Managerial Accounting Notes

1. Introduction to managerial accounting

Introduction

Understanding costs and their classification is fundamental in managerial accounting. It helps in planning, decision-making, and controlling operations.

1. Classification by Behavior

Fixed Costs: Do not change with production levels (e.g., rent, salaries).

Variable Costs: Change directly with production (e.g., raw materials).

Semi-variable (Mixed) Costs: Have both fixed and variable components (e.g., utility bills).

2. Classification by Function

Production Costs: Related to the manufacture of products.

Administrative Costs: Associated with management and support.

Selling and Distribution Costs: Related to marketing and delivery of products.

3. Classification by Traceability

Direct Costs: Easily traced to a specific product (e.g., direct labor).

Indirect Costs (Overheads): Not directly traceable to a single product (e.g., factory maintenance).

4. Classification for Decision-Making

Relevant Costs: Future costs that will change based on decisions.

Sunk Costs: Past costs that cannot be recovered.

Opportunity Costs: The cost of the next best alternative foregone.

5. Importance of Cost Classification

Aids in cost control and reduction.

Helps in budgeting and forecasting.

Essential for pricing decisions.

Useful in performance evaluation.

2. Cost-Volume-Profit (CVP) Analysis

Introduction

Cost-Volume-Profit (CVP) Analysis is a tool used by managers to understand how changes in costs, sales volume, and price affect a company’s profit. It's crucial for short-term decision-making and planning.

1. Key Concepts

a. Fixed Costs

Remain constant regardless of production or sales levels.

b. Variable Costs

Change with the level of production or sales.

c. Contribution Margin

\text{Contribution Margin} = \text{Selling Price} - \text{Variable Cost}

d. Break-Even Point

The level of sales at which total revenue equals total costs (no profit, no loss).

\text{Break-Even (Units)} = \frac{\text{Fixed Costs}}{\text{Contribution Margin per Unit}}

2. Importance of CVP Analysis

Determines break-even sales volume.

Helps in setting sales targets.

Assists in evaluating the impact of price changes.

Useful for deciding product mix and cost control strategies.

3. Assumptions of CVP Analysis

Costs can be accurately divided into fixed and variable.

Selling price per unit is constant.

Production equals sales (no inventory changes).

Only one product or constant sales mix.

4. Applications

Pricing Decisions: How low can you go without incurring a loss?

Profit Planning: How many units must be sold to reach a target profit?

What-If Analysis: What happens to profit if sales increase or decrease?

5. Limitations

Assumes linear cost behavior.

Ignores uncertainties like demand changes.

Not suitable for long-term decisions involving capital investment