COLIN

DRURY

COST

AND

MANAGEMENT

ACCOUNTING
AN INTRODUCTION

EIGHTH EDITION

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drury-online.com

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CONTENTS

Preface and acknowledgements xv

Walk through tour xxii
About the Website xxv
PART 1 INTRODUCTION TO MANAGEMENT AND COST
ACCOUNTING
1

INTRODUCTION TO MANAGEMENT ACCOUNTING

The users of accounting Information 6

Differences between management accounting and financial accounting 7
The decision-making process 8
The impact of the changing business environment on management
accounting 11
Focus on customer satisfaction and new management approaches 14
Management accounting and ethical behaviour 17
International convergence of management accounting practices 17
Functions of management accounting 18
Summary of the Contents of this book 19
Summary 20
Key terms and concepts 21
Key examination points 22
Review questions 23
2

AN INTRODUCTION TO COST TERMS AND CONCEPTS 25

Cost objects 26
Manufacturing, merchandising and Service organizations 26
Direct and indirect costs 27
Period and product costs 29
Cost behaviour 33
Relevant and irrelevant costs and revenues 35
Avoidable and unavoidable costs 36
Sunk costs 37
Opportunity costs 38
Incremental and marginal costs 38
The cost and management accounting Information system 39
Summary 40

viii CONTENTS
Key terms and concepts 41
Key examination points 42
Review questions 43
Review problems 44
PART 2 COST ACCUMULATION FOR INVENTORY
VALUATION AND PROFIT MEASUREMENT 51
3

ACCOUNTING FOR DIRECT COSTS 53

Accounting treatment of various labour cost items 54
Materials recording procedure 55
Pricing the issues of materials 58
Issues relating to accounting for materials 62
Quantitative models for the planning and control of inventories 64
Relevant costs for quantitative models under conditions of certainty 64
Determining the economic Order quantity 65
Assumptions of the EOQ formula 68
Determining when to place the order 69
Control of inventories through Classification 69
Just-in-time systems 71
Materials requirement planning 72
Summary 73
Key terms and concepts 74
Key examination points 75
Review questions 76
Review problems 76

COST ASSIGNMENT FOR IN DIRECT COSTS 85

Assignment of direct and indirect costs 86
Different costs for different purposes 87
Cost-benefit issues and cost systems design 88
Plant-wide (blanket) overhead rates 90
The two-stage allocation process 91
An Illustration of the two-stage process for a traditional costing system 92
Extracting relevant costs for decision-making 100
Budgeted overhead rates 101
Under- and over-recovery of overheads 102
Non-manufacturing overheads 103
Cost assignment in non-manufacturing organizations 104
The indirect cost assignment process 105
Summary 106
Appendix 4.1: Inter-service department reallocation 108
Key terms and concepts 112
Key examination points 113

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CONTENTS ix
Review questions 114
Review problems 115
5

ACCOUNTING ENTRIES FOR A JOB-ORDER COSTING SYSTEM 123

Control accounts 124
Recording the purchase of raw materials 124
Recording the issue of materials 125
Accounting procedure for labour costs 128
Accounting procedure for manufacturing overheads 130
Non-manufacturing overheads 131
Accounting procedures for jobs completed and producta sold 131
Costing profit and loss account 132
Job-order costing in Service organizations 132
Interlocking accounting 132
Contract costing 134
Work in progress valuation and amounts recoverable on contracts 139
Summary 139
Key terms and concepts 141
Key examination points 141
Review questions 142
Review problems 142

PROCESS COSTING 151

Flow of production and costs in a process costing system 152
Process costing when all Output is fully complete 152
Process costing with ending work in progress partially complete 160
Beginning and ending work in progress of uncompleted units 163
Partially completed Output and losses in process 167
Process costing in service organizations 168
Batch/operating costing 168
Summary 169
Appendix 6.1: Losses in process and partially completed units 170
Key terms and concepts 173
Key examination points 174
Review questions 175
Review problems 176

JOINT AND BY-PRODUCT COSTING

185

Joint products and by-products 186

Methods of allocating joint costs 186
Irrelevance of joint cost allocations for decision-making 193
Accounting for by-products 194
Summary 196
Key terms and concepts 197

x CONTENTS
Key examination points 197
Review questions 198
Review problems 198
8

INCOME EFFECTS OF ALTERNATIVE COST ACCUMULATION

SYSTEMS 205
Externa! and internal reporting 207
Variable costing 208
Absorption costing 209
Variable costing and absorption costing:
a comparison of their impact on profit 210
Some arguments in support of variable costing 212
Sonne arguments in support of absorption costing 214
Summary 215
Appendix 8.1: Derivation of the profit function for an absorption costing system 216
Key terms and concepts 218
Key examination points 218
Review questions 219
Review problems 219

PART 3 INFORMATION FOR DECISION-MAKING 225

9

C0ST-V0LUME-PR0FIT ANALYSIS 227

Curvilinear CVF relationships 228
Linear CVP relationships 229
A numerical approach to cost-volume-profit analysis 231
The profit-volume ratio 234
Relevant rnge 234
Margin of safety 234
Constructing the break-even chart 235
Alternative presentation of cost-volume-profit analysis 237
Multi-product cost-volume-profit analysis 238
Cost-volume-profit analysis assumptions 241
The impact of Information technology 242
Summary 243
Key terms and concepts 244
Key examination points 244
Review questions 245
Review problems 246

10

COST ESTIMATI0N AND COST BEHAVI0UR 255

General principles applying to estimating cost functions 256
Cost estimation methods 257

CONTENTS xi
Tests of reliability 264
A summary of the steps involved in estimating cost functions 266
Summary 267
Key terms and concepts 269
Key examination points 269
Review questions 270
Review problems 270
11

MEASURING RELEVANT COSTS AND REVENUES

FOR DECISION-MAKING 275
Identifying relevant costs and revenues 276
Importance of qualitative/non-financial factors 277
Special pricing decisions 277
Product mix decisions when capacity constraints exist 282
Replacement of equipment - the irrelevance of past costs 284
Outsourcing and make or buy decisions 286
Discontinuation decisions 289
Determining the relevant costs of direct materials 292
Determining the relevant costs of direct labour 292
Incorporating uncertainty into the decision-making process 293
Summary 293
Appendix 11.1: Calculating Optimum selling prices using
differential calculus 295
Key terms and concepts 296
Key examination points 296
Review questions 298
Review problems 299

12

ACTIVITY-BASED COSTING 309

The need for a cost accumulation system in generating relevant cost Information
for decision-making 310
A comparison of traditional and ABC systems 311
Volume-based and non-volume-based cost drivers 312
An Illustration of the two-stage process for an ABC system 316
Designing ABC systems 323
Activity hierarchies 325
Cost versus benefits considerations 326
ABC in Service organizations 327
ABC cost management applications 329
Summary 330
Key terms and concepts 331
Key examination points 332
Review questions 333
Review problems 334

xii CONTENTS

PART 4 INFORMATION FOR PLANNING, CONTROL

AND PERFORMANCE MEASUREMENT 341
13 THE BUDGETING PROCESS 343
The Strategie planning, budgeting and control process 344
The multiple functions of budgets 346
Conflicting roles of budgets 348
The budget period 349
Administration of the budgeting process 349
Stages in the budgeting process 350
A detailed Illustration 354
Sales budget 356
Production budget and budgeted inventory levels 359
Direct materials usage budget 359
Direct materials purchase budget 359
Direct labour budget 360
Factory overhead budget 360
Selling and administration budget 361
Departmental budgets 362
Master budget 363
Cash budgets 364
Final review 365
Computerized budgeting 365
Criticisms of budgeting 366
Summary 368
Key terms and concepts 369
Key examination points 369
Review questions 370
Review problems 371
14

MANAGEMENT CONTROL SYSTEMS 379

Different types of controls 380
Feedback and feed-forward controls 383
Management accounting control systems 383
Responsibility centres 384
The nature of management accounting control systems 386
The controllability principle 388
Setting financial Performance targets and determining how challenging
the targets should be 391
Participation in the budgeting and target-setting process 393
Non-financial Performance measures 393
Activity-based cost management 394
Summary 395
Key terms and concepts 397

Key examination points 398

Review questions 399
Review problems 400
15 STANDARD COSTING AND VARIANCE ANALYSIS 405
Operation of a Standard costing system 406
Establishing cost Standards 408
Purposes of Standard costing 412
Variance analysis 414
Material variances 416
Material price variances 417
Material usage variances 419
Total material variances 420
Wage rate variances 420
Labour efficiency variance 421
Total labour variance 422
Variable overhead variances 422
The generic routine approach to variance analysis 424
Fixed overhead expenditure or spending variance 424
Sales variances 425
Reconciling budgeted profit and actual profit 429
Standard absorption costing 429
Volume variance 430
Volume efficiency variance 431
Volume capacity variance 431
Reconci Nation of budgeted and actual profit for a Standard absorption
costing system 433
Recording Standard costs in the accounts 433
Summary 439
Key terms and concepts 442
Key examination points 443
Review questions 444
Review problems 445
Case studies available from the Website 455
Bibliography 459
Answers to review problems 463
Index 507