produced by the company.
Valuation of in-process and finished products is a problem that is solved by choosing an appropriate cost system. It will no longer be necessary to go to physical counts to ensure that the inventory value is correct, since the application of a cost system facilitates the consumption of raw and auxiliary materials, direct labor, and precise manufacturing indirect costs to obtain of a product.
1.7 CLASSIFICATION OF COSTS
Costs fall into one of three general classifications: production, marketing, and administration. The production costs include direct materials, direct labor and manufacturing overhead costs incurred to produce a good or a product.
Engineering and product design costs that occur prior to manufacturing are also production costs. The marketing costs, resulting from the sale and delivery of products and include costs for sales promotion, customer service, transportation, warehousing and other distribution costs. The administration costs, resulting from the activities of management and control of the company, and activities such as functions General concerning staff, rent, utilities consumption, etc.
The classification of costs will depend on the type of measurement that you want to carry out, in general the cost reports indicate the cost of a product, a service, a process, a special project, etc.
Costs can be classified according to the approach given to them, all existing classifications are important, but without a doubt the most relevant is the one that classifies costs based on their behavior, since neither the planning and control functions administrative, nor can decision-making be successful if the behavior of costs is unknown; Furthermore, none of the tools that make up cost accounting can be applied correctly, without taking such behavior into account.
Costs can be classified according to various criteria:
According to its nature and business function
Production costs are all those generated throughout a transformation process until the final product is obtained, which is reached by the use of productive factors: raw material, direct labor, indirect manufacturing costs.
Distribution costs are the costs necessary to market and make the final product available to the consumer, such as transportation costs.
- c) Other business costs, are the remaining costs incurred by the company until the formation of the total cost of the company, such as administration and financial costs.
According to their behavior
a) Fixed costs are those that remain constant within a given period regardless of whether the production volume changes.
b) Variable costs are the costs that change in direct relation to the production volume.
c) Semi- variable costs, are those types of cost that have a fixed component and a variable component.
According to its form of imputation
a) Direct costs, are the costs that can be associated with a specific product. Ahem. raw material, direct labor, etc.
b) Indirect costs, are the costs that to be imputed need to follow a distribution procedure in accordance with criteria Eg. depreciation, maintenance, etc.
According to the unit or production set
a) Total costs, are those obtained from the set of costs assumed by the company for a volume of production, they will be obtained by adding the fixed and variable costs.
b) Unit costs, is the result of the quotient between total costs and the degree of business occupation (units produced.
- COST ACCOUNTING AS A TOOL IN DECISION-MAKING.
In every organization decisions are made daily, some are routine, such as hiring a new employee; others are not, such as introducing or deleting a product line, both require adequate information.
It is obvious that the quality of the decisions of any company, small or large, is a direct function of the type of information available, therefore, if you want an organization to develop normally, you must have a good information system: the better quality of the information, a correct decision is ensured.
Cost accounting, also known as administrative accounting, facilitates decision-making, and proposes using the scientific method to make a good decision based on the following process:
- Analysis Recognize that there is a problem Define the problem and specify the additional data required Obtain and analyze the data Decision a) Propose different alternatives b) Select the best Implement a) Implement the selected alternative b) Carry out the necessary monitoring to control the chosen plan
DIRECT COSTING AS AN ASSISTANCE FOR MANAGEMENT
The determination of the product cost, an elementary concern in any cost system, is carried out in this method by separating the fixed and variable costs, since the latter will be the only ones passed on to the product, the fixed costs will be applied to the period costs. This calculation and the comparison between the variable unit cost and the sale price, allow to know the variable unit margin per product and the contribution that each product has in covering fixed costs.
The use of direct costing has gained strength in recent years as it is more suited to the needs of the administration with respect to planning, control and decision-making. Since profit under direct costing moves in the same direction that sales volume moves, operating statements can be more easily understood by general management, marketing and production executives as well as different supervisors. departmental.
Direct costing is useful in evaluating performance and provides timely information for important cost-volume-profit analyzes.
EFFECTS OF DIRECT OR VARIABLE COSTING ON INCOME AND INVENTORIES
The reports based on direct costing are much more effective for management control, the reports can be more directly related to the profit objective or the budget for the period. Deviations from the standards are much more easily observable and can be better corrected. Variable cost of sales changes in direct proportion to volume.
The fixed costs of production must be carried to the period, that is, face the income of the year in question, which causes that no part of them is assigned to the cost of the units produced.
To value inventories, variable costing only considers variable costs, in such a way that the inventory valuation is lower precisely because it excludes fixed costs from the production cost of the item. The profit will be higher if the sales volume is greater than the production volume.
Considering fixed costs as period costs gives rise to different valuations in inventories and therefore in profit. A practical problem under this system is the difficulty faced by the accountant in determining whether a given inventory level currently is necessary to meet future needs or whether it is excessive. If inventories were seen as necessary at current levels in order to avoid losing future sales, the effect of variable costing is relevant.
The variable or direct costing system focuses mainly on the contribution margin, which is the excess of sales over variable costs. When expressed as a percentage of sales, the contribution margin is known as the contribution rate or marginal rate.
The contribution ratio is a key figure computed under the direct costing system, since it reveals the number of monetary units of sales to cover fixed costs and profits, an aspect that is of great importance to management.
Assuming a fixed capacity to produce and sell, short-term profits increase or decrease as a result of fluctuations in variable costs, changes in selling prices, and changes in the volume and mix of products being sold.
ADVANTAGES AND DISADVANTAGES OF DIRECT COSTING
Advantage
It facilitates planning, using the cost-volume-profit model, through the presentation of the income statement.
- The preparation of the income statement makes it easier for the administration to identify the critical areas that affect costs, which allows making adequate decisions based on the criterion of contribution margins. The marginal analysis of the different lines that are prepared, helps to the administration to choose the optimal composition that should be the guideline for sales to reach their objectives It eliminates fluctuations in costs due to different production volumes It is a substantial frame of reference to take advantage of special orders at prices below normal, made with the idea of using the idle capacity, in such a way that they help to cover fixed costs Because this system offers an index to know how far the price can be reduced by obtaining the contribution margin,It is vital to make decisions such as buy or manufacture, manufacture or rent, launch fewer product lines, export sales, etc. Eliminates the problem of choosing bases to apportion fixed costs, since its distribution is objective It facilitates the rapid evaluation of inventories, considering only variable costs, which are measurable.
Disadvantages
- Difficulty to differentiate within the total costs, those that are fixed and variable. The variation in margins in this method depends substantially on the level of sales, with the consequent oscillations that this causes in companies with seasonal sales. Its exclusive application in the The short term in which the level of activity does not vary, makes it unacceptable from the perspective that, in the long term, the cost of the product does not absorb more than the variable costs and the fixed costs are not passed on. it entails fixed costs and other variable ones, so it is considered necessary to allocate to the product costs all the costs originated in the fiscal year.
ANALYSIS OF THE APPLICATION OF DIRECT COSTING VERSUS TOTAL COSTING
Total costing tries to include within the cost of the product all the costs of the productive function, regardless of their fixed or variable behavior.
In direct or variable costing, the determination of the cost of the product, an elementary concern in any cost system, is carried out in this method through the separation between fixed and variable costs, since the latter will be the only ones attributable to the product, fixed costs will be applied to costs for the period. This calculation and the comparison between the variable unit cost and the sale price, allow to know the variable unit margin per product and the contribution that each product has in covering fixed costs.
The use of direct costing has gained strength in recent years as it is more suited to the needs of the administration with respect to planning, control and decision-making. Since profit under direct costing moves in the same direction that sales volume moves, operating statements can be more easily understood by general management, marketing and production executives as well as different supervisors. departmental. Direct costing is useful in evaluating performance and provides timely information for important cost-volume-profit analyzes.
A company wishes to compare its results by applying Direct or Variable Costing and Absorption Costing, for which it presents the following data:
Production in units 40,000
Unit sales 35,000
Sale price per unit s /.25
Variable cost per unit s /. 9
Fixed costs per unit s /. 6
Selling and administration expenses s /. 40,000
COST BY ABSORPTION
Sales (35,000 xs /.25) s /. 875,000
Cost of items sold
Production cost period (40,000xs /.15) s /. 600,000
-End inventory (5000 xs /.15) 75,000 525,000
Gross Profit on sales s /. 350,000
-Selling and administration expenses 40,000
Net Profit s /. 310,000
DIRECT COSTING
Sales (35,000 xs /.25) s /. 875,000
Variable cost of items sold
Variable production costs (40,000xs /.9) s /. 360,000
-Ending inventory (5000 xs /.9) 45,000 315,000
Contribution margin s /. 560,000
-Fixed manufacturing costs 240,000
-Selling and administration expenses 40,000
Net Profit s /. 280,000
The difference between the net profit of s /. 310,000 for absorbing costing and s /. 280,000 for direct costing is attributable as /. 30,000 fixed manufacturing costs (s /.6 fixed cost per unit x 5,000 units of ending inventory).
The final inventory by absorption costing is equal to 5,000 units xs /.15 of total cost s /. 75,000 and the final inventory by direct costing is 5,000 units xs /.9 of unit variable cost with a total of $ 45,000.
Thus arriving to determine the same difference of s /.30,000 that occurred between the profits.
Because the application of direct costing is not accepted for external reports, it is necessary that at the end of the period the companies that apply it, make adjustments to the inventory and cost of sales items for the amount of fixed indirect manufacturing costs that are excluded in the cost of the product under the direct costing method.
APPLICATION OF THE BALANCE POINT IN DECISION-MAKING
Profit planning requires management to make operational decisions that involve the introduction of new products, the volume of production, the pricing of products, and the selection of alternative production processes. To increase the probability of making the best decision, management must understand the relationship between costs, revenues, and profits. The equilibrium analysis and the cost-volume-profit analysis take this interrelation into account and are able to give useful guidelines to management for decision-making.
The key to profit planning lies in understanding the cost structure of the business. Production costs can be divided into variable costs and fixed costs. Total variable costs are those that vary directly with changes in volume. Total fixed costs, for their part, are those that do not vary with changes in volume within the relevant range.
The breakeven point in the model will be the one where the total revenues cover the total costs. The composition of income is determined by the product between the number of units sold and their sale price. The total costs are divided into fixed costs and variable costs; the latter are obtained from the product of the number of units produced by their unit cost price.
The breakeven point includes the minimum level of production and sale activity that the company must have to cover its costs. The oscillations that can be made from the equilibrium point will depend on the variations in total fixed costs, sales prices, and variable unit cost.
ADVANTAGES OF THE BALANCE POINT
- Provides guidance to management for decision making Is the basis for the introduction of new products
- Helps in the selection of the best production processes
- It is used for the analysis of the cost-volume-profit model
- It is a tool for determining prices
- Indicates the minimum sales level required to cover all costs
Determining the break-even point provides important information to support decision-making. Approaches such as closure or expansion of a plant, profitability of a product or its elimination, variations in the product mix, etc., are some of the decisions that can be taken.
Plant shutdown
The separation between disbursable costs is established, as well as between non-disbursable ones, in order to differentiate those costs that imply a cash outlay within the period with respect to those that, although they have been previously disbursed, constitute costs for the year.
All variable costs are out-of-pocket costs, while fixed costs may or may not be. From this analysis it can be deduced that for the closing or settlement point the separation of these costs is essential, so the closing point would be the one in which the company does not even cover the out-of-pocket costs.
Expansion of a plant
This alternative is always presented based on market studies that indicate how the activity level of the company can increase due to an increase in sales. Fixed costs, as new investments are needed, will rise to adapt to the new level of capacity.
3.1 BALANCE POINT CALCULATION METHODS
The breakeven point is calculated through the application of the following formulas:
Total fixed costs
PE u = -------------------
Unit Selling Price - Unit Variable Cost
Total fixed costs
PE $ = ---------–
1 - Variable Cost
Sales
Considering the contribution margin, the breakeven point is calculated as follows:
Total fixed costs
PE u = ------------–
Unit Contribution Margin (MCU)
Total fixed costs
PE $ = --------------
Percentage contribution margin (MC%)
· Mcu = Unit selling price - Variable Unit Cost
- Mc% = 1 - Variable Cost
Sales
The breakeven point can be derived mathematically as follows:
IT = CT
P (X) = CV (X) + CF
P (X) - CV (X) = CF
X (P - CV) = CF
X = CF
P - CVu
- IT = total revenue CT = total cost P = price CV = variable cost CF = fixed cost X = number of units
Taking into account the previous formulas, we will apply the breakeven point with the following information:
Product: X
Selling price $ 40 per unit
Total monthly fixed costs $.10,000
Variable cost per unit $.20
Total fixed costs
PE u = -------------------
Unit Selling Price - Unit Variable Cost
10,000
PEu = -------– = 500 units
40 - 20
Total fixed costs
PE $ = ---------–
1 - Variable Cost
Sales
10,000
PE $ = -------– = $ 20,000
0.5
or also, 500 units * 40 sale price = $ 20,000
Through the contribution margin:
Total fixed costs
PE u = ------------–
* Unit contribution margin
10,000
PEu = -------– = 500 units
twenty
Total fixed costs
PE $ = --------------
Percentage contribution margin
10,000
PE $ = -------– = $ 20,000
0.5
Developing the mathematical formula the equilibrium point we will obtain like this:
40 (X) = 20 (X) + 10,000
40 (X) - 20 (X) = 10,000
X (40-20) = 10,000
X = 10,000
twenty
X = 500 units
PEu = 500 units
PE $ = 500 u. x $ 40 pv.
PE $ = $ 20,000
- COST-VOLUME-EARNINGS ANALYSIS
The cost-volume-profit model is a basis for cost control and profit planning. Its purpose is to establish an operating scheme that serves as a basis for decision-making by management. Decision-making on unit costs, production volume and sale price are some of the alternatives that the model itself allows to control and that must be mastered if the variation of each of them is to be measured.
In the first place, the separation between fixed and variable costs presents a problem that must be solved, since the operation of any cost does not always follow a homogeneous movement. The different categories of semi-fixed and semi-variable costs constitute some of the difficulties we may encounter. The nature of fixed costs can be partially assimilated in the short term, however, in the long term it is another variable to consider within the model, since the level of installed capacity in the long term can be modified and, with it, costs, fixed or of structure that collects.
The model that is developed is nothing more than a budgeted model, since the actual data, both in unit cost and in actual price and sales volume, may be different. It will also be necessary to consider a level of installed capacity that may or may not correspond to the maximum business capacity.
Faced with the situations of constant inflation that the world economy is going through, the proposed model must respond flexibly to permanent price changes of any of the variables that determine it; Furthermore, the model must automatically vary its premises and be recalculated again.
3.3 THE PLANNING OF PROFITS ACCORDING TO THE APPLICATION OF CASES.
As mentioned above, this model helps the administration to determine the actions that must be taken in order to achieve a certain objective, which in the case of profit-making companies is called profits, which should be sufficient to remunerate the invested capital. in the company. According to what each company sets as its goal or objective, it is possible to calculate how much to sell, at what costs and at what price, to achieve certain profits.
To illustrate the present case, we will start from the determination of the equilibrium point, considering the following information to be applied in several cases:
- The possibility of starting a business of buying and selling t-shirts is considered, the same that after a market study it has been determined that it can be acquired at a cost of $ 5 and will be sold at a price of $ 10 each, the costs Fixed monthly payments were calculated at $ 600, which are used to develop the business.
DATA:
Fixed costs: $ 600 Unit sale price: $ 10 Unit variable cost: $ 5
PEu = Fixed cost = $ 600 = 120 units
Pvu - Cvu 10 - 5
- Determination of the profit volume goal
Considering the previous data, we want to know how many units must be sold to obtain a profit of $ 400, per month.
Units to sell = Fixed costs + Desired profit
Unit contribution margin
Vu = $ 600 + 400 = $ 1,000 = 200 units $ 5 $ 5
Verification:
Sales (200 u. X $ 10) $ 2,000
-Variable cost (200 u. X $ 5) $ 1 .000
Contribution margin $ 1,000
-Fixed costs $ 600
Profit (goal) $ 400
- Target profit as a percentage of net sales
With the above data, you want to obtain a profit before taxes and shares of 10% on sales.
Units to sell = Fixed costs
Mcu -% (Pvu)
Vu = $ 600 …………… = 150 units
$ 5- 0.10 ($ 10)
Verification:
Sales (150 u. X $ 10) $ 1,500 100%
-Variable cost (150 u. X $ 5 ) 750
Contribution margin $ 750
-Fixed costs $ 600
Profit (goal) $ 150 => 10% (of sales)
- Determination of the units to be sold based on the percentage of invested capital, considering the tax rates (25%) and worker participation (15%) that must be paid on profits. Considering that the total of fixed costs added $ 600, the unit sale price $ 10, the unit variable cost $ 5, it is assumed that the company has invested $ 12,200 and it is desired to obtain a profit of 5% per year on the investment, which generates an interest of $ 51 per month, the units to be sold are defined as follows:
Units to sell = Fixed costs + Profit / (1-% taxes and participations)
Mcu
Vu = $ 600 + $ 51 / (1- 0.3625)
$ 5
Vu = 136 units
Verification:
Sales (136 u. X $ 10) $ 1,360 100%
-Variable cost (136 u. X $ 5) 680
Contribution margin $ 680
-Fixed costs $ 600
Profit before taxes and parti. $ 80
Participation Worked (15%) $ 12
Basis for calculation of Income Tax 68
Income Tax (25%) 17
Target profit (5% investment) $ 51
- Same case as the previous one, but assuming that $ 12,000 is owed on which interest of 12% per year is paid.
Units to sell = Fixed costs + Profit / (1-% taxes and participations)
Mcu
Vu = $ 600 (+ $ 120 interest) + $ 51 / (1- 0.3625)
$ 5
Vu = 160 units
Verification:
Sales (160 u. X $ 10) $ 1,600
-Variable cost (160 u. X $ 5) 800
Contribution margin $ 800
-Fixed costs $ 600
Operational utility. $ 200
Interest paid $ 120
Profit before Partic. Tax. $ 80
Taxes and participation (36.25%) $ 29
Target profit (5% investment) $ 51
- When making the sale of the shirts, our clients ask us to study the financial possibility of being able to sell two (2) additional products such as pants and casual shoes, which after analyzing prices and costs have the following data.
Sale price Cost Margin
T-shirts $ 10 $ 5 $ 5
Jean pants $ 15 $ 5 $ 10
Shoes $ 30 $ 10 $ 20
Considering that you have 3 different Contribution Margins, establish the equilibrium point for the three products, considering that from the market study carried out, you plan to sell. 40% T-shirts, 20% pants and 40% shoes.
DEVELOPING:
- Calculation of the average contribution margin.
MCaverage = 5 (40%) + 10 (20%) + 20 (40%) è 12
PEq = CFT 600
Mcaverage 12
P.Equilib = 50 units to sell
2.) Calculation of the equilibrium point by product.
T-shirts 50 (40%) = 20
Pants 50 (20%) = 10
Shoes 50 (40%) = 20
Total………………………. = 50
- Calculation of the Point of Equilibrium in Dollars and Total Cost.
Total Sale Price C / U Total Cost
T-shirts 20 $ 10 $ 200 $ 5 100
Pants 10 $ 15 $ 150 $ 5 50
Shoes 20 $ 30 $ 600 $ 10 200
Total …… = 50 950 350
- Verification through an income statement.
Sales $ 950
(-) Cost of Sales $ 350
(=) Contribution Margin $ 600
(-) Fixed Expenses $ 600
RESULT 0 (Break-even point)
- COMMON PROBLEMS IN DECISION MAKING
Decision making, whether in the short or long term, can be defined in the simplest terms as the process of selecting between two or more alternative courses of action.
Managerial decision making is a complex problem-solving process that consists of a series of successive stages. These stages will be linked as possible if management expects any degree of success from the decision-making process.
The six stages in the decision-making process are:
- Detection and identification of the problem Search for an existing model applicable to the problem or the development of a new one Definition of alternative courses in light of the problem and the chosen model Determination of quantitative and qualitative data that are relevant to the problem and an analysis of the relative data to the alternative course of action Selection and implementation of an optimal solution that is consistent with management's goals Post-decision evaluation through feedback to provide management with the means to determine the effectiveness of the chosen course of action in the solution of the problem.
ACCEPT A SPECIAL ORDER
Industries produce items under their name or on behalf of a chain of stores, products sold to chains are generally modified and sold at lower prices than products made under the name of the manufacturer. In addition to regular production and sales, the company is sometimes in a position to accept a special order for its products below the normal price.
Example:
The company Modelo SA has been asked for 1000 units of product by Cía. Tip, at a selling price of $ 15 per unit. Modelo SA will not include your trademark in this order.
The total capacity of Modelo SA is 11,000 units of product per year. The projected sales for this year, excluding the Special Order, is 9000 units of product at a sale price of $ 24 per unit.
The production costs per unit are: direct raw material $ 6, direct labor $ 4, variable manufacturing overhead $ 2, fixed manufacturing overhead $ 72,000.
- Would Modelo SA accept the special order at a price of $ 1,500, even if the average cost of producing and selling each unit of product is $ 1,550?
For 9,000 units For 1,000 units
SALES ($ 24) 216,000 ($ 15) 15,000
-COSTS (180,000) (12,000)
MPD (6) 54,000 MPD (6,000)
MOD (4) 36,000 MOD (4,000)
CIFV (2) 18,000 CIFV (2,000)
CIFT 72,000 CIFT –0–
Profit 36,000 Profit 350 3,000
======= ======== ====== =======
The total profit achieved by Pasteurizadora Modelo SA with the special order would be $ 39,000.
- Assuming that the Modelo SA company is operating at a production level of 10,000 units. Consider whether a special order for 1,500 units of product can be accepted or rejected. If sales are reduced from 10,000 to 9,500 units, so that the special order of 1,500 units is manufactured, without having to exceed the total capacity.
For 9,500 units For 1,500 units
SALES ($.24) 228,000 ($ 15) 22,500
-COSTS ($.19.58) (186,000) ($.12) (18,000)
MPD (57,000) MPD (9,000)
MOD (38,000) MOD (6,000)
CIFV (19,000) CIFV (3,000)
CIFF (72,000) CIFF –0–
Profit 42,000 Profit 4,500
===== ====== ====== ======
Opportunity cost
Relevant Income (500 units x 24) 12,000
-Relevant Costs (500 units x 12) 6,000
6,000
Profit 1500 units = $ 4,500
- Opportunity cost = $ 4,500
Loss on this decision = $ 7,500
The total profit of the company Modelo SA, in this case is $ ………………?
- A temporary expansion in production capacity is required from the current level of 11,000 units to a level of 11,500 units. Consider that the projected sales are 10,000 units and the special order 1,500 units.
(10,000 units) (1,500 units)
SALES (2,300) 23'000,000 (1,500) 2'250,000
-COSTS (1,550) 15'500,000 1'925,000
MPD (550) MPD (550 × 1500)
MOD (400) MOD (400 × 1500)
CIFV (200) CIFV (200 × 1500)
CIFF (400) CIFF (400X500)
Profit 750 7'500,000 Profit 325,000
======== =======
The profit of the Modelo company in this case is $ 7,825,000, this being the most appropriate decision when accepting the special order.
- MAKE OR BUY
Management has the ability to make or buy parts of a product from the supplier when it has plant space, equipment, and idle labor. In order to properly evaluate the make-or-buy decision, both the component's quality and quantity standards must be equal to both alternative courses of action.
Example:
A company has capacity in its plant so it considers the possibility of making a part of a product it manufactures, the same one that will have a lower price and stop buying it, so this possibility should be analyzed taking into account the following information per unit:
Purchase price $ 41, transportation costs $ 4, raw material cost $ 12.5, labor cost $ 20, variable manufacturing overhead costs $ 10, production 13,000 units.
Cost of making Cost of buying
MPD (13000 × 12.5) $ 162,500
MOD (13000 × 20) 260,000
CIFV (13000 × 10) 130,000
PURCHASE PRICE (13000X41) 533.000
TRANSPORTATION EXPENSES (13000 × 4) 52,000
Total $ 552,500 585,000
Advantage of making 32,500 ______
$ 585,000 Comp. 585,000
- MIX A PRODUCT OR A SERVICE
A product mix problem results when multiple products are manufactured in a common facility, limitations arise from available resources such as number of machine hours available, or fixed number of units available of direct materials, the manager will have to make a combination decision optimal number of products to manufacture them according to production constraints.
Example: The Modelo company requests to analyze the best alternative to mix production if it has a total of 1500 machine hours
ABCD Products
Production (units) 10,000 1,200 1,500 800
Time per unit 6 '12' 10 '30'
Total machine hours 1,000 240 250 400
The income statement data are:
ABCD
Sales 350 210 180 1,200
Variable costs 200 110 130 600
Contribution margin 150 (42.85%) 100 (47.6%) 50 (27.7%) 600 (50%)
Fixed costs 40 20 10 100
Profit 110 80 40 500
To optimally use the available machine hours of 1500, we must analyze based on the percentage of contribution margin based on sales.
From these results we say then that the most profitable product is the "D" with a 50% contribution margin, and then the rest of the products. So we are going to allocate 1500 available hours based on these percentages.
Available machine hours 1,500
Product hours D 400
Hours product B 240
Product hours A 860
Machine hours distributed 1,500
Hours required for all products 1,890
Taking into account the distribution of the hours for each product according to their availability and depending on the percentage of contribution margin, the number of units per product will be:
Product D 800
Product B 1200
Product A 8600
The Income Statement with the proposed mix has a result at the positive contribution margin level and is as follows:
Á BD Total
Sales 3,010,000 252,000 960,000 4,222,000
Variable costs 1 '720,000 132,000 480,000 2'332,000
Contribution margin 1,290,000 120,000 480,000 1,890,000
The Income Statement if the company had the 1890 hours necessary is presented as follows:
ABDC Total
Sales 3,500,000 252,000 960,000 270,000 4,982,000
Variable costs 2 ',000,000 132,000 480,000 195,000 2'807,000
Margin contrib. 1,500,000 120,000 480,000 75,000 2,175,000
METHODS TO DETERMINE PRICES
Getting to determine the prices of products is a complicated process that combines several factors, such as cost, the nature of the industry, the degree of competition between different industries and within the same industry, the elasticity of demand, economic conditions, the financial situation of the company, the characteristics of the product, the institutional patterns, the level of activity of the plant, the government restrictions and the accumulations of the inventories.
The procedures for the determination of prices are simple instruments to achieve the objectives of the administration and to achieve the established policies. Pricing policy may aim for some long-term growth, face competition, penetrate new markets, obtain a fair return on investment, and so on. This implies the existence of clearly defined pricing policies.
HOW TO SET THE PRICE OF A PRODUCT
One of the daily problems that the administration of a company faces is the price of products, that is, the setting of the price at which it must be sold. The companies that have little or nothing controlled prices have to do in this area. However, all companies, whether or not they have price control, must know and analyze the methods for setting them. According to the conditions that prevail in the market, it must be defined at what price the product will be placed.
Among the main methods of setting prices are:
- METHOD BASED ON TOTAL COST
It consists of considering both production costs and operating expenses plus the desired percentage of profit by senior management, defined based on the profits to be achieved. This method is used by most entrepreneurs because they ensure full recovery of costs, expenses and the desired profit margin.
The price will be obtained as follows:
Direct raw material
+ Direct labor
+ Indirect manufacturing costs
= Manufacturing cost
+ Operating expenses
= Cost of manufacturing and sales
+ Profit margin (estimated%)
= SALE PRICE
- METHOD BASED ON DIRECT COSTING
In this method, the price must be sufficient to cover the variable costs and generate a certain contribution margin that allows covering the part of the fixed costs that are assigned and obviously the profit. It is also known as marginal, it is valid when the company has excess installed capacity, if sales and profits increase by accepting orders at a lower price than normal; These conditions force us to think that it can only be operated in the short term, because the company could fall into the error of accepting all orders that cover direct costs and when there is a need to replace, for example, the machinery and facilities, it may not have sufficient funds.
The price will be obtained as follows:
Direct raw material
+ Direct labor
+ Variable manufacturing overhead
= Marginal cost
+ Operating expenses
= Cost of manufacturing and sales
+ Profit margin (% estimated over marginal cost)
= SALE PRICE
- METHOD BASED ON COST OF CONVERSION
Under this method, profits are based only on the value increased by the manufacturing cost, that is, the conversion costs, and that the purchased materials should not generate any profit because they are materials that belong to the suppliers, therefore this element of the cost was affected in its price the respective utility by the suppliers when they were sold.
The effect of price determination based on conversion costs compared to total cost may be less because it does not contemplate a profitability of the materials.
Price determination on the basis of cost conversion is commonly used in industries in which the nature and cost elements of items vary considerably. However, most companies that use costs as a basis for determining prices are unwilling to accept the principle that purchased materials as well as raw materials should not generate any profit.
In any case, the accepted method depends on the type of company and mainly on the type of product that it sells.
- METHOD BASED ON SCALING CLAUSES
There are companies that work with orders and whose delivery period goes beyond two or three months, for which it is difficult to establish a fixed price, because it is not certain that the prices of the inputs used will remain constant for a period of time. period; In this case, the most used procedure is escalation clauses, which allow both the buyer and the supplier to win; its technical application is based on a defined formula.
PA = PB
X B YB ZB
PA = updated price
PB = base price
X, Y, Z = most important inputs of the product
A = updated price of input
B = base price of each input
a, b, c, d = proportion of each input within the total cost
- Based on MARKETING STRATEGIES.
The current market demands a fair price from companies and this is given by supply and demand, we cannot put a sale price based on analysis or financial data only, we must consider the market price and especially the price of the star product, named for being positioned in the mind of the customer, which meets the requirements that it demands, such as quality, price, service, presentation, etc.
Therefore, this price must be lower than that of the star product, but not so much that the customer perceives it as a low-quality product due to its price, that is, the price must position it in a second place seen from the price of other products.
- ALLOCATION OF OPERATIONAL EXPENSES AT THE SALE PRICE.
This has always been a headache for the people in charge of determining a price considering the operational expenses that affect the products, for this reason I think it convenient to present an alternative that, without being the only one, allows us to consider the allocation of expenses on the basis of from sales in securities, to product costs, to the contribution margin, among others.
The truth is that any method applied must present us with a reasonable price that keeps us in the competitive market.
5.7 RISKS IN PRICE SETTING
Each company must face a demand program for its products, the nature of a demand program can be indicative of the importance of costs in determining prices. When demand for a product is not elastic, that is, when the quantity of demand does not react to price changes, and prices are not subject to government regulation, cost increases can easily be passed on to buyers in the form of price increases. In such cases, the cost accountant should be concerned with indicating the effect of costs on profits and the effect of proposed price changes.
When demand for a product is relatively elastic, the cost accountant should be more interested in preparing reports that reveal cost-volume-profit at different price levels. When there is a price market and the company is not very prudent in determining prices, costs have negligible influence on the prices of the company's products. However, they are always important in decisions regarding whether or not certain products should be manufactured and to make known which products are more lucrative and therefore should be manufactured with greater participation.
Variations in demand are important for executives who set prices, managers try to induce favorable changes in demand in order to maximize profits, which can be achieved by improving the product, with advertising and promotion of the sales. These efforts will be successful if the resulting increases in revenue exceed the additional cost outlays. The importance of elasticity and variations in demand lies in the effect they have on the cost-volume-profit relationship; the mere existence of a demand program is the responsibility of executives to consider not only costs to determine prices.
Despite the above considerations, there is a tendency to exaggerate or diminish the importance of costs in determining prices. You often hear it said that prices are based on competition, or that prices are based on costs; both costs and competition are important in pricing strategy.
Even in cases where the influence of costs in the determination of prices is not immediate, these constitute a strong support for the making of related decisions, such as whether or not to introduce a new product, which items should be promoted and the setting price differentials. In decision making, costs must have a specific purpose, they must be selected with a view to solving the specific problem you are considering. For decision making, costs must be more anticipated than retrospective, prices must recover the costs expected to be incurred during the period for which prices have been determined. The role of the cost accountant is very important,You must be prepared to determine the effect that these future cost expectations may have on the company's cost-volume-profit ratio.
Product prices provide funds not only for profit distribution and business expansion, but also for the replacement of fixed assets. However, very few companies consider replacement costs in the data for pricing.
The use of indirect manufacturing cost coefficients for price determination is dangerous, it is known that the use of indirect cost coefficients tend to ensure the recovery of total costs in the long run. However, manufacturing overhead ratios generally do not separate fixed costs and variable costs, which is important for decisions regarding short-term pricing.
The accountant does not give due importance to the cost of imputed interest, however there is nothing theoretical regarding this type of interest on the investment amount in certain cases of price determination. In companies with up-to-date technological development and product diversification, not including a provision for interest on capital can lead to an unbalanced price structure.
Depending on its size, a company must establish its prices considering several important factors such as competition, supply, demand, costs, etc. and commission a high-level committee of executive officers to take into account all these factors to determine their prices, always aiming to achieve positive results for the development of your company.
BIBLIOGRAPHY.
- Administrative Accounting, by Warren, Reevé, Fess sixth edition, Printed in Mexico Accounting and Cost Management, L. Gayle Rayburn sixth edition Printed in Mexico
In the webinar «Analyzing costs for decision-making», Professor Carlos Saavedra explains, in just over 2 hours, how a company can become more competitive by optimizing its costs. A good learning complement for the present text.
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