College of Science Technology and Applied Arts of Trinidad and Tobago

ACCT 210 – Cost and Management Accounting

Introduction to Management Accounting

Accounting is the process of analyzing and recording transactions for the purpose of preparing
reports for statutory reporting, decision making and control.

Types of accounting

Accounting

Bookeeping

Financial Management
Accounting Accounting

Taxation Financial
Accounting Management

External
Auditing

Bookkeeping is the recording of financial transactions. Transactions include sales, purchases,

income, receipts and payments by an individual or organization. Bookkeeping is usually
performed by a bookkeeper. Bookkeeping should not be confused with accounting. The
accounting process is usually performed by an accountant. The accountant creates reports from
the recorded financial transactions recorded by the bookkeeper1

Financial accounting
Reporting of the financial position and performance of a firm through financial statements issued
to external users on a periodic basis.2

Management accounting
Management accounting is the process of identifying, measuring, analyzing, interpreting, and
communicating information for the pursuit of an organization's goals.
This is also known as "cost accounting." 3

1
Pasted from <http://en.wikipedia.org/wiki/Bookkeeping>
2
Read more: http://www.investopedia.com/terms/f/financialaccounting.asp#ixzz1fy514nF4
3
Read more: http://www.investopedia.com/terms/m/managerialaccounting.asp#ixzz1fy5QWZId

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College of Science Technology and Applied Arts of Trinidad and Tobago
ACCT 210 – Cost and Management Accounting

The differences between management accounting and financial accounting include:

1. Management accounting provides information to people within an organisation while
financial accounting is mainly for those outside it, such as shareholders
2. Financial accounting is required by law while management accounting is not. Specific
standards and formats may be required for statutory accounts such as International
Financial Reporting Standards.
3. Financial accounting covers the entire organisation while management accounting may be
concerned with particular products or cost centres.4

Taxation accounting
Accounting methods that focus on taxes rather than the appearance of public financial
statements. Tax accounting is governed by the country's taxation laws which dictates the
specific rules that companies and individuals must follow when preparing their tax returns. Tax
principles often differ from Generally Accepted Accounting Principles.5

Management accounting compared with Financial Accounting

Area Financial Accounting Management Accounting

Purpose To prepare financial statements To prepare reports for management
based on historic financial using both historic financial and
information for stakeholder use. non-financial information for
decision making and planning.

Content Historic financial information Historic financial and non-financial

information with futuristic
projections.

Format Must be presented in accordance No specific format. Reports are left

with the financial reporting up to management’s discretion.
framework i.e. International
Financial Reporting Standards
(IFRSs).

Users Stakeholders – Internal and Management only.

External users.

Timing Usually prepared annually or No specific timing. Up to

quarterly – statutory requirement. management’s discretion for proper
decision making and control.

Why is cost accounting important?

 Helps in cost savings
 Helps in efficiency of resources
 Helps steer the organization towards its goals
4
Pasted from <http://en.wikipedia.org/wiki/Differences_between_management_accounting_and_financial_accounting>
5
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College of Science Technology and Applied Arts of Trinidad and Tobago
ACCT 210 – Cost and Management Accounting

MANAGEMENT ACCOUNTING = MANAGERIAL ACCOUNTING = COST ACCOUNTING

COMPANY

SALES AND WAREHOUSE AND IT AND

ACCOUNTING HR ADMINISTRATION
MARKETING INVENTORY COMMUNICATION

COST COST COST REVENUE COST COST

COST

Cost6
An amount that has to be paid or given up in order to get something.
In business, cost is usually a monetary valuation of (1) effort, (2) material, (3) resources, (4)
time and utilities consumed, (5) risks incurred, and (6) opportunity forgone in production and
delivery of a good or service.

Cost center7
A cost center is part of an organization that does not produce direct profit and adds to the cost
of running a company. Examples of cost centers include research and development
departments, marketing departments, help desks and customer service/contact centers.

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Pasted from <http://www.businessdictionary.com/definition/cost.html>
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Pasted from <http://searchcrm.techtarget.com/definition/cost-center>

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College of Science Technology and Applied Arts of Trinidad and Tobago
ACCT 210 – Cost and Management Accounting

Cost classification8

BEHAVIOUR FUNCTION TRACEABILITY RELEVANCE

ADMINISTRATIVE
DIRECT SUNK COST
EXPENSES

MARKETING OPPORTUNITY
VARIABLE COSTS INDIRECT
EXPENSES COST

MIXED COSTS COST OF SALES RELEVANT COST

INCREMENTAL
STEP COSTS FIXED COSTS
COSTS

There are a number of different ways that we can classify costs:

• by behaviour: How do costs fluctuate in response to changes in the volume of production

inputs (e.g., direct labor hours, board feet of lumber used) or production outputs (e.g., number of
chairs produced)?

• by function: Costs incurred as part of the manufacturing or production process are charged to
inventory and then written off as part of cost of goods sold. Selling and administrative expenses
[often just S & A Expenses] are all those costs which are not associated with the manufacturing
or production process, such as sales commissions, sales salaries, accounting, finance, general
management salaries and office supplies.

• by traceability: Manufacturing costs are classified as either direct or indirect. Indirect costs
are also known as overhead or burden. indirect costs are those costs which cannot be
specifically associated with a particular cost object (A cost object is any organizational or
physical entity to which costs are assigned or charged. A cost object might be a completed unit
of product, a subassembly, a department, a worker in the department, a product line, or en
entire division of a larger corporation.) When we talk about manufacturing costs, the typical cost
object is a unit of output. Selling and administrative expenses may also be traced to products,
product lines, organizational units [e.g., divisions or regions]. Such tracing MAY be useful in
determining the relative profitability of the associated cost object [products or division, for

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College of Science Technology and Applied Arts of Trinidad and Tobago
ACCT 210 – Cost and Management Accounting

example]. However, it is important to remember that S & A expenses are never inventoried and
are never written off as part of cost of goods sold.

• by relevance to the decision that we are making: In many decision making situations, certain
costs are irrelevant. Costs are irrelevant to a decision if the don't change as a consequence of
the decision.

Cost behaviour9
Cost behavior is nothing more than the sensitivity of costs to changes in production or sales
volume. The range of output or sales over which cost behavior patterns remain unchanged is
called the relevant range.

Fixed costs: Fixed costs are constant in total over the relevant range. Fixed costs per unit often
cause difficulties for students because of the inverse relationship between fixed costs and
increases in production. As production increases, total fixed costs stay the same within the
relevant range, but since we are dividing a constant numerator [total fixed costs] by a
progressively larger denominator [total production or sales], the resulting costs per unit become
smaller and smaller. Fixed costs include things like rent, insurance premiums, salaries,
depreciation and property taxes.

Variable costs: Variable costs vary in total with volume, but are constant per unit within the
relevant range. Total variable costs for a given situation are equal to the number of units
multiplied by the variable cost per unit. Variable costs include things like labor and materials.
Some overhead [indirect costs] such as indirect labor, supplies and some utilities are also
variable. Note that the graph of a variable cost is a straight line with positive slope, beginning at
the origin. The slope of the variable cost line is the variable cost per unit.

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College of Science Technology and Applied Arts of Trinidad and Tobago
ACCT 210 – Cost and Management Accounting

Mixed costs: A mixed costs contains both fixed and variable elements. There are a variety of
procedures that can be employed to separate the fixed and variable components. The easiest is
to use two points on the total cost line to derive the slope and intercept. This is rough and ready
and may yield inaccurate results. Regression analysis is a more accurate procedure which also
has the benefit of providing measures of goodness of fit; these tell us how well the derived
equation fits the observed data. The Y-intercept of a mixed cost line is the total fixed costs. The
slope is the variable cost per unit, and any point on the line represents the total cost at the
indicated volume.

Step costs: A step cost is a cost that is fixed for a specific range of output, then “jumps” to a
higher fixed cost at a higher range of output. This cost behavior pattern has a stair step pattern.
and look like the graph below:

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College of Science Technology and Applied Arts of Trinidad and Tobago
ACCT 210 – Cost and Management Accounting