MBA ACCOUNTING FOR DECISION MAKING – Simphiwe Nojiyeza Cluster Coordinator.

MBA ACCOUNTING FOR DECISION MAKING – Simphiwe Nojiyeza Cluster Coordinator

Presentation Outline• Accounting Information and Managerial Decisions• Financial statements and accounting concepts• Accounting for and presentation of assets, liabilities and

owners’ equity• Income statement and cash flows• Financial Analysis• Cost-Volume-profit (CVP) relationships• Cost analysis for planning, control and decision-making• Transfer pricing for decentralised enterprises• Corporate goverance

What is Accounting?

• It is the process of:• Identifying , measuring and communicating• Economic information about an entity• For decisions and informed judgments• The primary role of accounting is to provide

information for the decision-making needs of internal and external stakeholders

Users and Uses of Accounting Information

UserDecision/Informed Judgment

MadeManagement Planning, directing and controllingInvestors/Shareholders Assessing amounts, timing, and

uncertainty of future cash returns on their investment

Creditors/Suppliers Assessing probability of collection and the risk of late (or non-) payment

Employees Planning for retirement and future job prospects

Securities and Exchange Commission

Reviewing for compliance of all required information

Financial VS Management Accounting

• Financial accounting generally refers to the process that results in the preparation and reporting of financial statements for an entity.

• Financial accounting is primarily externally oriented and concerned with the historical results of an entity’s performance

Management Accounting

• Managerial accounting is concerned with the use of economic and financial information to plan and control many of the activities of the entity and to support the management decision-making process.

• Cost accounting relates to the determination and accumulation of product, process, or service costs.

Internal Auditing

• Internal auditors are professional accountants who perform functions much like those of an external auditor. However, internal auditors are employed in industry rather than public accounting.

• In most companies internal auditing is done by book keepers

• The process assists members of the organization to discharge their responsibilities effectively

Auditing- Public Accounting

• Public accounting firms and individual Certified Public Accountants (CPAs) provide auditing services and issue an independent auditor’s report.

• An independent auditor’s report usually contains four brief paragraphs and states whether the financial statements are prepared in conformity with generally accepted accounting principles. An auditor’s report can be unqualified (a “clean opinion) or qualified.

The Role of the Management Accountant

• The role of the management accountant involves interpreting information, packaging information in order to facilitate decision making.

• It also involves close coordination with the financial, production and marketing functions of an organization

A Basic Decision-Making Model

• Decision making is a process of identifying various courses of action and selecting the most appropriate one

• There are 4 steps to follow:• Define the problem• Identify objectives• Identify and analyze available options• Select the best option

Financial statements and Accounting Concepts

Transactions are economic interchanges between entities that are accounted

for and reflected in financial statements Transactions are summarized in accountsAccounts are used to organize like-kind

transactions.Account balances are then used in the

preparation of financial statemen

Financial Statements

• Balance sheet (Statement of financial position) reports on the financial position on a certain date = Assets= Owner’s Equity+ Liabilities

• Income statement ( Statement of Comprehensive Income) reports on profits and losses for a particular period

• Statement of changes in equity reports on investments by and distributions to owners.

• Cash Flow Statement- cash flows during the period

Annual Report

• In addition to the financial statements, the annual report will probably include several accompanying notes or explanations of the accounting policies used and detailed information about many of the amounts and captions shown in the financial statements.

2-14

Balance Sheet-Elements

Cash 34,000$ Short-term debt 20,000$ Accounts receivable 80,000 Accounts payable 35,000 Merchandise inventory 170,000 Other accrued liabilities 12,000 Total current assets 284,000$ Total current liabilities 67,000$ Plant and Equipment Long-term debt 50,000 Equipment 40,000 Total liabilities 117,000 Less: Accumulated depreciation

(4,000) Owners' equity 203,000

Total assets 320,000$ Total liabilities and owners' equity 320,000$

Current Assets Current Liabilities

Main Street Store, Inc.Balance SheetAugust 31, 2011

Assets Liabilities and Owners' Equity

L O 3

Liabilities are amounts owed to other entities.

Assets represent the amount of resources owned by the entity.

Equity is the ownership right of the owner(s) of the entity in the assets that remain after deducting the liabilities.

2-15

Balance Sheet

Cash 34,000$ Short-term debt 20,000$ Accounts receivable 80,000 Accounts payable 35,000 Merchandise inventory 170,000 Other accrued liabilities 12,000 Total current assets 284,000$ Total current liabilities 67,000$ Plant and Equipment Long-term debt 50,000 Equipment 40,000 Total liabilities 117,000 Less: Accumulated depreciation (4,000) Owners' equity 203,000

Total assets 320,000$ Total liabilities and owners' equity 320,000$




Liabilities EquityAssets = +

L O 3

2-16

Balance SheetL O 3

Cash 34,000$ Short-term debt 20,000$ Accounts receivable 80,000 Accounts payable 35,000 Merchandise inventory 170,000 Other accrued liabilities 12,000 Total current assets 284,000$ Total current liabilities 67,000$ Plant and Equipment Long-term debt 50,000 Equipment 40,000 Total liabilities 117,000 Less: Accumulated depreciation

(4,000) Owners' equity 203,000

Total assets 320,000$ Total liabilities and owners' equity

320,000$




Current assets are those assets that are likely to be converted into cash or used to benefit the entity within one year.

Current liabilities are thoseliabilities that are to be paid within one year.

2-18

Income Statement

Net sales 1,200,000$ Cost of goods sold 850,000 Gross profit 350,000$ Selling, general, and admin. expenses 311,000 Income from operations 39,000$ Interest expense 9,000 Income before taxes 30,000$ Income taxes 12,000 Net income 18,000$

Earnings per share of common stock outstanding 1.80$

Main Street Store, Inc.Income Statement

For the Year Ended August 31, 2011

The income statement shows the profit (or loss) for the period of time under consideration.

L O 4

Revenues result from the entity’s operating activities (e.g., selling merchandise).

Costs and expenses are incurred in generating revenues and operating the entity.

Gains and losses are also reported on the income statement and result from non-operating activities, rather than from the day-to-day operating activities that generate revenues and expenses.

2-19

Statement of Changesin Owners’ Equity

Paid-In Capital:Beginning balance -$ Common stock, par value $10; 50,000 shares authorized, 10,000 shares issued and outstanding 100,000 Additional paid-in capital 90,000 Balance, August 31, 2011 190,000$

Retained Earnings:Beginning balance -$ Net income for the year 18,000 Less: Cash dividends of $.50 per share (5,000) Balance, August 31, 2011 13,000$

Total owners' equity 203,000$

Main Street Store, Inc.Statement of Changes in Owners' Equity


This financial statement shows the detail of owners’ equity and explains the changes that occurred in the components of owners’ equity during the year.

L O 4

2-20

Statement of Cash Flows

The purpose of this financial statement is to identify the sources and uses of cash during the year.

Cash Flows from Operating Activities:Net income 18,000$ Add (deduct) items not affecting cash:

Depreciation expense 4,000 Increase in accounts receivable (80,000) Increase in merchandise inventory (170,000)

Increase in current liabilities 67,000 Net cash used by operating activities (161,000)

Cash Flows from Investing Activities:Cash paid for equipment (40,000)$

Cash Flows from Financing Activities:Cash received from issue of long-term debt 50,000

Cash received from sale of common stock 190,000 Payment of cash dividend on common stock (5,000) Net cash provided by financing activities 235,000$

Net increase in cash for the year 34,000$

Main Street Store, Inc.Statement of Cash Flows


L O 4

2-21

Financial Statement Relationships and the Accounting Equation

If assets equal $300,000 and liabilities equal $125,000, what is owners’ equity?

Assets = Liabilities + Owners'

Equity 300,000 = 125,000 + 175,000

Balance SheetOwners’ equity equals $175,000 ($300,000 - $125,000)

L O 4

Now, suppose that total assets increase $12,000 during the year and total liabilities decrease $3,000 during the year.


Equity 300,000 125,000 175,000

12,000 (3,000) 15,000 312,000 122,000 190,000

Balance Sheet Owners’ equity must have increased by $15,000. Since owners’ equity was $175,000 at the beginning of the year, it must be $190,000 at the end of the year.

2-22

Balance Sheet

Account DefinitionCash Cash on hand and in the bankAccounts receivable Amounts due from customersMerchandise inventory Cost of merchandise acquired and not yet soldEquipment Cost of equipment purchased and used in businessAccumulated depreciation Portion of the cost of equipment that is estimated to have

been used up in the process of operating the business

Short-term debt Amounts borrowed that will be repaid within one year of the balance sheet date

Accounts payable Amounts due to suppliersOther accrued liabilities Amounts owed to various creditorsLong-term debt Amounts borrowed from banks or other creditors that will

not be repaid within one year from the balance sheet date

Owners' equity Residual claim of owners, computed as "assets minus liabilities"

L O 4

2-23

Income StatementCaptions Explanation

Net sales Amount of sales of merchandise to customers, less the amount of customer returns of merchandise

Cost of goods sold Represents the total cost of merchandise removed from inventory and delivered to customers as a result of sales

Gross profit Difference between net sales and cost of goods sold; Represents the seller's maximum amount of "cushion" from which all other expenses of the business must be deducted before it is possible to have net income

Selling, general, and administrative expenses

Represents the operating expenses of the entity

Income from operations Represents one of the most important measures of the firm's activities

Interest expense Represents the cost of using borrowed fundsIncome taxes Shown after all of the other income statement items have

been reported because income taxes are a function of the firm's income before taxes

Net income per share of common stock outstanding

A significant item in evaluating the market value of a share of common stock; Often referred to as "earnings per share" or EPS

L O 4

2-24

Statement of Changesin Owners’ Equity

Captions ExplanationPaid-in capital Represents the total amount invested in the entity by

the ownersCommon stock Reflects the number of shares authorized by the

corporation's charter, the number of shares issued to stockholders, and the number of shares still held by the stockholders

Additional paid-in capital Difference between the total amount invested by the owners and the par value or stated value of the stock

Retained earnings Represents the cumulative net income of the entity that has been retained for use in the business

Dividends Distributions of earnings to the owners

L O 4

2-25

Captions ExplanationCash flows from operating activities

Shown first; Net income is the starting point for this measure of cash generation

Depreciation expense Added back to net income because it is subtracted to arrive at net income, but does not require the use of cash

Increase in accounts receivable

Deducted because it reflects sales revenues, included in net income, but not yet received in cash

Increase in merchandise inventory

Deducted because cash was spent to acquire the increase in inventory

Increase in current liabilities

Added because cash has not yet been paid for the products and services that have been received during the current fiscal period

Cash flows from investing activities

Shows the cash sources and uses related to long-lived assets

Cash flows from financing activities

Shows the cash sources and uses related to transactions with creditors and stockholders

Statement of Cash FlowsL O 4

2-26

Accrual Accounting Vs. Cash FlowsL O 6

Revenue Recognition -Timing is the Key

Cash flowrecognizes:

Accrual accounting recognizes:

Revenue when payment is receivedfor services renderedor products sold.

Revenuewhen revenue is earned, at the point of sale of services or products.

Expenses when they are paid.

Expenses when they are incurred.

5-27

Inventories

Short-term Securities

Current assets include cash and those assets that are expected to be converted to cash or used up within one year, or an operating cycle, whichever is longer.

What are Current Assets?

Cash Current Assetsinclude

Deferred Tax Assets

Accounts and Notes Receivable

Prepaid Expenses

5-28

Cash

Coins and paper money

Checking accounts

Money orders

Undeposited receipts

Petty cash funds

Cash includes. . .

L O 1

5-29

The Internal Control System

Internal Control Over CashRequire daily deposits.Make all payments by check.Promptly reconcile bank statements.

Internal control objectives are to ensure:1. Effective and efficient operations.2. Reliable financial reporting.3. Compliance with applicable laws and regulations.

L O 2

5-30

Bank Statements

Beginning Bank Balance+Deposits processed by the bank-Checks which have cleared the account+/-Other adjustments made by the bank=Ending Balance

Bank Statement

L O 3

5-31

Bank Reconciliation - Objective

Identify Differences BetweenEnding cash balance reported on bank statementCompared toEnding cash balance in depositor’s accounting records.

Provides information for adjusting journal entries.

L O 3

5-32

Short-Term Marketable Securities

Bond Investments

Capital Stock Investments

Current Assets

Almost As Liquid As Cash

Readily Marketable

Marketable Securities are . . .

L O 4

5-33

Uncollectible Accounts

If a company makes credit sales to customers, some accounts inevitably will

turn out to be uncollectible.

PAST DUE

L O 5

5-34

Balance Sheet Presentation

Accounts receivableLess: Allowance for bad debtsNet realizable value of accounts receivable

The net realizable value is the amount of accounts receivable that the business

expects to collect.

L O 5

5-35

A note is a writtenpromise to pay a specific amount at a specific future date.

Notes Receivable

Notes typically include an interest charge for use of the money during the time period of the note.

L O 6

5-36

GENERAL JOURNAL

Date Account Titles and Explanation PR Debit Credit

Entry on Purchase DateInventory $$$$

Accounts Payable (or Cash) $$$$

Entry on Sale DateCost of Goods Sold $$$$

Inventory $$$$

In a perpetual inventory system, inventory entries are as follows:

Inventories

Cost of Goods sold is an Expense

L O 7

5-37

Specific Identification

When a unitis sold, the specific cost of the unit sold is added to cost of goods sold.

L O 8

5-38

Cost of Goods Available for Sale During the Year

Units Available for Sale During the Year

÷

Weighted-Average

Calculate the average cost of the items in beginning inventory plus purchases made during the year.

L O 8

5-39

Recent Costs

Ending Inventory

Oldest Costs

Last-In, First-Out Method (LIFO)

Costs of Goods Sold

Recent Costs

L O 8

6-40

Noncurrent AssetsLand

Equipment

Buildings

Intangible Assets

Natural Resources

1) Classified as assets because they are owned by the organization.

2) Have the ability to generate revenue beyond one year.

6-41

Land is a non-depreciable asset.

Purchaseprice

Real estatecommissions

Title insurance premiumsDelinquenttaxes

Razing costs of building on the land

Title and legal fees

LandAll costs incurred to get land ready for use are capitalized.

L O 1

6-42

Purchaseprice

Architecturalfees

Cost ofpermits

Excavation andconstruction costs

Installationcosts

Transportationcosts

Buildings and EquipmentAll costs incurred to get an asset ready for use are capitalized.

L O 1

6-43

Depreciation is the allocation of the cost of an asset to the years in which the benefits of the asset are expected to be received. It is an application of the matching concept.

CostAllocation

AcquisitionCost

(Unused)

Balance Sheet

(Used)

Income Statement

Expense

Depreciation

Does not reflect decline in value.

L O 2

6-44

Depreciation Methods

Straight-Line Depreciation

Years of Life

Annu

al

Depr

ecia

tion

Expe

nse

($)

Straight-Line MethodsStraight-lineUnits of production

Accelerated Depreciation

Years of Life

Annu

al

Depr

ecia

tion

Expe

nse

($)

Accelerated MethodsSum-of-the-years’-digitsDeclining balance

L O 3

6-45

Annual DepreciationExpense =

Double the Straight-line Depreciation Rate

× Book Value at Beginning of Year

Declining-Balance Method

1Life in Years

× 2

Since we are using two times the straight-line rate, this is called the Double-Declining-Balance Method.

L O 3

6-46

Life in Years

$0

$2,000

$4,000

$6,000

$8,000

$10,000

1 2 3 4 5

Ann

ual

Dep

reci

atio

n

Straight-Line

$0$2,000$4,000$6,000$8,000

$10,000$12,000$14,000$16,000

1 2 3 4 5Life in Years

Ann

ual

Dep

reci

atio

n

Units-of-Production

Life in Years

Ann

ual

Dep

reci

atio

n

$0

$5,000

$10,000

$15,000

$20,000

1 2 3 4 5

Double-Declining-Balance

Comparing Depreciation Methods

Total depreciation at end of useful life will be the same regardless of depreciation method

L O 3

6-47

Most corporations use the Modified Accelerated Cost Recovery System (MACRS) for tax purposes.

MACRS depreciation provides for rapid write-off of an asset’s cost in order to stimulate new

investment.

Depreciation for Tax Reporting

Salvage values are ignoredUseful lives are set by the Internal Revenue Service

L O 4

6-48

Maintenance and Repair Expense

Preventative maintenance expenditures and routine repair costs are clearly expenses of the period in which they are incurred.

L O 5

6-49

Recording cashreceived (debit).

Removing accumulateddepreciation (debit).

Update depreciation to the date of disposal.

Journalize disposal by:

Removing the asset cost (credit).

Recording again (credit)or loss (debit).

Disposal of Depreciable AssetsL O 6

6-50

An operating lease is an ordinary lease for the use of an asset that does not involve any attributes of ownership.

A capital lease results in the lessee (renter) assuming virtually all of the benefits and risks of ownership for the leased asset.

Assets Acquired by Capital LeaseL O 7

6-51

IntangibleAssets

Intangible Assets

Noncurrent assetswithout physicalsubstance.

Often provideexclusive rightsor privileges.

Useful life isoften difficultto determine.

Usually acquired for operational use.

L O 9

6-52

Buy or Lease an Asset?

Buy

Lease

= Liabilities + Owners' Equity

Net income = Revenues - Expenses

1. Date of Acquisition Computer Equipment

Capital Lease Liability

+217,765 +217,7652. Annual Depreciation

Accumulated Depreciation

Depreciation Expense

3. Annual Lease Payment -Lease Liability Interest Expense

Balance Sheet Income Statement

Assets

= Liabilities + Owners' Equity

Net income = Revenues - Expenses

1. Date of Acquisition Computer Equipment

Note Payable

+217,765 +217,7652. Annual Depreciation

Accumulated Depreciation

Depreciation Expense

3. Annual Lease Payment -Note Principal Interest Expense


Assets

Leasing the computer is essentially the same as buying it. Both methods of acquiring the asset yield the same economic impact and the same effect on the financial statements.

L O 8

6-53

Occurs when onecompany buysanother company.

The amount by which thepurchase price exceeds the fairmarket value of net assets acquired.

Goodwill

Only ‘purchased’ goodwill is an intangible asset.

GoodwillL O 9

7-54

• Liabilities are obligations that represent “probable future sacrifice of economic benefits.”

• The term accrued expenses is often used on the balance sheet to describe liabilities.

• Current liabilities are those liabilities that will be paid within one year of the current balance sheet date.

Nature of LiabilitiesL O 1

7-55

Nature of Liabilities

Current liabilities include:• Accounts payable• Short-term debt (Notes payable)• Current maturities of long-term debt• Unearned revenue or deferred credits• Other accrued liabilities

Noncurrent liabilities include:• Long-term debt (Bonds payable)• Deferred tax liabilities• Minority interest in subsidiaries

L O 1

7-56

Noncurrent Liabilities

Long-Term Debt

Interest on debt is tax deductible but dividends on stock are not. The after-tax cost of debt can be less than the cost of equities.

Long-term debt can provide positive financial leverage. Leverage is the difference between the ROI and the ROE.

L O 6

8-57

Owners’ Equity Section

Paid-in capitalCommon stock $1 par, 100,000 shares issued and 95,000 outstanding 100,000$ Additional paid-in capital 2,800,000

Total paid-in capital 2,900,000 Retained earnings 1,400,000

Total paid-in capital and retained earnings 4,300,000 Less: cost of treasury stock (5,000 shares) (150,000)

Total owners' equity 4,150,000$

Owners' Equity

LO 1

8-58

Paid-in CapitalCommon Stock

On January 1, 2010, Matrix, Inc. issued 100,000 of its $3 par value common stock for $14 per share. The following entry is recorded:


Equity Net

income = Revenues - Expenses

Cash +1,400,000

Common Stock

+300,000 Additional

Paid-in Capital

+1,100,000


This transaction has the following effect on the financial statements of Matrix:

Debit Credit2010Jan. 1 Cash 1,400,000

Common stock 300,000Additional-paid-in-capital 1,100,000

Date Account Titles and Explanation

GENERAL JOURNAL

LO 1

8-59

Common Stock

Outstanding

Unissued

Treasury

AuthorizedShares

Issued shares that are owned by stockholders.

Issued shares that have been reacquired.

Issued shares include outstanding and treasury shares.

LO 1

8-60

Preferred Stock

Normally no votingrights, but dividend payment haspreference overcommon stock.

Has a par or statedvalue with dividendexpressed as apercent of par.

If callable,may be retired. If convertible, may beexchanged forcommon shares.

LO 2

8-61

Preferred Stock Versus Bonds

Preferred Stock Bonds PayableDividend is usually fixed claim to income

Interest is fixed claim to income

Redemption value is fixed claim to assets

Maturity value is a fixed claim to assets

Is usually callable and may be convertible

Is usually callable and may be convertible

Dividend may be skipped, even if it must be caught up before payments to common

Interest must be paid or firm faces bankruptcy

No maturity date Principal must be paid at maturity

Dividends are not an expense and are not tax deductible

Interest is a tax deductible expense

Comparison of Preferred Stock and Bonds PayableSimilarities

Differences

LO 2

8-62

Additional Paid-in Capital

Represents the excess of the amount received from the sale of preferred or common stock over par (or stated) value.

LO 2

8-63

Retained EarningsRepresents the cumulative earnings of a corporation less the cumulative dividends paid since the business started operations.

Retained earnings is NOT cash.

LO 2

8-64

Cash Dividends

Dividends must bedeclared by the boardof directors beforethey can be legally paid.

The company is notlegally required topay dividends, butonce declared alegal liabilityis created.

The company must have sufficient cash andretained earningsto pay the dividend.

LO 3

8-65

Stock Dividends

No change in par value of stock or in total stockholders’ equity.

Stockholders retain percentage ownership in the company (preemptive right)

Distribution of additional shares of stock to stockholders.

Reasons for stock dividends: Preserve cash. Decrease market price of stock. Reduce retained earnings.

LO 4

9-66

Income StatementRevenue

Revenue is generated when a firm sells a product or provides a service to a client or customer and receives cash, creates an account receivable, or satisfies an obligation.Revenue is generally measured by the amount of cash received or expected to be received from a transaction.

L O 1

Revenue is realized when the product or service has been exchanged for cash, claims to cash, or an asset

that is readily convertible to a known amount of cash.

Revenue is earned when the firm has completed, or substantially completed, the activities it must perform to be entitled to the revenue benefits.

Companies should disclose unusual revenue recognition methods, such as percentage-of-completion or

installment methods.

9-67

Cost of Goods Sold

Calculation of cost of goods sold in a periodic inventory system

Beginning inventory 47,000$ Gross purchases 361,200$ Less: Purchase discounts (3,500) Less: Purchase returns and allowances (1,800) Net Purchases 355,900 Add: Freight-In 2,000 357,900 Cost of goods available for sale 404,900 Less: Ending inventory (53,100) Cost of goods sold 351,800$

In a perpetual inventory system, cost of goods sold is determined for each sale.

L O 2

9-68

Gross ProfitGross profit is the excess of sales over cost of goods sold.

YearItem 2008 2007 2006

Sales 400,000$ 355,000$ 320,000$ Cost of goods sold 285,000 250,000 225,000 Gross profit 115,000 105,000 95,000

Gross profit ratio = Gross profit ÷ Net sales

YearGross Profit Sales

Gross Profit Ratio

2008 $115,000 ÷ $400,000 = 28.75%2007 105,000 ÷ 355,000 = 29.58%2006 95,000 ÷ 320,000 = 29.69%

L O 3

9-69

Expenses

Outflows or other using up of assets or incurring liabilities from delivering or producing goods, rendering services, or carrying out other activities that constitute the entity’s ongoing central operations.

1. Some expenses are recognized concurrently with the revenues to which they relate (matching principle).

2. Some expenses are recognized in the period in which they are incurred (administrative salaries).

3. Some expenses result from an allocation of the cost of an asset to the period (depreciation).

L O 4

9-70

Operating Expenses

Operating expenses usually are reported in the following classifications on the income statement:1. Selling expenses.

2. General and administrative expenses.

3. Research and development expenses.

L O 4

9-71

Multiple-Step Income StatementMatrix, Inc.

Income StatementFor the Year Ended December 31, 20xx

Sales, net 785,250$ Cost of goods sold 351,800 Gross profit 433,450 Operating expenses: Selling expenses 197,350$ General and admin. 78,500 Depreciation 17,500 293,350 Income from operations 140,100 Other revenues and gains: Interest income 62,187 Gain 24,600 86,787 Other expenses and losses: Interest 27,000 Loss 9,000 (36,000) Income before taxes 190,887 Income taxes 62,500 Net income 128,387$

L O 5

9-72

Gains and LossesIncreases (gains) or decreases (losses) in an entity’s net assets result from nonoperating activities. Gains/losses are usually reported as other income and excluded from operating income.

Matrix, Inc.Income Statement

For the Year Ended December 31, 20xx

Sales, net 785,250$ Cost of goods sold 351,800 Gross profit 433,450 Operating expenses: Selling expenses 197,350$ General and admin. 78,500 Depreciation 17,500 293,350 Income from operations 140,100 Other revenues and gains: Interest income 62,187 Gain 24,600 86,787 Other expenses and losses: Interest 27,000 Loss 9,000 (36,000) Income before taxes 190,887 Income taxes 62,500 Net income 128,387$

L O 8

9-73

Statement of Cash Flows

Provides relevant information about the cash receipts and cash payments of an enterprise during a period. The statement shows why cash and cash equivalents changed during the period by reporting net cash provided or used by . . .

OperatingActivities

InvestingActivities

FinancingActivities

L O 9

9-74

Investing ActivitiesOperating Activities Financing Activities

Sale of operational assetsSale of investmentsCollections of loans

Cash received from revenues

Issuance of stockIssuance of bonds and notes

EnterprisePurchase of operational assetsPurchase of investmentsLoans to others

Cash paid for expenses

Payment of dividendsRepurchase of stockRepayment of debt

Cash Inflows

Cash Outflows

L O 9

9-75

Cash Flows from Operating Activities

DirectPresentation

Cash Flows from Operating Activities Cash received from customers 175,000$ Cash paid to suppliers 120,000 Cash paid for operating expenses 27,630 Cash Flows from Operating Activities 27,370

Cash Flows from Investing Activities

Proceeds from sale of Equipment 43,000

Cash Flows from Financing Activities

Proceeds from sale of Stock 50,000$ Principal paid on Bonds (100,000) Principal paid on Notes (10,000) (60,000) Net Cash Flows for the Period 10,370 Add: Beginning Cash Balance 21,000 Ending Cash Balance 31,370$

Supplemental Reconciliation

Note that net cash flow from operations and cash flows from operating activities reconcile.

Net Income 15,020$ Add (Deduct) items not affecting cash: Depreciation expense 5,000 Increase in accounts payable 4,600 Minority interest in subsidiaries 25,000 Gain on sale of land (17,250) Increase in accounts receivable (3,000) Increase in inventory (2,000) Net Cash Flow from Operations 27,370$

L O 10

9-76

Statement of Cash FlowsIndirect Presentation

About 98% of major corporations use the indirect method of presentation!

Net Income 15,020$ Add (Deduct) items not affecting cash: Depreciation expense 5,000 Increase in accounts payable 4,600 Minority interest in subsidiaries 25,000 Gain on sale of land (17,250) Increase in accounts receivable (3,000) Increase in inventory (2,000) Net Cash Flow from Operations 27,370 Cash Flows from Investing Activities Proceeds from sale of Equipment 43,000Cash Flows from Financing Activities Proceeds from sale of Stock $50,000 Principal paid on Bonds (100,000) Principal paid on Notes (10,000) (60,000) Net Cash Flows for the Period 10,370 Add: Beginning Cash Balance 21,000 Ending Cash Balance 31,370

L O 10

9-77

Interpreting the Statement

A business entity should have positive cash flows from operational activities. If operating activities do not generate cash, the entity must look to outside parties for funds to meet its day-to-day activities.

L O 11

11-78

Financial Statement Ratios

Ratios are used to interpret the financial position and results of operations of an entity and may be grouped in the following four categories:

1. Liquidity.2. Activity.3. Profitability.4. Debt, or financial leverage.

Operational Analysis

• Gross Profit Margin = Gross Profit / Sales X 100 /1

• Operating Margin = Operating Profit / sales X 100 /1

• Profit Margin = Net profit after tax / sales X 100 /1

Resource Management

• Inventory Turnover = Cost of Sales / Average Inventory

• Debtor Collection Period =Accounts Receivable / Credit Sales x 365

• Credit Payment Period = Accounts Payable / Credit purchases x 365

• Turnover to Net Assets = Sales / Net Assets

Profitability• Return on Assets = Operating Profit / Total assets x 100 /1• Return on Capital Employed = Operating profit / Capital

employed X 100 /1• Return on Equity = Profit after tax / Owner’s equity X 100 /1• Earnings per share (EPS) = Net profit after tax = Number of

ordinary shares issued• Dividend per share = Dividends for the year / Number of

ordinary shares issued• Earnings retention = Earnings per share – Dividend per share /

Earnings per share X 100 or Retained Earnings for the year / Profit due to ordinary shareholders X 100/1

Market indicators / Liquidity

• Price / Earnings (P/E) Ratio = Market price per share / Earnings per share

• Current Ratio = Current Assets / Current Liabilities

• Acid Test Ratio = Current Assets – Inventory / Current Liabilities

• Leverage : Debt to Assets= Total debt / Total assets X 100 /1

• Debt to equity= Non

Cost Volume Profit Relationships• Cost behaviour• Cost Classifications• Cost Volume Profit Relationships• Contribution Margin Concept• The traditional income statement format and the contribution

margin income statement format• An expanded contribution margin model• Sales Mix Cosniderations• Breakeven Point• Target Profit, analysis, Operating Leverage• Margin of Safety

12-84

How a cost will react to changes in the level of business activity.– Total variable costs

change when activity changes.

– Total fixed costs remain unchanged when activity changes.

Relationship of Total Costto Volume of Activity

L O 3

12-85

Total Fixed Cost Your monthly basic telephone bill

probably does not change whenyou make more local calls.

Number of Local Calls

Mon

thly

Bas

ic

Tele

phon

e B

ill

L O 4

12-86

Fixed Cost per Unit

Number of Local Calls

Mon

thly

Bas

ic T

elep

hone

B

ill p

er L

ocal

Cal

l

The average cost per local call decreasesas more local calls are made.

L O 4

12-87

Total Variable Cost

Your total long distance telephone bill is based on how many minutes you talk.

Minutes Talked

Tota

l Lon

g D

ista

nce

Tele

phon

e B

ill

L O 5

12-88

Variable Cost Per Unit

Minutes Talked

Per

Min

ute

Tele

phon

e C

harg

e

The cost per long distance minute talked is constant. For example, $0.10 per minute.

L O 5

12-89

Unit variable cost = $3,600 ÷ 4,000 units = $0.90 per unit Fixed cost = Total cost – Total variable cost Fixed cost = $9,700 – ($0.90 per unit × 9,000 units) Fixed cost = $9,700 – $8,100 = $1,600 Total cost = Fixed cost + Variable cost (Y = a + bX) Y = $1,600 + $0.90X

The High-low MethodL O 6

12-90

Comparison of the Contribution Income Statement with the Traditional Income Statement

Traditional Format Contribution Format (expenses classified by function) (expenses classified by behavior)

Revenues 100,000$ Revenues 100,000$ Less cost of goods sold 70,000 Less variable expenses 60,000 Gross profit 30,000$ Contribution margin 40,000$ Less operating expenses 20,000 Less fixed expenses 30,000 Operating income 10,000$ Operating income 10,000$

Used primarily forexternal reporting.

Used primarily bymanagement.

The Contribution Margin Format

Both formats report the same operating income!

L O 7

12-91

Total Per Unit Percentage

Revenues (10,000 units) 100,000$ 10$ 100%Less variable expenses 60,000 6 60%Contribution margin 40,000$ 4$ 40%Less fixed expenses 30,000 Operating income 10,000$

Contribution Format Income StatementEvans Golf Company

Contribution margin ratio

The Contribution Margin FormatL O 9

12-92

Multiple Products andSales Mix Considerations

Sales mix is the relative combination in whicha company’s different products are sold.

Different products have different selling prices, costs, and contribution margins.

A change in the sales mix will result in a different contribution margin ratio.

L O 10

12-93

Multiple Products andSales Mix Considerations

Lawnmowers TotalSales 250,000$ 100% $450,000 100% 700,000$ 100%Variable expense 150,000 60% 202,500 45% 352,500 50%Contribution margin 100,000$ 40% $247,500 55% 347,500$ 50%Fixed expense 170,000 Operating income 177,500$

Lawn tractors

$347,500 $700,000 = 50% (rounded)

Average total contribution margin ratio provided from all products:

How will average total contribution margin change if Jones sold 1,500 lawn tractors, all other factors held constant?

Due to selling more product with a higher CM ratio.

Increases

L O 10

12-94

Break-Even Point Analysis

How many units must Evans sell to cover its fixed costs (break even)?Answer: $30,000 ÷ $4 per unit = 7,500 units

Total Per Unit Percentage

Revenues (10,000 units) 100,000$ 10$ 100%Less variable expenses 60,000 6 60%Contribution margin 40,000$ 4$ 40%Less fixed expenses 30,000 Operating income 10,000$

Contribution Format Income StatementEvans Golf Company

L O 11

12-95


The break-even formula may also be expressed in sales dollars.

Break-even point in dollars = Fixed costsContribution margin ratio

Unit sales price Unit variable cost

L O 11

12-96


Break-even formulas may be adjusted to show the sales volume needed to earnany amount of operating income.

Unit sales = Fixed costs + Desired incomeContribution margin per unit

Dollar sales = Fixed costs + Desired incomeContribution margin ratio

L O 11

14-98 98

Control Steps taken by

management to ensure that

objectives are attained.

Planning Developing objectives for

acquisitionand use of resources.

A budget is a comprehensive financialplan for achieving the financial andoperational goals of an organization.

BudgetingL O 1

14-100

Time consuming but enhances employeemotivation and acceptance of goals.

S u p ervisor S u p ervisor

M id d leM an ag em en t

S u p erviso r S u p erviso r

M id d leM an ag em en t

Top M an ag em en t

Participative BudgetingFlow of Budget Data

L O2

14-101

Operating Budget

The annual operating budget may be divided into quarterlyor monthly budgets.

The Budget Time Frame

2010 2011 2012 2013

Operating Budget Operating Budget

L O3

14-103

2011 20112010 2012

Continuous or Perpetual Budget

This budget is usually a four-quarterbudget that rolls forward one quarteras the current quarter is completed.

The Budget Time Frame

Budget for2011 byquarters

Quarter I

Quarter II

Quarter III

Quarter IV

Budget for last 3 quarters of 2011 and first quarterof 2012

Budget for 2012 by quarters

2011 2011Quarter IV

Budget for last 2 quarters of 2011and first 2 quartersof 2012

Budget for last quarter of 2011 andfirst 3 quartersof 2012

L O3

14-104

ORDirectMaterialsBudget

Production Budget(Manufacturer)

Operating ExpenseBudget

DirectLaborBudget

ManufacturingOverheadBudget

Sales BudgetThe Budgeting Process

Cost of GoodsSold Budget

Budgeted Balance Sheet

Budgeted Income Statement

Budgeted Statement of Cash Flows

Purchases Budget(Merchandiser)

L O4

14-105

SalesBudget

EstimatedUnit Sales

EstimatedUnit Price

Analysis of economic and market conditions+Forecasts of customer needs provided by marketing personnel

Sales BudgetL O4

14-107

Production must be adequate to meet budgeted sales and to provide sufficient ending

inventory.

Budgeted product sales in units+ Desired product units in ending inventory= Total product units needed– Product units in beginning inventory= Product units to produce

The Production BudgetL O5

14-108

The materials purchases budget is based on production quantity and desired materials inventory levels.

Units to produce × Material needed per unit = Material needed for units to produce+ Desired units of material in ending

inventory= Total units of material needed– Units of material in beginning inventory= Units of material to purchase

Raw Materials Purchases BudgetL O5

14-109

• Selling expense budgets contain both variable and fixed items.– Variable items: shipping costs and sales

commissions.– Fixed items: advertising and sales salaries.

• Administrative expense budgets contain mostly fixed items.– Executive salaries and depreciation on company

offices.

Selling and Administrative(S&A) Expense Budget

L O6

14-111

Production costs per unit Quantity Cost Total Direct materials 3.00 lbs. 0.90$ 2.70$ Direct labor 0.10 hrs. 10.00$ 1.00 Manufacturing overhead 4.91 Total unit cost 8.61$

Total mfg. OH for quarter $188,400 Total labor hours required 38,400 units

= $4.91 per unit (rounded)

From production and overhead budgetsUnits Produced Mfg. OH

January 12,800 62,800$ February 16,200 66,200 March 9,400 59,400 Total 38,400 188,400$

Budgeted Income Statement

Manufacturing overhead is applied based on number of units produced.

L O7

13-112

Direct Costs and Indirect Costs

Direct costs• Can be easily and

conveniently traced to a unit of product or other cost objective.

• Would not be incurred if the product or activity was discontinued.

Indirect costs• Cannot be easily and

conveniently traced to a unit of product or other cost object.

• Would be incurred even if the product or activity was discontinued.

L O 3

14-113

Are standards the same as budgets?

A standard is the expected cost for one unit.

A budget is the expected cost for all units.

Standard Costs are

Based on carefullypredetermined amounts.

Used for planning material, labor, and overhead requirements.

The expected levelof performance.

Benchmarks formeasuring performance.

Standard CostsL O 9

14-115

QuantityStandards

Use product design specifications.

PriceStandards

Final, deliveredcost of materials,net of discounts.

Costing Products withStandard Costs

L O 11

RateStandards

Use wage surveys andlabor contracts.

TimeStandards

Use time and motion studies foreach labor operation.

13-116

Manufacturers . . .– Buy raw materials.– Produce and sell

finished goods.Current Assets

– Cash– Receivables– Prepaid Expenses– Inventories

• Raw Materials• Work in Process• Finished Goods

Merchandisers . . .– Buy finished goods.– Sell finished goods.

Current Assets– Cash– Receivables– Prepaid Expenses– Merchandise Inventory

MegaLoMart

Costs for Cost Accounting PurposesL O 4

14-117

RateStandards

The rate is the variable portion of the predetermined overhead rate.

ActivityStandards

The activity is the base used to calculate the predetermined overhead.


L O 11

14-119

Standard costs for a productmight look like this:

A A x BStandard Standard StandardQuantity Price Cost

Inputs or Hours or Rate per Unit

Raw materials 3.0 lbs. 4.00$ per lb. 12.00$ Direct labor 2.5 hours 14.00 per hour 35.00 Variable overhead 2.5 hours 3.00 per hour 7.50 Fixed overhead 2.5 hours 4.50 per hour 11.25 Total standard unit cost 65.75$

B


L O 11

13-120

FinishedGoods

Work in Process

Cost of GoodsSold

Direct Labor

Balance Sheet Costs Inventories

Income StatementExpenses

Selling andAdministrative

Period Costs

Raw MaterialsMaterial Purchases

ManufacturingOverhead

Selling andAdministrative

Product Costs and Period Costs L O 4

13-121

Planning andcontrolfunctions.

Providingproducts or services tocustomers.

Assessing theefficiency andeffectivenessof operations.

Determining unitmanufacturingcosts.

Cost accounting systems provide the INFORMATIONthat supports successful decision-making.

Cost Accounting SystemsL O 5

13-122

Discloseinventoriesand cost ofgoods sold.

Track resourcesconsumed byproducts andservices.

Manage activitiesthat consumeresources.

Evaluate andrewardemployeeperformance.

Cost accounting systems are the proceduresand techniques used by management.


13-123

Estimated total manufacturingoverhead cost for the coming periodEstimated total units in theallocation base for the coming period

POHR =

The predetermined overhead rate (POHR) used to apply overhead to jobs is determined

before the period begins.

Ideally, the allocation base is a cost driver that causes overhead.


13-124

Alternative 1 Alternative 2If Manufacturing Close to Cost Overhead is . . . of Goods Sold Allocation

UNDERAPPLIED INCREASE INCREASECost of Goods Sold Work in Process

(Applied OH is less Finished Goodsthan actual OH) Cost of Goods Sold

OVERAPPLIED DECREASE DECREASECost of Goods Sold Work in Process

(Applied OH is greater Finished Goodsthan actual OH) Cost of Goods Sold

Smaller amounts


13-125

Direct Materials

Direct Labor

Variable Manufacturing Overhead

Fixed Manufacturing Overhead

Variable Selling and Administrative Expenses

Fixed Selling and Administrative Expenses

VariableCosting

AbsorptionCosting

ProductCosts

PeriodCosts

ProductCosts

PeriodCosts

Cost Accounting Systems

Absorption Costing and Variable Costing

L O 8

16-126

Relevant Cost Information

Relevant IrrelevantDifferential Cost -- will differ Allocated Cost -- a common cost thataccording to alternative activities has been arbitrarily assigned to abeing considered. product or activity.

Opportunity Cost -- income foregone Sunk Cost -- has already been incurredby choosing one alternative over and will not change.another.

L O 1

16-127

Example: If you were notattending college, you couldbe earning $20,000 per year. Your opportunity cost ofattending college for oneyear is $20,000.

Opportunity costs are not recorded in the accounting records, but are relevant to

decisions because they are a real sacrifice.

Opportunity CostL O 1

16-128

Managers often face the problem of deciding how scarce resources are going to be utilized.

Usually, fixed costs are not affected by this particular decision, so management can focus on maximizing total contribution margin.

Short-Term Allocationof Scarce Resources

L O 3

16-129

The Make or Buy Decision

• The relevant cost of making a component is the cost that can be avoided by buying the component from an outside supplier.

• Decision rule: Costs avoided must be greater than outside supplier’s price to consider buying the component.

L O 3

16-130

Capital Budgeting Techniques

Methods that use present value analysis:• Net present value (NPV).• Internal rate of return (IRR).

Methods that do not use present value analysis:• Payback.• Accounting rate of return.

L O 6

16-131

Payback PeriodThe payback period of an investmentis the number of years it will take torecover the amount of the investment.

Managers prefer investing in projects with shorter payback periods.

L O 9

Ignores the time valueof money.

Ignores cashflows after the paybackperiod.

16-132

The accounting rate of return focuses onaccounting income instead of cash flows.

Accounting Rate of Return

Accounting Operating incomerate of return Average investment=

L O 10

16-133

General decision rule . . .

If the Net Present Value is . . . Then the Project is . . .

Positive . . . Acceptable, since it promises a return greater than the cost of

capital.

Zero . . . Acceptable, since it promises a

return equal to the cost of capital.

Negative . . . Not acceptable, since it

promises a return less than the cost of capital.

Net Present Value (NPV)L O 7

16-134

Internal Rate of Return (IRR)L O 7

If annual cash inflows are unequal, trial and error solution will result if present value tables are used.

Sophisticated business calculators and electronic spreadsheets can be used to easily solve these problems.

• The actual rate of return that will be earned by a proposed investment.

• The interest rate that equates the present value of inflows and outflows from an investment project – the discount rate at which NPV = 0.

16-135

Chose a discount rate – the minimum required rate of return.

Calculate the presentvalue of cash inflows .

Calculate the presentvalue of cash outflows .

NPV = –

Net Present Value (NPV)L O 7

Transfer Pricing for Decentralized Enterprises

• What is Transfer Pricing?• It involves determining appropriate selling

prices for goods or services when both the buyer and the seller are within the same entity

• When an enterprise has many divisions- one division buys products from another division

Purpose of Transfer Pricing

• Optimize the profits for the enterprise as a whole.

• Encourage the autonomy of individual divisions.

• Provide information to evaluate the performance of divisions.

• Move profits between divisions or locations.

Transfer Pricing Methods

• Market based transfer prices• Variable cost transfer prices• Full cost transfer prices• Cost-plus a mark-up transfer prices• Negotiated transfer price• International Transfer Pricing

Corporate Governance

• Background to the emergence of corporate governance• Definition of Corporate governance• Corporate governance code of practice• King Reports• Combined Code of Practice, the Board of Directors,

relationship with shareholders, accountability and audit, internal control, audit committees, audit and the role of auditors, responsibilities of directors, directors remuneration, insolvency

• Wrongful trading and fraudulent trading

THANK YOU

MBA ACCOUNTING FOR DECISION MAKING – Simphiwe Nojiyeza Cluster Coordinator.

Documents

Transcript of MBA ACCOUNTING FOR DECISION MAKING – Simphiwe Nojiyeza Cluster Coordinator.