mca rough notes

7/31/2019 MCA Rough Notes

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There are several costs that a firm should consider under relevant circumstances. It is quite essential for a firm tounderstand the difference between various cost concepts for the purpose of production/business decisionmaking. The following are the various cost concepts/types of costs.

(A) Actual Cost

(B) Opportunity Cost(C) Sunk Cost

(D) Incremental Cost

(E) Explicit Cost

(F) Implicit Cost

(G) Book Cost

(H) Out Of Pocket Costs

(I) Accounting Costs

(J) Economic Costs

(K) Direct Cost

(L) Indirect Costs(M) Controllable Costs

(N) Non Controllable Costs

(O) Historical Costs and Replacement Costs.

(P) Shutdown Costs

(Q) Abandonment Costs

(R) Urgent Costs and Postponable Costs

(S) Business Cost and Full Cost

(T) Fixed Costs

(U) Variable Costs

(V) Total Cost, Average Cost and Marginal Cost(W) Short Run Cost and Long Run Cost

CostDefinition

Something of value, usually an amount of money, given up in exchange for something else, usually

goods or services. All expenses are costs, but not allcosts are expenses. (An expense is the cost of

resources used to produce revenue.) As a verb, cost means to estimate the amount of money needed

to produce a product or perform a service.

Different Types of Costs with Examples - From M to W?

(A) Actual Cost

Actual cost is defined as the cost or expenditure which a firm incurs for producing or acquiring a good or service.

The actual costs or expenditures are recorded in the books of accounts of a business unit. Actual costs are also

called as "Outlay Costs" or "Absolute Costs" or "Acquisition Costs".

Examples: Cost of raw materials, Wage Bill etc.

(B) Opportunity Cost

Opportunity cost is concerned with the cost of forgone opportunities/alternatives. In other words, it is the return
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from the second best use of the firms resources which the firms forgoes in order to avail of the return from the

best use of the resources. It can also be said as the comparison between the policy that was chosen and the

policy that was rejected. The concept of opportunity cost focuses on the net revenue that could be generated in

the next best use of a scare input. Opportunity cost is also called as "Alternative Cost".

If a firm owns a land, there is no cost of using the land (ie., the rent) in the firms account. But the firm has an

opportunity cost of using the land, which is equal to the rent forgone by not letting the land out on rent.

(C) Sunk Cost

Sunk costs are those do not alter by varying the nature or level of business activity. Sunk costs are generally not

taken into consideration in decision - making as they do not vary with the changes in the future. Sunk costs are a

part of the outlay/actual costs. Sunk costs are also called as "Non-Avoidable costs" or "Inescapable costs".

Examples: All the past costs are considered as sunk costs. The best example is amortization of past expenses,

like depreciation.

(D) Incremental Cost

Incremental costs are addition to costs resulting from a change in the nature of level of business activity. As the

costs can be avoided by not bringing any variation in the activity in the activity, they are also called as "Avoidable

Costs" or "Escapable Costs". More ever incremental costs resulting from a contemplated change is the Future,

they are also called as "Differential Costs"

Example: Change in distribution channels adding or deleting a product in the product line.

(E) Explicit Cost

Explicit costs are those expenses/expenditures that are actually paid by the firm. These costs are recorded in the

books of accounts. Explicit costs are important for calculating the profit and loss accounts and guide in economic

decision-making. Explicit costs are also called as "Paid out costs"

Example: Interest payment on borrowed funds, rent payment, wages, utility expenses etc.

(F) Implicit Cost

Implicit costs are a part of opportunity cost. They are the theoretical costs ie., they are not recognised by the

accounting system and are not recorded in the books of accounts but are very important in certain decisions.

They are also called as the earnings of those employed resources which belong to the owner himself. Implicitcosts are also called as "Imputed costs".

Examples: Rent on idle land, depreciation on dully depreciated property still in use, interest on equity capital etc.

(G) Book Cost

Book costs are those business costs which don't involve any cash payments but a provision is made in the books

of accounts in order to include them in the profit and loss account and take tax advantages, like provision for

depreciation and for unpaid amount of the interest on the owners capital.

(H) Out Of Pocket Costs

Out of pocket costs are those costs are expenses which are current payments to the outsiders of the firm. All the

explicit costs fall into the category of out of pocket costs.

Examples: Rent Payed, wages, salaries, interest etc

(I) Accounting Costs

Accounting costs are the actual or outlay costs that point out the amount of expenditure that has already been

incurred on a particular process or on production as such accounting costs facilitate for managing the taxation

need and profitability of the firm.

Examples: All Sunk costs are accounting costs

(J) Economic Costs

Economic costs are related to future. They play a vital role in business decisions as the costs considered in

decision - making are usually future costs. They have the nature similar to that of incremental, imputed explicit

and opportunity costs.

(K) Direct CostDirect costs are those which have direct relationship with a unit of operation like manufacturing a product,


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organizing a process or an activity etc. In other words, direct costs are those which are directly and definitely

identifiable. The nature of the direct costs are related with a particular product/process, they vary with variations

in them. Therefore all direct costs are variable in nature. It is also called as "Traceable Costs"

Examples: In operating railway services, the costs of wagons, coaches and engines are direct costs.

(L) Indirect Costs

Indirect costs are those which cannot be easily and definitely identifiable in relation to a plant, a product, aprocess or a department. Like the direct costs indirect costs, do not vary ie., they may or may not be variable in

nature. However, the nature of indirect costs depend upon the costing under consideration. Indirect costs are

both the fixed and the variable type as they may or may not vary as a result of the proposed changes in the

production process etc. Indirect costs are also called as Non-traceable costs.

Example: The cost of factory building, the track of a railway system etc., are fixed indirect costs and the costs of

machinery, labour etc.

(M) Controllable Costs

Controllable costs are those which can be controlled or regulated through observation by an executive

and therefore they can be used for assessing the efficiency of the executive. Most of the costs are

controllable.

Example: Inventory costs can be controlled at the shop level etc.

(N) Non Controllable Costs

The costs which cannot be subjected to administrative control and supervision are called non

controllable costs.

Example: Costs due obsolesce and depreciation, capital costs etc.

(O) Historical Costs and Replacement Costs.

Historical cost or original costs of an asset refers to the original price paid by the management topurchase it in the past. Whereas replacement costs refers to the cost that a firm incurs to replace or

acquire the same asset now. The distinction between the historical cost and the replacement cost result

from the changes of prices over time. In conventional financial accounts, the value of an asset is shown

at their historical costs but in decision-making the firm needs to adjust them to reflect price level

changes.

Example: If a firm acquires a machine for $20,000 in the year 1990 and the same machine costs $40,000

now. The amount $20,000 is the historical cost and the amount $40,000 is the replacement cost.

(P) Shutdown Costs

The costs which a firm incurs when it temporarily stops its operations are called shutdown costs. Thesecosts can be saved when the firm again start its operations. Shutdown costs include fixed costs,

maintenance cost, layoff expenses etc.

(Q) Abandonment Costs

Abandonment costs are those costs which are incurred for the complete removal of the fixed asset from

use. These may occur due to obsolesce or due to improvisation of the firm. Abandonment costs thus

involve problem of disposal of the asset.

(R) Urget Costs and Postponable Costs

Urgent costs are those costs which have to be incurred compulsorily by the management in order tocontinue its operations. If urgent costs are not incurred in time the operational efficiency of the firm falls.


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Example: Cost of material, labour, fuel etc

Postponable costs are those which if not incurred in time do not effect the operational efficiency of the

firm. Examples are maintenance costs.

(S) Business Cost and Full Cost

Business costs include all the expenses incurred by the firm to carry out business activities. Costs

Include all the payments and contractual obligations made by the firm together with the book cost of

depreciation on plant and equipment.

Full costs include business costs, opportunity costs, and normal profits. Opportunity costs is the

expected return/earnings from the next best use of the firms resources like capital, land and building,

owners efforts and time. Normal profits is necessary minimum earning in addition to the opportunity

costs, which a firm must receive to remain in its present occupation.

(T) Fixed Costs

Fixed costs are the costs that do not vary with the changes in output. In other words, fixed costs are

those which are fixed in volume though there are variations in the output level.. If the time period in

volume under consideration is long enough to make the adjustments in the capacity of the firm, the fixed

costs also vary.

Examples: Expenditures on depreciation costs of administrative, staff, rent, land and buildings, taxes etc.

(U) Variable Costs

Variable Costs are those that are directly dependent on the output ie., they vary with the variation in the

volume/level of output. Variable costs increase in output level but not necessarily in the sameproportion. The proportionality between the variable costs and output depends upon the utilization of

fixed facilities and resources during the production process.

Example: Cost of raw materials, expenditure on labour, running cost or maintenance costs of fixed

assets such as fuel, repairs, routine maintenance expenditure.

(V) Total Cost, Average Cost and Marginal Cost

Total cost (TC) refers to the money value of the total resources/inputs required for the production of

goods and services by the firm. In other words, it refers to the total outlays of money expenditure, both

explicit and implicit, on the resources used to produce a given level output. Total cost includes both

fixed and variable costs and is given by TC = VC + FC

Average Cost (AC) , refers to the cost per unit of output assuming that production of each unit incurs the

same cost. It is statistical in nature and is not an actual cost. It is obtained by dividing Total Cost(TC) by

Total Output(Q)

AC= TC/Q

Marginal costs(MC), refers to the additional costs that are incurred when there is an addition to the

existing output level of goods ans services. In other words, it is the addition to the Total Cost(TC) on

account of producing additional units.

(W) Short Run Cost and Long Run Cost


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Both short run and long run costs are related to fixed and variable costs and are often used in economic

analysis.

Short Run Cost: These costs are which vary with the variation in the output with size of the firm as

same. Short run costs are same as variable costs. Broadly, short run costs are associated with variable

inputs in the utilization of fixed plant or other requirements.

Long Run Cost: These costs are which incurred on the fixed assets like land and building, plant and

machinery etc., Long run costs are same as fixed costs. Usually, long run costs are associated with

variations in size and kind of plant.

Chapter 2

Marginal Costing and Absorption Costing

Learning Objectives

To understand the meanings of marginal cost and marginal costing To distinguish between marginal costing and absorption costing To ascertain income under both marginal costing and absorption costing

Introduction

The costs that vary with a decision should only be included in decision analysis.For many decisions that involve relatively small variations from existing practiceand/or are for relatively limited periods of time, fixed costs are not relevant to thedecision. This is because either fixed costs tend to be impossible to alter in theshort term or managers are reluctant to alter them in the short term.

Marginal costing - definition

Marginal costing distinguishes between fixed costs and variable costs asconvention ally classified.

The marginal cost of a product is its variable cost. This is normally taken tobe; direct labour, direct material, direct expenses and the variable part ofoverheads.

Marginal costing is formally defined as:the accounting system in which variable costs are charged to cost units and thefixed costs of the period are written-off in full against the aggregate contribution.

Its special value is in decision making. (Terminology.)


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The term contribution mentioned in the formal definition is the term given to thedifference between Sales and Marginal cost. Thus

MARGINAL COST = VARIABLE COST DIRECT LABOUR+DIRECT MATERIAL+DIRECT EXPENSE+VARIABLE OVERHEADS

CONTRIBUTION SALES - MARGINAL COSTThe term marginal cost sometimes refers to the marginal cost per unit andsometimes to the total marginal costs of a department or batch or operation. Themeaning is usually clear from the context.NoteAlternative names for marginal costing are the contribution approach and directcosting In this lesson, we will study marginal costing as a technique quite distinctfrom absorption costing.

Theory of Marginal Costing

The theory of marginal costing as set out in A report on Marginal Costing

published by CIMA, London is as follows:

In relation to a given volume of output, additional output can normally be obtainedat less than proportionate cost because within limits, the aggregate of certain itemsof cost will tend to remain fixed and only the aggregate of the remainder will tendto rise proportionately with an increase in output. Conversely, a decrease in thevolume of output will normally be accompanied by less than proportionate fall inthe aggregate cost.

The theory of marginal costing may, therefore, by understood in the following twosteps:

1. If the volume of output increases, the cost per unit in normal circumstancesreduces. Conversely, if an output reduces, the cost per unit increases. If afactory produces 1000 units at a total cost of $3,000 and if by increasing theoutput by one unit the cost goes up to $3,002, the marginal cost of additionaloutput will be $.2.

2. If an increase in output is more than one, the total increase in cost dividedby the total increase in output will give the average marginal cost per unit.If, for example, the output is increased to 1020 units from 1000 units and thetotal cost to produce these units is $1,045, the average marginal cost per unitis $2.25. It can be described as follows:


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Additional cost =Additional units

$ 45 = $2.2520

The ascertainment of marginal cost is based on the classification and segregation

of cost into fixed and variable cost. In order to understand the marginal costingtechnique, it is essential to understand the meaning of marginal cost.

Marginal cost means the cost of the marginal or last unit produced. It is alsodefined as the cost of one more or one less unit produced besides existing level ofproduction. In this connection, a unit may mean a single commodity, a dozen, agross or any other measure of goods.

For example, if a manufacturing firm produces X unit at a cost of $ 300 and X+1units at a cost of $ 320, the cost of an additional unit will be $ 20 which is marginal

cost. Similarly if the production of X-1 units comes down to $ 280, the cost ofmarginal unit will be $ 20 (300280).

The marginal cost varies directly with the volume of production and marginal costper unit remains the same. It consists of prime cost, i.e. cost of direct materials,direct labor and all variable overheads. It does not contain any element of fixedcost which is kept separate under marginal cost technique.

Marginal costing may be defined as the technique of presenting cost data whereinvariable costs and fixed costs are shown separately for managerial decision-

making. It should be clearly understood that marginal costing is not a method ofcosting like process costing or job costing. Rather it is simply a method ortechnique of the analysis of cost information for the guidance of managementwhich tries to find out an effect on profit due to changes in the volume of output.

There are different phrases being used for this technique of costing. In UK,marginal costing is a popular phrase whereas in US, it is known as direct costingand is used in place of marginal costing. Variable costing is another name ofmarginal costing.

Marginal costing technique has given birth to a very useful concept of contributionwhere contribution is given by: Sales revenue less variable cost (marginal cost)

Contribution may be defined as the profit before the recovery of fixed costs. Thus,contribution goes toward the recovery of fixed cost and profit, and is equal to fixedcost plus profit (C = F + P).

In case a firm neither makes profit nor suffers loss, contribution will be just equalto fixed cost (C = F). this is known as break even point.


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The concept of contribution is very useful in marginal costing. It has a fixedrelation with sales. The proportion of contribution to sales is known as P/V ratiowhich remains the same under given conditions of production and sales.

The principles of marginal costing

The principles of marginal costing are as follows.

a. For any given period of time, fixed costs will be the same, for any volume ofsales and production (provided that the level of activity is within therelevant range). Therefore, by selling an extra item of product or servicethe following will happen.

Revenue will increase by the sales value of the item sold. Costs will increase by the variable cost per unit. Profit will increase by the amount of contribution earned from the

extra item.b. Similarly, if the volume of sales falls by one item, the profit will fall by the

amount of contribution earned from the item.c. Profit measurement should therefore be based on an analysis of total

contribution. Since fixed costs relate to a period of time, and do not changewith increases or decreases in sales volume, it is misleading to charge unitsof sale with a share of fixed costs.

d. When a unit of product is made, the extra costs incurred in its manufactureare the variable production costs. Fixed costs are unaffected, and no extrafixed costs are incurred when output is increased.

Features of Marginal Costing

The main features of marginal costing are as follows:

1. Cost ClassificationThe marginal costing technique makes a sharp distinction between variablecosts and fixed costs. It is the variable cost on the basis of which production

and sales policies are designed by a firm following the marginal costingtechnique.

2. Stock/Inventory ValuationUnder marginal costing, inventory/stock for profit measurement is valued atmarginal cost. It is in sharp contrast to the total unit cost under absorptioncosting method.

3.Marginal ContributionMarginal costing technique makes use of marginal contribution for markingvarious decisions. Marginal contribution is the difference between sales andmarginal cost. It forms the basis for judging the profitability of differentproducts or departments.


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Advantages and Disadvantages of Marginal Costing

Technique

Advantages

1. Marginal costing is simple to understand.2. By not charging fixed overhead to cost of production, the effect of varying

charges per unit is avoided.3. It prevents the illogical carry forward in stock valuation of some proportion

of current years fixed overhead.4. The effects of alternative sales or production policies can be more readily

available and assessed, and decisions taken would yield the maximum returnto business.

5. It eliminates large balances left in overhead control accounts which indicatethe difficulty of ascertaining an accurate overhead recovery rate.

6. Practical cost control is greatly facilitated. By avoiding arbitrary allocationof fixed overhead, efforts can be concentrated on maintaining a uniform andconsistent marginal cost. It is useful to various levels of management.

7. It helps in short-term profit planning by breakeven and profitability analysis,both in terms of quantity and graphs. Comparative profitability andperformance between two or more products and divisions can easily beassessed and brought to the notice of management for decision making.

Disadvantages

1. The separation of costs into fixed and variable is difficult and sometimesgives misleading results.

2. Normal costing systems also apply overhead under normal operating volumeand this shows that no advantage is gained by marginal costing.

3. Under marginal costing, stocks and work in progress are understated. Theexclusion of fixed costs from inventories affect profit, and true and fair viewof financial affairs of an organization may not be clearly transparent.

4. Volume variance in standard costing also discloses the effect of fluctuatingoutput on fixed overhead. Marginal cost data becomes unrealistic in case ofhighly fluctuating levels of production, e.g., in case of seasonal factories.

5. Application of fixed overhead depends on estimates and not on the actualsand as such there may be under or over absorption of the same.

6. Control affected by means of budgetary control is also accepted by many. Inorder to know the net profit, we should not be satisfied with contributionand hence, fixed overhead is also a valuable item. A system which ignoresfixed costs is less effective since a major portion of fixed cost is not takencare of under marginal costing.

7. In practice, sales price, fixed cost and variable cost per unit may vary. Thus,the assumptions underlying the theory of marginal costing sometimes


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becomes unrealistic. For long term profit planning, absorption costing is theonly answer.

Presentation of Cost Data under Marginal Costing and Absorption Costing

Marginal costing is not a method of costing but a technique of presentation of salesand cost data with a view to guide management in decision-making.

The traditional technique popularly known as total cost or absorption costingtechnique does not make any difference between variable and fixed cost in thecalculation of profits. But marginal cost statement very clearly indicates thisdifference in arriving at the net operational results of a firm.

Following presentation of two Performa shows the difference between the

presentation of information according to absorption and marginal costingtechniques:

MARGINAL COSTING PRO-FORMA

Sales Revenue xxxxx

Less Marginal Cost of Sales

Opening Stock (Valued @ marginal cost) xxxx

Add Production Cost (Valued @ marginal cost) xxxx

Total Production Cost xxxxLess Closing Stock (Valued @ marginal cost) (xxx)

Marginal Cost of Production xxxx

Add Selling, Admin & Distribution Cost xxxx

Marginal Cost of Sales (xxxx)

Contribution xxxxx

Less Fixed Cost (xxxx)

Marginal Costing Profit xxxxx

ABSORPTION COSTING PRO-FORMA

Sales Revenue xxxxx

Less Absorption Cost of Sales

Opening Stock (Valued @ absorption cost) xxxx

Add Production Cost (Valued @ absorption cost) xxxx

Total Production Cost xxxx

Less Closing Stock (Valued @ absorption cost) (xxx)

Absorption Cost of Production xxxx

Add Selling, Admin & Distribution Cost xxxx

Absorption Cost of Sales (xxxx)


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Un-Adjusted Profit xxxxx

Fixed Production O/H absorbed xxxx

Fixed Production O/H incurred (xxxx)

(Under)/Over Absorption xxxxx

Adjusted Profit xxxxx

Reconciliation Statement for Marginal Costing and Absorption Costing Profit

$

Marginal Costing Profit xx

ADD(Closing stockopening Stock) x OAR

xx

= Absorption Costing Profit xx

Where OAR( overhead absorption rate) =Budgeted fixed production overheadBudgeted levels of activities

Marginal Costing versus Absorption Costing

After knowing the two techniques of marginal costing and absorption costing, wehave seen that the net profits are not the same because of the following reasons:

1. Over and Under Absorbed Overheads

In absorption costing, fixed overheads can never be absorbed exactly because ofdifficulty in forecasting costs and volume of output. If these balances of under orover absorbed/recovery are not written off to costing profit and loss account, theactual amount incurred is not shown in it. In marginal costing, however, the actualfixed overhead incurred is wholly charged against contribution and hence, therewill be some difference in net profits.

2. Difference in Stock Valuation

In marginal costing, work in progress and finished stocks are valued at marginalcost, but in absorption costing, they are valued at total production cost. Hence,profit will differ as different amounts of fixed overheads are considered in twoaccounts.

The profit difference due to difference in stock valuation is summarized as follows:

a. When there is no opening and closing stocks, there will be no difference inprofit.


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b. When opening and closing stocks are same, there will be no difference inprofit, provided the fixed cost element in opening and closing stocks are ofthe same amount.

c. When closing stock is more than opening stock, the profit under absorption

costing will be higher as comparatively a greater portion of fixed cost isincluded in closing stock and carried over to next period.d. When closing stock is less than opening stock, the profit under absorption

costing will be less as comparatively a higher amount of fixed costcontained in opening stock is debited during the current period.

The features which distinguish marginal costing from

absorption costing are as follows.

a. In absorption costing, items of stock are costed to include a fair share offixed production overhead, whereas in marginal costing, stocks are valued atvariable production cost only. The value of closing stock will be higher inabsorption costing than in marginal costing.

b. As a consequence of carrying forward an element of fixed productionoverheads in closing stock values, the cost of sales used to determine profitin absorption costing will:

i. include some fixed production overhead costs incurred in a previousperiod but carried forward into opening stock values of the currentperiod;

ii. exclude some fixed production overhead costs incurred in the currentperiod by including them in closing stock values.

In contrast marginal costing charges the actual fixed costs of a period in fullinto the profit and loss account of the period. (Marginal costing is thereforesometimes known as period costing.)

c. In absorption costing, actual fully absorbed unit costs are reduced byproducing in greater quantities, whereas in marginal costing, unit variablecosts are unaffected by the volume of production (that is, provided that

variable costs per unit remain unaltered at the changed level of productionactivity). Profit per unit in any period can be affected by the actual volumeof production in absorption costing; this is not the case in marginal costing.

d. In marginal costing, the identification of variable costs and of contributionenables management to use cost information more easily for decision-making purposes (such as in budget decision making). It is easy to decide byhow much contribution (and therefore profit) will be affected by changes insales volume. (Profit would be unaffected by changes in productionvolume).


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In absorption costing, however, the effect on profit in a period of changes inboth:

i. production volume; andii. sales volume;

is not easily seen, because behaviour is not analysed and incrementalcosts are not used in the calculation of actual profit.

Limitations of Absorption Costing

The following are the criticisms against absorption costing:

1. You might have observed that in absorption costing, a portion of fixed costis carried over to the subsequent accounting period as part of closing stock.

This is an unsound practice because costs pertaining to a period should notbe allowed to be vitiated by the inclusion of costs pertaining to the previousperiod and vice versa.

2. Further, absorption costing is dependent on the levels of output which mayvary from period to period, and consequently cost per unit changes due tothe existence of fixed overhead. Unless fixed overhead rate is based onnormal capacity, such changed costs are not helpful for the purposes ofcomparison and control.

The cost to produce an extra unit is variable production cost. It is realistic to the

value of closing stock items as this is a directly attributable cost. The size of totalcontribution varies directly with sales volume at a constant rate per unit. For thedecision-making purpose of management, better information about expected profitis obtained from the use of variable costs and contribution approach in theaccounting system.

Summary

Marginal cost is the cost management technique for the analysis of cost and

revenue information and for the guidance of management. The presentation ofinformation through marginal costing statement is easily understood by allmangers, even those who do not have preliminary knowledge and implications ofthe subjects of cost and management accounting.

Absorption costing and marginal costing are two different techniques of costaccounting. Absorption costing is widely used for cost control purpose whereasmarginal costing is used for managerial decision-making and control.


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The difference between Marginal Costing and Absorption Costing

can be narrated as below:

Absorption Costing Marginal Costing

Calculation of In this absorption rate include Marginal costing rates includes

Manufacture fixed and variable manufacturing only variable manufacturing

Overhead rates Overheads. Overhead.

Valuation of In Absorption Costing valuation is Marginal costing it will be at prime

Inventory on Product cost ie.

Prime cost + cost + applied variable manufactur

applied fixed and variable ing overhead.

manufacturing overheads.

Classification of In Absorption costing the over In Marginal costing

overheads are

Overhead head may be classified as are classified as variable and fixed.

factory, administrative,

selling and distribution.

Operating Profit Under Absorptions Costing In Marginal costing, Marginal

Gross Profit-NetSales - income or contribution = net sales

Manufacturing cost = - variable manufacturing cost of

Prime cost +Fixed and goods soldvariable administrative

Variable manufacturing selling and distribution overhead.

Overhead.

Net operating Under Absorption costing, Under Marginal costing Net

Profit Net operating profit = Gross operating profit = Marginal income

Profit = administrative selling or contribution fixed manufacturing

And distribution overheads ( overheads fixed administrative

Fixed and variable combined). Overheads fixed selling and

distribution overhead

Difference of When production volume When production volume is less

Profit exceeds sales volume the net than sales volume, absorption cost

Profit under absorption costing ing net profit will be less than

marginal net profit

Net Profit. The Net profit will be

equal when production volume

is equal to sales volume.


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Absorption Costing vs Marginal CostingThe system of computing the cost of production is known as costing. The main purpose of any costingsystem is to identify the cost incurred for the production of a unit output. In a manufacturing company,identifying the cost associated with a unit product is very important to price the product such that thecompany could make a profit and survive to exist in the future. Both absorption costing and marginalcosting are traditional system of costing. Both methods have their own pros and cons. In modern

managementaccounting, there are some sophisticated costing methods such as activity basedcosting (ABC) that are very popular. Those methods are built up just by adding and amending someprinciples of the principles of traditional costing system.Marginal CostingMarginal costing calculates the cost to be incurred when an additional unit is produced. Prime cost,which includes direct material, directlabour, direct expenses, and variable overheads are themaincomponentsof marginal costing. Contribution is a concept developed along with marginalcosting. Contribution is the net sales revenue to the variable cost. Under marginal costing methods,fixed costs are not taken into account based on the argument that fixed cost like factory rent, utilities,amortization, etc. are to be incurred, whether the production is done or not. In marginal costing, fixedcost are treated as period cost. Often managers require marginal costing to make decisions as itcontains costs that vary with the number of unit produced. Marginal costing is also known as variablecosting and direct costing.

Absorption CostingUnder Absorption costing method, not only the variable costs, but fixed costs also absorbed by theproduct. Most accounting principles require absorption costing for the purpose of external reporting.This method is always used to prepare financial statements. Adsorption costing is used to calculateprofit and stock valuation in the financial statement. As stock cannot be undervalued in this method,Inland Revenue requires this costing. Fixed costs are taken into account on the assumption that theymust be recovered. The terms Full absorption costing and Full costing also denote the absorptioncosting.

What is the difference between Marginal Costing and Absorption Costing? Though, marginal costing and absorption costing are two traditional costing techniques, theyhave their own unique principles that draw a fine line that separates one from another. In marginal costing, contribution is calculated, whereas this is not calculated under absorptioncosting.

When valuing the stocks under marginal costing, only the variable costs are considered,whereas valuation of stock under absorption costing includes costs incurred for the productionfunction also. Generally, the value of inventory is higher under absorption costing than marginal costing. Marginal costing is often used for internal reporting purposes (facilitate the decision making ofmanagers), while absorption costing is required for external reporting purposes, such as incometax reporting. Contribution must be calculated under marginal costing system, whereas gross profit will becalculated under absorption costing method.

ABSORPTION VS VARIABLE COSTING LECTURE

BREAKEVEN ANALYSIS

Absorption Costing vs Variable Costing
http://www.differencebetween.com/category/business/finance-business/accounting/http://www.differencebetween.com/category/business/finance-business/accounting/http://www.differencebetween.com/category/business/finance-business/accounting/http://www.differencebetween.com/category/countries/north-america/canada/labour-canada/http://www.differencebetween.com/category/countries/north-america/canada/labour-canada/http://www.differencebetween.com/category/countries/north-america/canada/labour-canada/http://www.differencebetween.com/category/technology/electronics/components/http://www.differencebetween.com/category/technology/electronics/components/http://www.differencebetween.com/category/technology/electronics/components/http://www.differencebetween.com/category/technology/electronics/components/http://www.differencebetween.com/category/countries/north-america/canada/labour-canada/http://www.differencebetween.com/category/business/finance-business/accounting/


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Remember: An asset is a resource of the company that gives a future economic benefit.Inventories are assets because they give future benefits to the company in the terms ofsales revenue.

Absorption costing: includes all manufacturing costs --- including direct materials, directlabor, and BOTH variable and fixed manufacturing overhead.

Absorption Costing = Full Costing

Under absorption costing, fixed overhead is a product cost until sold.

Absorption costing makes no distinction between fixed and variable costs thus is not suitedfor CVP analysis.

Sales less Absorption Cost of Goods Sold will equal Gross Profit

Functional Analysis of the Income Statement


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Variable costing: includes only variable manufacturing costs --- direct materials, directlabor, and variable manufacturing overhead.

The entire amount of fixed costs are expenses in the year incurred.

When calculating Contribution Margin, Variable Cost of Goods Sold and Variable Sellingand Administrative Expenses and subtracted from Sales.

Behavioral Analysis of the Income Statement

Variable costing can be used for Cost Volume Profit (Break-even Analysis)

Rules about Absorption Costing versus Variable Costing.

Rules about unit sales and production under the two costing methods.

If sales are variable and production constant.


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a. When production is equal to sales, then absorption costing and variable costing will givethe same amount of net income.

b. When production is greater than sales, then Net Income under absorption costing will begreater than net income under variable costing because a portion of the fixed costs wasdeferred to other years under the absorption method.

c. When production is less than sales, then Net Income under absorption costing will be lessthan net income under variable costing because a portion of the fixed costs that weredeferred from previous years will be absorbed into this years cost of goods sold.

d. The value of inventory will be greater under the absorption method because of thedeferred costs, however the total unit count will be the same for each accounting method.

e. Over the long-term, net income will be equal under both methods.

If sales are constant and production is variable then:

a. Net income under variable costing is not influenced by the fluctuations in sales (given aconstant production) because none of the fixed manufacturing costs are deferred.


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b. Net income under absorption costing is influenced by the fluctuations in sales (given aconstant production) because a portion of the fixed manufacturing costs are deferred andmay be used each year to increase costs.

Should Fixed Manufacturing Costs be Included in Inventories?

Advocates of full costing say yes, because all of the production costs are needed to createthe products. Thus, they have "future economic benefits."

Advocates of variable costing argue that in order for a fixed manufacturing cost to be anasset, it has to meet a "future cost avoidance" criteria much the same way as prepaidinsurance. In the case of fixed manufacturing costs, they do not meet this criteria becausethey are incurred each time the production line opens. Thus, they need to be expenses inthat period and only variance expenses inventoried.

Problems with absorption costing also include potential manipulations by plant managerssuch as increasing production regardless of sales levels to defer costs to the next year andshow a higher current profit for the sake of bonuses and promotions

Example of Absorption versus Variable Costing Data


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Units Produced 200,000

Sales Price $15.00

Direct Materials Cost per Unit $4.00

Direct Labor Cost Per Unit $3.00

Variable Manufacturing Cost Per unit $2.00

Variable Sales Cost per Unit $1.00

Fixed Manufacturing Overhead $200,000

Fixed Selling Costs $100,000

Unit Cost Under Absorption Costing:

Data

Direct Materials Cost per Unit

Direct Labor Cost Per Unit

Variable Manufacturing Cost Per unit

Fixed Manufacturing Overhead Per unit

Unit Cost Under Variable Costing:

Direct Materials Cost per UnitDirect Labor Cost Per Unit

Variable Manufacturing Cost Per unit

Total Cost Per Unit


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Income statement under Absorption if only 180,000 units weresold:

Sales

Cost of Goods Sold

Beginning Inventory

Cost of Goods Manufactured

Goods Available for Sale

Ending Inventory

Cost of Goods Sold

Gross Profit

Variable SellingFixed Selling

Net Income

Income statement under Variable Costing if 180,000 units were sold:

Sales

Cost of Goods Sold

Beginning Inventory

Cost of Goods Manufactured

Goods Available for Sale

Ending Inventory

Variable Cost of Goods Sold

Variable Selling

Total Variable Costs

Contribution Margin

Fixed Manufacturing Overhead

Fixed Selling

Net Income


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Reconciliation:

Example of Absorption versus Variable Costing -- Answer

Data

Units Produced 200,000

Sales Price $15.00




Variable Sales Cost per Unit $1.00

Fixed Manufacturing Overhead $200,000

Fixed Selling Costs $100,000

Unit Cost Under Absorption Costing:

Data

Direct Materials Cost per Unit $4.00Direct Labor Cost Per Unit $3.00


Fixed Manufacturing Overhead Per unit $200,000/ 200,000 units $1.00

$10.00

Unit Cost Under Variable Costing:




Total Cost Per Unit $9.00


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Target Profit ---- $150,000 Tax Rate --- 40%

Income statement under Absorption if only 180,000 units were sold:

Sales 15 x 180,000 units $2,700,000

Cost of Goods Sold

Beginning Inventory 0

Cost of Goods Manufactured $10 x 200,000 $2,000,000

Goods Available for Sale 2,000,000

Ending Inventory $10 x 20,000 200,000

Cost of Goods Sold 1,800,000

Gross Profit 900,000

Variable Selling $1 x 180,000 180,000

Fixed Selling 100,000

Net Income $620,000

Income statement under Variable Costing if 180,000 units were sold:

Sales 15 x 180,000 units $2,700,000

Cost of Goods Sold

Beginning Inventory 0

Cost of Goods Manufactured $9 x 200,000 $1,800,000

Goods Available for Sale 1,800,000

Ending Inventory $9 x 20,000 180,000

Variable Cost of Goods Sold 1,620,000

Variable Selling $1 x 180,000 180,000

Total Variable Costs 1,800,000

Contribution Margin 900,000

Fixed Manufacturing Overhead 200,000

Fixed Selling 100,000

Net Income $600,000


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Reconciliation: $620,000 - $600,000 = $20,000/20,000 units = The $1.00 per unit differencein inventory costs. Essentially $20,000 [20,000 units x $1.00] in costs were deferred to thenext accounting period under Absorption costing.

ANS 4:

Angle of incidenceFrom Wikipedia, the free encyclopedia

This article needs additionalcitationsforverification. Please helpimprove this

articleby adding citations toreliable sources. Unsourced material may

bechallengedandremoved.(September 2009)

Angle of incidence

Angle of incidence is a measure of deviation of something from "straight on", for example:

in the approach of arayto a surface, or

the angle at which thewingorhorizontal tailof anairplaneis installed on thefuselage, measured

relative to the axis of the fuselage.
http://en.wikipedia.org/wiki/Wikipedia:Citing_sources#Inline_citationshttp://en.wikipedia.org/wiki/Wikipedia:Citing_sources#Inline_citationshttp://en.wikipedia.org/wiki/Wikipedia:Citing_sources#Inline_citationshttp://en.wikipedia.org/wiki/Wikipedia:Verifiabilityhttp://en.wikipedia.org/wiki/Wikipedia:Verifiabilityhttp://en.wikipedia.org/wiki/Wikipedia:Verifiabilityhttp://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edithttp://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edithttp://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edithttp://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edithttp://en.wikipedia.org/wiki/Wikipedia:Identifying_reliable_sourceshttp://en.wikipedia.org/wiki/Wikipedia:Identifying_reliable_sourceshttp://en.wikipedia.org/wiki/Wikipedia:Identifying_reliable_sourceshttp://en.wikipedia.org/wiki/Template:Citation_neededhttp://en.wikipedia.org/wiki/Template:Citation_neededhttp://en.wikipedia.org/wiki/Template:Citation_neededhttp://en.wikipedia.org/wiki/Wikipedia:Verifiability#Burden_of_evidencehttp://en.wikipedia.org/wiki/Wikipedia:Verifiability#Burden_of_evidencehttp://en.wikipedia.org/wiki/Wikipedia:Verifiability#Burden_of_evidencehttp://en.wikipedia.org/wiki/Ray_(optics)http://en.wikipedia.org/wiki/Ray_(optics)http://en.wikipedia.org/wiki/Ray_(optics)http://en.wikipedia.org/wiki/Winghttp://en.wikipedia.org/wiki/Winghttp://en.wikipedia.org/wiki/Winghttp://en.wikipedia.org/wiki/Stabilizer_(aircraft)http://en.wikipedia.org/wiki/Stabilizer_(aircraft)http://en.wikipedia.org/wiki/Stabilizer_(aircraft)http://en.wikipedia.org/wiki/Airplanehttp://en.wikipedia.org/wiki/Airplanehttp://en.wikipedia.org/wiki/Airplanehttp://en.wikipedia.org/wiki/Fuselagehttp://en.wikipedia.org/wiki/Fuselagehttp://en.wikipedia.org/wiki/Fuselagehttp://en.wikipedia.org/wiki/File:Angle_of_incidence.svghttp://en.wikipedia.org/wiki/File:Angle_of_incidence.svghttp://en.wikipedia.org/wiki/File:Angle_of_incidence.svghttp://en.wikipedia.org/wiki/File:Angle_of_incidence.svghttp://en.wikipedia.org/wiki/File:Angle_of_incidence.svghttp://en.wikipedia.org/wiki/File:Angle_of_incidence.svghttp://en.wikipedia.org/wiki/Fuselagehttp://en.wikipedia.org/wiki/Airplanehttp://en.wikipedia.org/wiki/Stabilizer_(aircraft)http://en.wikipedia.org/wiki/Winghttp://en.wikipedia.org/wiki/Ray_(optics)http://en.wikipedia.org/wiki/Wikipedia:Verifiability#Burden_of_evidencehttp://en.wikipedia.org/wiki/Template:Citation_neededhttp://en.wikipedia.org/wiki/Wikipedia:Identifying_reliable_sourceshttp://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edithttp://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edithttp://en.wikipedia.org/wiki/Wikipedia:Verifiabilityhttp://en.wikipedia.org/wiki/Wikipedia:Citing_sources#Inline_citations


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Contents

[hide]

1 Optics

o 1.1 Grazing angle

2 Angle of incidence of fixed-wing aircraft

3 See also

4 Notes

5 External links

[edit]Optics

Ingeometric optics, the angle of incidence is the angle between a ray incident on a surface and the line

perpendicular to the surface at the point of incidence, called the normal. The ray can be formed by any

wave:optical,acoustic,microwave,X-rayand so on. In the figure above, the red line representing a ray

makes an angle with the normal (dotted line). The angle of incidence at which light is first totally internally

reflected is known as thecritical angle. Theangle of reflectionandangle of refractionare other angles

related to beams.

[edit]Grazing angle

When dealing with a beam that is nearly parallel to a surface, it is sometimes more useful to refer to the

angle between the beam and the surface, rather than that between the beam and the surface normal, inother words 90 minus the angle of incidence. This angle is called aglancing angle or grazing angle.

Incidence at small grazing angle is called "grazing incidence".

Grazing incidence diffractionis used inX-ray spectroscopyandatom optics, where significant reflection

can be achieved only at small values of the grazing angle.Ridged mirrorsare designed for reflection of

atoms coming at small grazing angle. This angle is usually measured inmilliradians.

Determining the grazing angle with respect to a planar surface is trivial, but the computation for almost any

other surface is significantly more difficult. The exact solution for a sphere (which has important

applications inastronomyandcomputer graphics) was an open problem for nearly 50 years until a closed-

form result was derived by mathematiciansAllen R MillerandEmanuel Veghin 1991.[1]
http://en.wikipedia.org/wiki/Angle_of_incidencehttp://en.wikipedia.org/wiki/Angle_of_incidencehttp://en.wikipedia.org/wiki/Angle_of_incidencehttp://en.wikipedia.org/wiki/Angle_of_incidence#Opticshttp://en.wikipedia.org/wiki/Angle_of_incidence#Opticshttp://en.wikipedia.org/wiki/Angle_of_incidence#Grazing_anglehttp://en.wikipedia.org/wiki/Angle_of_incidence#Grazing_anglehttp://en.wikipedia.org/wiki/Angle_of_incidence#Angle_of_incidence_of_fixed-wing_aircrafthttp://en.wikipedia.org/wiki/Angle_of_incidence#Angle_of_incidence_of_fixed-wing_aircrafthttp://en.wikipedia.org/wiki/Angle_of_incidence#See_alsohttp://en.wikipedia.org/wiki/Angle_of_incidence#See_alsohttp://en.wikipedia.org/wiki/Angle_of_incidence#Noteshttp://en.wikipedia.org/wiki/Angle_of_incidence#Noteshttp://en.wikipedia.org/wiki/Angle_of_incidence#External_linkshttp://en.wikipedia.org/wiki/Angle_of_incidence#External_linkshttp://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edit&section=1http://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edit&section=1http://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edit&section=1http://en.wikipedia.org/wiki/Geometric_opticshttp://en.wikipedia.org/wiki/Geometric_opticshttp://en.wikipedia.org/wiki/Geometric_opticshttp://en.wikipedia.org/wiki/Surface_normalhttp://en.wikipedia.org/wiki/Surface_normalhttp://en.wikipedia.org/wiki/Surface_normalhttp://en.wikipedia.org/wiki/Light_wavehttp://en.wikipedia.org/wiki/Light_wavehttp://en.wikipedia.org/wiki/Light_wavehttp://en.wikipedia.org/wiki/Sound_wavehttp://en.wikipedia.org/wiki/Sound_wavehttp://en.wikipedia.org/wiki/Sound_wavehttp://en.wikipedia.org/wiki/Microwavehttp://en.wikipedia.org/wiki/Microwavehttp://en.wikipedia.org/wiki/Microwavehttp://en.wikipedia.org/wiki/X-rayhttp://en.wikipedia.org/wiki/X-rayhttp://en.wikipedia.org/wiki/X-rayhttp://en.wikipedia.org/wiki/Critical_anglehttp://en.wikipedia.org/wiki/Critical_anglehttp://en.wikipedia.org/wiki/Critical_anglehttp://en.wikipedia.org/wiki/Angle_of_reflectionhttp://en.wikipedia.org/wiki/Angle_of_reflectionhttp://en.wikipedia.org/wiki/Angle_of_reflectionhttp://en.wikipedia.org/wiki/Angle_of_refractionhttp://en.wikipedia.org/wiki/Angle_of_refractionhttp://en.wikipedia.org/wiki/Angle_of_refractionhttp://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edit&section=2http://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edit&section=2http://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edit&section=2http://en.wikipedia.org/wiki/Surface_normalhttp://en.wikipedia.org/wiki/Surface_normalhttp://en.wikipedia.org/wiki/Surface_normalhttp://en.wikipedia.org/wiki/Grazing_incidence_diffractionhttp://en.wikipedia.org/wiki/Grazing_incidence_diffractionhttp://en.wikipedia.org/wiki/X-ray_spectroscopyhttp://en.wikipedia.org/wiki/X-ray_spectroscopyhttp://en.wikipedia.org/wiki/X-ray_spectroscopyhttp://en.wikipedia.org/wiki/Atom_opticshttp://en.wikipedia.org/wiki/Atom_opticshttp://en.wikipedia.org/wiki/Atom_opticshttp://en.wikipedia.org/wiki/Ridged_mirrorhttp://en.wikipedia.org/wiki/Ridged_mirrorhttp://en.wikipedia.org/wiki/Ridged_mirrorhttp://en.wikipedia.org/wiki/Milliradianhttp://en.wikipedia.org/wiki/Milliradianhttp://en.wikipedia.org/wiki/Milliradianhttp://en.wikipedia.org/wiki/Astronomyhttp://en.wikipedia.org/wiki/Astronomyhttp://en.wikipedia.org/wiki/Astronomyhttp://en.wikipedia.org/wiki/Computer_graphicshttp://en.wikipedia.org/wiki/Computer_graphicshttp://en.wikipedia.org/wiki/Computer_graphicshttp://en.wikipedia.org/wiki/Allen_R_Millerhttp://en.wikipedia.org/wiki/Allen_R_Millerhttp://en.wikipedia.org/wiki/Allen_R_Millerhttp://en.wikipedia.org/w/index.php?title=Emanuel_Vegh&action=edit&redlink=1http://en.wikipedia.org/w/index.php?title=Emanuel_Vegh&action=edit&redlink=1http://en.wikipedia.org/w/index.php?title=Emanuel_Vegh&action=edit&redlink=1http://en.wikipedia.org/wiki/Angle_of_incidence#cite_note-0http://en.wikipedia.org/wiki/Angle_of_incidence#cite_note-0http://en.wikipedia.org/wiki/Angle_of_incidence#cite_note-0http://en.wikipedia.org/wiki/Angle_of_incidence#cite_note-0http://en.wikipedia.org/w/index.php?title=Emanuel_Vegh&action=edit&redlink=1http://en.wikipedia.org/wiki/Allen_R_Millerhttp://en.wikipedia.org/wiki/Computer_graphicshttp://en.wikipedia.org/wiki/Astronomyhttp://en.wikipedia.org/wiki/Milliradianhttp://en.wikipedia.org/wiki/Ridged_mirrorhttp://en.wikipedia.org/wiki/Atom_opticshttp://en.wikipedia.org/wiki/X-ray_spectroscopyhttp://en.wikipedia.org/wiki/Grazing_incidence_diffractionhttp://en.wikipedia.org/wiki/Surface_normalhttp://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edit&section=2http://en.wikipedia.org/wiki/Angle_of_refractionhttp://en.wikipedia.org/wiki/Angle_of_reflectionhttp://en.wikipedia.org/wiki/Critical_anglehttp://en.wikipedia.org/wiki/X-rayhttp://en.wikipedia.org/wiki/Microwavehttp://en.wikipedia.org/wiki/Sound_wavehttp://en.wikipedia.org/wiki/Light_wavehttp://en.wikipedia.org/wiki/Surface_normalhttp://en.wikipedia.org/wiki/Geometric_opticshttp://en.wikipedia.org/w/index.php?title=Angle_of_incidence&action=edit&section=1http://en.wikipedia.org/wiki/Angle_of_incidence#External_linkshttp://en.wikipedia.org/wiki/Angle_of_incidence#Noteshttp://en.wikipedia.org/wiki/Angle_of_incidence#See_alsohttp://en.wikipedia.org/wiki/Angle_of_incidence#Angle_of_incidence_of_fixed-wing_aircrafthttp://en.wikipedia.org/wiki/Angle_of_incidence#Grazing_anglehttp://en.wikipedia.org/wiki/Angle_of_incidence#Opticshttp://en.wikipedia.org/wiki/Angle_of_incidence


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[edit]Angle of incidence of fixed-wing aircraft

Angle of incidence of an airplane wing on an airplane.

Onfixed-wing aircraft, angle of incidence is the angle between thechord lineof the wing where the wing is

mounted to the fuselage and thelongitudinal axisof the fuselage. The angle of incidence is fixed in the

design of the aircraft by the mounting of the wing to the fuselage.

The term can also be applied to horizontal surfaces in general (such as canards or horizontal stabilizers)

for the angle they make relative the longitudinal axis of the fuselage.

The figure to the right shows a side view of an airplane. The extended chord line of the wing root (red line)

makes an angle with the longitudinal axis (roll axis) of the aircraft (blue line). Wings are typically mounted at

a small positive angle of incidence, to allow the fuselage to be "flat" to the airflow in normal cruising flight.

Angles of incidence of about 6 are common on mostgeneral aviationdesigns.

Other terms for angle of incidence in this context are rigging angleandrigger's angle of incidence. It should

not be confused with theangle of attack, which is the angle the wing chord presents to the airflow in flight.

Note that someambiguityin this terminology exists, as some engineering texts that focus solely on the

study of airfoils and their medium may use either term when referring to angle of attack. The use of the

term "angle of incidence" to refer to the angle of attack occurs chiefly in British usage .[2]

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angle of incidencen.

The angle formed by a ray incident on a surface and a perpendicular to the surface at the point of incidence.
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The American Heritage Dictionary of the English Language, Fourth Edition copyright 2000 by Houghton Mifflin Company. Updated in2009. Published byHoughton Mifflin Company. All rights reserved.

angle of incidence

n

1. (Physics / General Physics) the angle that a line or beam of radiation makes with the normal to thesurface at the point of incidence

2. (Engineering / Aeronautics) another name forangle of attack

3. (Engineering / Aeronautics) Also called rigging angle of incidence the angle between the chord

line of an aircraft wing or tailplane and the aircraft's longitudinal axis

Collins English Dictionary Complete and Unabridged HarperCollins Publishers 1991, 1994, 1998, 2000, 2003

angle of incidenceThe angle formed by a ray or wave, as of light or sound, striking a surface and a line perpendicular to thesurface at the point of impact.

The American Heritage Science Dictionary Copyright 2005 by Houghton Mifflin Company. Published byHoughton Mifflin Company.All rights reserved.

ThesaurusLegend: Synonyms Related Words AntonymsNoun1.angle of incidence - the angle that a line makes with a line perpendicular to the surface at the point of

incidence

ANS 6

What is Responsibility Accounting?

Summary by James R. Martin

Most of this material is fromMAAW's Chapter 9

Responsibility Accounting Main Page|Responsibility Accounting Summary

Responsibility accounting is an underlying concept of accounting performancemeasurement systems. The basic idea is that large diversified organizations aredifficult, if not impossible to manage as a single segment, thus they must bedecentralized or separated into manageable parts. These parts, or segments arereferred to as responsibility centers that include: 1) revenue centers, 2) cost centers,3) profit centers and 4) investment centers. This approach allows responsibility to

be assigned to the segment managers that have the greatest amount of influenceover the key elements to be managed. These elements include revenue for a
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revenue center (a segment that mainly generates revenue with relatively littlecosts), costs for a cost center (a segment that generates costs, but no revenue), ameasure of profitability for a profit center (a segment that generates both revenueand costs) and return on investment (ROI) for an investment center (a segment

such as a division of a company where the manager controls the acquisition andutilization of assets, as well as revenue and costs).

Controllability Concept

An underlying concept of responsibility accounting is referred to as controllability.Conceptually, a manager should only be held responsible for those aspects ofperformance that he or she can control. In my view, this concept is rarely, if ever,applied successfully in practice because of the system variation present in allsystems. Attempts to apply the controllability concept produce responsibility

reports where each layer of management is held responsible for all subordinatemanagement layers as illustrated below.

Advantages and Disadvantages


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Responsibility accounting has been an accepted part of traditional accountingcontrol systems for many years because it provides an organization with a numberof advantages. Perhaps the most compelling argument for the responsibilityaccounting approach is that it provides a way to manage an organization that would

otherwise be unmanageable. In addition, assigning responsibility to lower levelmanagers allows higher level managers to pursue other activities such as long termplanning and policy making. It also provides a way to motivate lower levelmanagers and workers. Managers and workers in an individualistic system tend tobe motivated by measurements that emphasize their individual performances.However, this emphasis on the performance of individuals and individual segmentscreates what some critics refer to as the "stovepipe organization." Others have usedthe term "functional silos" to describe the same idea. Consider 9-6 Exhibit below1.Information flows vertically, rather than horizontally. Individuals in the varioussegments and functional areas are separated and tend to ignore the

interdependencies within the organization. Segment managers and individualworkers within segments tend to compete to optimize their own performancemeasurements rather than working together to optimize the performance of thesystem.
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Summary and Controversial Question

An implicit assumption of responsibility accounting is that separating a companyinto responsibility centers that are controlled in a top down manner is the way tooptimize the system. However, this separation inevitably fails to consider many ofthe interdependencies within the organization. Ignoring the interdependenciesprevents teamwork and creates the need for buffers such as additional inventory,workers, managers and capacity. Of course, a system that prevents teamwork andcreates excess is inconsistent with the lean enterprise concepts of just-in-time andthe theory of constraints. For this reason, critics of traditional accounting controlsystems advocate managing the system as a whole to eliminate the need for buffersand excess. They also argue that companies need to develop process orientedlearning support systems, not financial results, fear oriented control systems. Theinformation system needs to reveal the company's problems and constraints in a

timely manner and at a disaggregated level so that empowered users can identifyhow to correct problems, remove constraints and improve the process. Accordingto these critics, accounting control information does not qualify in any of thesecategories because it is not timely, disaggregated, or user friendly.

This harsh criticism of accounting control information leads us to a very importantcontroversial question. Can a company successfully implement just-in-time andother continuous improvement concepts while retaining a traditional responsibilityaccounting control system? Although the jury is still out on this question, a numberof field research studies indicate that accounting based controls are playing a

decreasing role in companies that adopt the lean enterprise concepts. In a recentstudy involving nine companies, each company answered this controversialquestion in a different way by using a different mix of process oriented versusresults oriented learning and control information.2Since each company is different,a generalized answer to this question for all firms in all situations cannot beprovided.

For example, the cost of rent can be assigned to the person who negotiates and signs the lease, while

the cost of an employees salary is the responsibility of that persons direct manager. This concept also

applies to the cost of products, for each component part has astandard cost(as listed in theitemmasterandbill of materials), which it is the responsibility of the purchasing manager to obtain at the

correct price. Similarly,scrapcosts incurred at a machine are the responsibility of the shift manager.

By using this approach, cost reports can be tailored for each recipient. For example, the manager of

awork cellwill receive afinancial statementthat only itemizes the costs incurred by that specific cell,

whereas the production manager will receive a different one that itemizes the costs of the entire

production department, and the president will receive one that summarizes the results of the entire

organization.

As you move upward through the organizational structure, it is common to find fewer responsibilityreports being used. For example, each person in a department may be placed in charge of a separate
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mca rough notes

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