Individual Assignment: Management Accounting

Question 1: Mariam Cakes

a. Difference between Product Cost and Period Cost.
There are variety of costs produced from production to sales for a manufacturing
company.

Generally,

they

can

be

classified

as

manufacturing

costs

and

nonmanufacturing costs, which also refer to product costs and period costs respectively.
Therefore, product costs are all the costs or expenses occurring in the production of
goods or provision of services. While period costs are other costs except product costs
occurred during the manufacturing companys accounting period.
Product costs
For financial accounting purposes, product costs include all costs involved in acquiring
or making a product (P. C. Brewer, R. H. Garrison & E. W. Noreen, 2010). In the
processes of manufacturing goods, product costs consist of direct materials, direct labor
and manufacturing overhead. These refer to materials, labors work and costs that can
be transferred directly in producing a product. Direct materials are also called raw
materials, which will be transferred into final product in the manufacturing, such as wood
used in producing a table. Direct labor consists of labor costs that can be easily (i.e.,
physically and conveniently) traced to individual units of product (Brewer, 2010).
Assembly-line workers in a planet are example of direct labor force. The cost paid to
these workers are the monetary amount of direct labor. Thus this cost is considered as
product cost. Manufacturing overhead contains all the other manufacturing costs other
than direct materials and direct labor. Such as indirect materials, indirect labor, factory
utilities, heat and light consumed in the production, depreciation of planet and
equipment, insurance on equipment and so on.
Period Costs
Unlike product costs, which will increase as the volume of production increases, period
costs occur and be recorded on the income statement based on a certain period, which
usually is the financial year. These costs are not directly attributed to costs of producing
1

a particular product, and have no direct relationship with the process of production.
They happen over time and are related to the product marketing and administration of
the company. Therefore, we cannot trace these costs to production, but determine the
period during which they occur. These costs are charged against the sales revenue for
the accounting period in which they take place (Surbhi S, 2015), and are deducted from
profit or loss in the related period. Selling costs and administrative costs are considered
to be period costs. The former one are costs spent to make sure that products or
services can be reached to customers, such as advertising and sales commission; the
latter one are costs associated with the companys whole general management, such as
executive compensation and secretarial salaries.
b. Identify the Period and Product Costs in the Proposed Business
In Mariams proposed bakery business, the product costs she has to pay are the place
she rents for her bakery cum office, raw material used to bake cakes, which would be
around RM25 per cake, an experienced helper at a rate of RM10 per hour, the RM95
rental for the phone used for taking orders and oven equipment rented at a cost of
RM200 every month.
To start her bakery business, Mariam would have to rent a place as a physical store,
where she stores raw materials, such as flour, sugar, and dairy, and bakes cakes, and
sells cakes to customers. Therefore, the cost that Mariam spends to rent the bakery
cum office is actually manufacturing overhead, which refers to indirect factory-related
costs that are incurred when a product is manufactured (Harold Averkamp), and thus it
pertains to product cost. The raw material that Mariam use to bake cake is certainly
direct material, and thus pertains to product cost. The experienced helper she
employees to help her bake cake should be direct labor in her business, and thus the
cost should be product cost. The rental for the phone used for taking orders is related to
the bakery business but indirectly related to bake the cakes. Therefore, this expense
should be manufacturing overhead, which indicates that it is product cost. Oven
equipment is the facility that used in baking cakes. This item belongs to manufacturing
overhead, and thus oven equipment pertains to product cost.

The period costs include the money paid to advertising agency that helps increase the
sales through campaigns, the consignment expense on each cake sold, and the legal
and filing fees paid to incorporate her business.
Advertising agency helps increase the sales through campaigns. The expense spent on
it cannot be traced to single product, but only be recorded during the period within which
it occurs. Thus the expense on advertisement is period cost. As to the consignment
cost, although it increases as the amount of cake sold increases, it pertains to selling
cost. Thus it is period cost. Legal and filing fees is the administrative expense that
occurs to manage the shop and support the business, therefore it is period cost.
c. Relevant Cost for Mariam in Deciding Whether to Continue Working or to Start
the Cake Business.
The relevant costs for Mariam in deciding whether to continue working as a secretary or
to start the cake business are the rental of her bakery cum office, raw material used to
bake cakes, the salary paid to helper, the rental for phone used for taking orders, the
expense on advertisement campaigns, the consignment expense, the rental of oven
equipment.
According to Brewer (2010), costs that differ between alternatives are called relevant
costs. The expenses stated above are costs that will occur if Mariam decides to start the
cake business. If Mariam decides to continue the work as a secretary, not starting her
cake business, then she doesnt have to pay these costs. These costs will differ, that is,
occur or not, between Mariams different choices. Thus they are costs that are relevant
for Mariam in deciding whether to continue working as a secretary or to start the cake
business.
Moreover, Mariams salary, RM3,600, as a secretary and the profit she makes from the
cake business are also relevant in her decision making. The profit of cake business is
the difference between the revenue of cake business and the total costs stated above. If
the profit is higher than Mariams present salary, which is RM3,600, she can quit her job
and start her cake business; if not, Mariam need to reconsider the alternative.

In this scenario, Mariams interest, RM1,700 per year, is not relevant in decision making.
Although Mariam will withdraw these savings and invest in the business, this money will
occur whether she makes decision or not. As for the legal and filling fees, basically, if
Mariam not start her bakery business, she doesnt need to pay this fees. But it
mentioned that Mariam has already paid the legal and filling fees, which suggests that
this fees have been a sunk cost. Whether Mariam decides to do business or continue
her job as a secretary, this fee is already paid and cannot get back. Therefore, this fees
should be irrelevant cost.
Question 2: All-Juice Station
a. Relevant Cost in Decision Making Problem.
In order to minimize the cost and maximize the profit, a manager has duty to make
decisions that what products to produce, whether to produce or purchase the products
from other manufacturers, how to set the price, whether to accept orders from other
merchant, and so on. Therefore, a manager must has the ability to identify the relevant
costs as well as irrelevant costs, which is relative to relevant costs, between the present
situation and the alternatives. A relevant cost is a cost that only relates to a specific
management decision, and which will change in the future as a result of that decision
(Steven Bragg, 2013). When a manager considers to take a special order, he must
compare the cost as well as revenue of this alternative with other alternatives, in order
to take the best alternative and gain more profit for the company. Such costs or
revenues are relevant costs or revenues. Irrelevant costs, which is relative to relevant
costs, are the costs that wont affect the decision. That is to say, whether the manager
takes the order or not, these costs will certainly occur. Thus, it is critical for the manager
to distinguish between relevant and irrelevant costs before comparing the cost and
making decisions.
For example, a manufacturing company produces a certain product. One of its customer
companies books a certain amount of products from it. In order to produce this amount
of products, the manufacturing company has to expend direct materials, direct labor,
variable manufacturing overhead and fixed manufacturing overhead, such as rental on
equipment. Then another merchant provides an offer to sell the products to the
4

manufacturing company with a special price. In this situation, direct materials, direct
labor and variable manufacturing overhead, as well as the price offered by the merchant
are relevant costs. Because if the manufacturing company decides to purchase the
products, it will save the expenses on the direct materials, direct labor and variable
manufacturing overhead in producing these products, but has to pay the merchant for
purchase. Here, the fixed manufacturing overhead will not be avoided whether to take
the offer, thus it is irrelevant cost and will not be considered in the decision.
b. Based on The Scenario, Whether This Special Order Should Be Accepted or
not.
In the scenario described in the question, Tan needs to produce 3,500 bottles of fresh
apple juice to meet regular customers demand every month. The cost of making a
bottle of fresh apple juice is RM2.75 which includes material and labour. Here, the
manufacturing overheads are all fixed at RM1,500 per month, that is to say, whether Tan
chooses to produce these juice or purchase from Terry, he must expend RM1,500 on
the manufacturing overhead. Thus, the manufacturing overhead is irrelevant cost in
Tans decision making. So the relevant cost for Tan to produce these 3,500 bottle of
juice is:
RM2.75 X 3,500 = RM9,625
However, Terry provides a special offer that Tan can purchase 1,000 bottles of juice at
price of RM1.6 per bottle from him each month. If Tan accepts Terrys offer and decides
to purchase these juice, he only needs to produce 2,500 more bottles of juice to satisfy
customers need every month. Thus, the relevant cost of this alternative is:
RM2.75 X 2,500 + RM1,600 = RM 8,475
Obviously, if Tan chooses to purchase 1,000 bottles of juice from Terry, rather than
producing the total 3,500 bottles of juices, he will expense less cost. Thus he should
accept Terrys offer.

Reference
Peter C. Brewer, Ray H. Garrison & Eric W. Noreen. (2010). Introduction to
Management Accounting. McGraw-Hill Irwin. 5th Edition.
Surbhi S (August 21, 2015). Difference between Product Cost and Period Cost.
Retrieved from: http://keydifferences.com/difference-between-product-cost-and-periodcost.html
Harold Averkamp. Manufacturing Overhead (Explanation).
Retrieved from: http://www.accountingcoach.com/manufacturing-overhead/explanation
Steven Bragg (July 3, 2013). What is a relevant cost?
Retrieved

from:

http://www.accountingtools.com/questions-and-answers/what-is-a-

relevant-cost.html