5102

1- Life Cycle Cost

design & D&D & development upstream 3

downstream 3
Definition life cycle cost? 3 advantage for use life cycle
cost? One disadvantage?
life cycle cost
upstream
downstream
2- Strategic plan
overall for company
strategic plan
Strategic plan
5
Michael porter model
1- The risk of entry by potential competitors
2- The intensity of rivalry among established companies
within an entity
3- The bargaining power of buyers
4- The bargaining power of suppliers
5- The closeness of substitutes to an industrys products

For-Essay-Questions

Identify Life cycle costing??
Life-cycle costing is a method to identify and monitor the costs of a product
throughout its life cycle.
The life cycle consists of all steps from product design and purchase of raw Materials to
delivery and service of the finished product. The steps include

Upstream costs-Costs
1) Research and development;
2) product design, including prototyping, target costing, and testing ;
3) Manufacturing, inspecting, packaging, and warehousing;

Downstream costs
4) Marketing, promotion, and distribution; and
5) Sales and service.

Discuss how life cycle cost if you increase upstream cost

reduces downstream cost??
For example, a product that is designed quickly and carelessly, with little investment in
design costs, could have significantly higher marketing and service costs later in the life
cycle.
Managers are interested in the total cost, over the entire life cycle, not manufacturing costs
only.
In life-cycle budgeting, managers estimate the revenues and business function costs across
the entire value chain from a products initial R&D to its final customer service and support.
Life-cycle costing tracks and accumulates business function costs across the entire value
chain from a products initial R&D to its final customer service and support.
Life-cycle costing-Sometimes used on a strategic basis for cost planning and product pricing.
It is designed to allow a firm to focus on the overall costs for a product or service. Poor early
design could lead to much higher marketing costs, lower sales, and higher service costs.

Advantage and disadvantage of life cycle costing???

Advantage
Life-cycle costing provides a long-term perspective because it considers the entire cost life
cycle of the product or service provides a more complete perspective of product costs and
product or service profitability.
Provide useful information for strategically evaluating pricing
Decisions, the management accountant prepares cost information from the perspective of
the cost life cycle to be used in Strategic pricing
Life-cycle costing assists managers in minimizing total cost over the products or services
entire life cycle. Life-cycle costing brings a focus to the upstream activities (research and
development, engineering) and downstream activities (marketing, distribution, service), as
well as the manufacturing and operations that cost systems focus on. Especially important is
a careful consideration of the effects of design choices on downstream costs.
Life-cycle costing highlights costs throughout the products life cycle and, in doing
so,facilitates target pricing, target costing, and value engineering at the design stage before
costs are locked in.

Life-cycle techniques are particularly important when

a) A high percentage of total life-cycle costs are incurred before production begins and
revenues are earned over several years, and
b) A high fraction of the life-cycle costs are locked in at the R&D and design stages.
Life-cycle costing- a longer-term perspective is used instead of an annual accounting period.
Life-cycle costing attempts to make managers proactive in the earlier phases so they do not
have to be reactive later.
Life-cycle costing places its strategic focus on improving costs in all three phases. Improving
product design is the key to the upstream phase. Improving the manufacturing process and
relationships with suppliers is highlighted in the manufacturing phase. Improving the first
two phases is the key to lowering downstream costs because actions taken in these phases
limit the downstream choices.

Disadvantage
LIFE-CYCLE COSTING (NOT GAAP) for financial statement purposes, costs during the
upstream phase must be expensed in the period incurred. For management accounting
purposes, the costs (such as R&D) that result in marketable products represent a life-cycle
investment and must therefore be capitalized.

 Importance of budget in overall company strategic plan?

1. Implementing the strategy requires formulation of long-term plans, and long-term

plans are implemented using a budget process.
2. Budgeting is a common accounting tool that companies use for implementing
strategy, as budgeting facilitates movement toward strategic goals.
3. A budget should start with a careful review and study of the organizations strategic
plan. The objective is to build a budget to achieve the organizations strategic goals
and objectives.
4.

An organization determines short-term objectives for the budget period based on

Strategic goals Long-term objectives and plans operating results of past periods
Expected future operating and environmental factors including economic, industry,
and marketing conditions.These objectives serve as the basis for preparing the
master budget for a period.
5. A master budget translates the organizations short-term objectives into action
steps. A master budget reflects an organizations operating and financing plans for
the upcoming budget period.
6. The master budget is a map showing where the company is heading, and, if it is
properly designed, it will show the company heading in the same direction as the
strategy and the long-term plan. The budget is more precise and of shorter duration
than long-term plans, and it is more focused on responsibility centers than longerterm planning tools.

Points in porter model?

Michael Porter developed a model examining five forces and their collective role in
determining the strength of competition and profitability. It includes an analysis of the five
competitive forces that determine long-term profitability as measured by long-term return
on investment.

Porter five forces:

1)
2)
3)
4)
5)

The risk of entry by potential competitors,

The intensity of rivalry among established companies within an industry
The bargaining power of buyers,
The bargaining power of suppliers, and
the closeness of substitutes to an industrys products

 Porters Arguments:
As the forces grow stronger, they limit the ability of established companies to raise prices
and earn greater profits. When one or more of these competitive forces is strong it creates
limitations on the companys ability to raise prices and earn greater profits.
Within Porters framework, a strong competitive force can be regarded as a threat because
it depresses profits.
A weak competitive force can be viewed as an opportunity because it allows a company to
earn greater profits.
The strength of the forces may change overtime as industry conditions change. Managers
face the task of recognizing how changes in the forces give rise to new opportunities and
threats, and formulating appropriate strategic responses.
In addition, Porter says it is possible for a company, through its choice of strategy, to alter
the strength of one or more of the forces to its advantage.

Life cycle costing
Life cycle costing is an alternative approach to cost management which accumulates
and manages costs over a products life cycle
There are two important aspects to life cycle costing: the focus on the product cost
and the inclusion of all upstream and downstream costs.
A product life cycle is the time from the conception of a product through to its
abandonment, that is, from cradle to grave. From a production perspective, product
life cycles usually cover four stages:
1) Product planning and initial concept design;
2) Product design and development;
3) Production; and
4) Distribution and customer (or logistical) support.
The length of a products life cycle varies from one product to the next. For example,
clothing and fashion goods tend to have a life cycle of one year or less. Mitsubishi
Motors Australia plans on a life cycle of four to five years from the time a new model
is conceived to the time its production is discontinued. They allow another 10 years
for the production of spare parts for discontinued models.

 5105-5-06
5/01
Sameh Ellithy

far
consignment
control cost budget

Comparison between variable and absorption?

Absorption Costing or Full Costing System:
Definition and explanation:
Absorption costing is a costing system which treats all costs of production as product costs,
regardless weather they are variable or fixed. The cost of a unit of product under absorption
costing method consists of direct materials, direct labor and both variable and fixed
overhead. Absorption costing allocates a portion of fixed manufacturing overhead cost to
each unit of product, along with the variable manufacturing cost. Because absorption costing
includes all costs of production as product costs, it is frequently referred to as full costing
method.

Variable, Direct or Marginal Costing:

Definition and explanation:
Variable costing is a costing system under which those costs of production that vary with
output are treated as product costs. This would usually include direct materials, direct labor
and variable portion of manufacturing overhead. Fixed manufacturing cost is not treated as
a product costs under variable costing. Rather, fixed manufacturing cost is treated as a
period cost and, like selling and administrative expenses, it is charged off in its entirety
against revenue each period. Consequently the cost of a unit of product in inventory or cost
of goods sold under this method does not contain any fixed overhead cost.
Variable costing is some time referred to as direct costing or marginal costing. To complete
this summary comparison of absorption and variable costing, we need to consider briefly the
handling of selling and administrative expenses. These expenses are never treated as
product costs, regardless of the costing method in use. Thus under either absorption or

variable costing, both variable and fixed selling and administrative expenses are always
treated as period costs and deducted from revenues as incurred.

Absorption vs. Variable Costing

a) Absorption costing (sometimes called full or full absorption costing) treats all
1.
2.
b)

1.

2.

Manufacturing costs as product costs.

The inventoried cost of the product thus includes all production costs, whether
variable or fixed. This technique is required for reporting under GAAP.
Gross margin is the net of sales revenue and absorption cost of goods sold. It
represents the amount available to cover selling and administrative expenses.
Variable costing (also called direct costing) considers only variable manufacturing
costs To be product costs, i.e., inventoriable (the phrase direct costing is
considered misleading Because it implies traceability).
Fixed manufacturing costs are considered period costs and are thus expensed as
incurred. This technique is not allowed under GAAP but is very useful for internal
decision making.
Contribution margin is the net of sales revenue minus all variable costs (both
manufacturing and S&A). It represents the amount available to cover fixed costs.

The advantages of using absorption costing are:

It is required for external reporting.
It matches all manufacturing costs with revenues.

The advantages of using variable costing are:

Data required for costvolumeprofit analysis can be taken directly from the
statement.
The profit for a period is not affected by changes in inventories.
Unit product costs do not contain fixed costs that are often unitized, a practice that
could result in Poor decisionmaking.
The impact of fixed costs on profits is emphasized.
It is easier to estimate a products profitability.
It ties in with cost control measures such as flexible budgets
Variable costing provides a better understanding of the effect of fixed costs on the
net profits because total fixed cost for the period is shown on the income statement.
The net operating income figure produced by variable costing is usually close to the
flow of cash. It is useful for businesses with a problem of cash flows.
Under absorption costing system, income of different periods changes with the
change of inventory levels. Sometime income and sales move in opposite directions.
But it does not happen under variable costing.

Why the absorption confirm with GAAP?

Manager want to estimate revenue can use
absorption?? why
Advantage and disadvantage of zero based budget?

 Zero-based budgeting is a technique of planning and decision-making which

reverses the working process of traditional budgeting. In traditional incremental
budgeting, departmental managers justify only increases over the previous year
budget and what has been already spent is automatically sanctioned. No reference
is made to the previous level of expenditure. By contrast, in zero-based budgeting,
every department function is reviewed comprehensively and all expenditures must
be approved, rather than only increase. Zero-based budgeting requires the budget
request be justified in complete detail by each division manager starting from the
zero-base.
The zero-base is indifferent to whether the total budget is increasing or decreasing

Advantages of zero-based budgeting:

1) Efficient allocation of resources, as it is based on needs and benefits.
2) Drives managers to find cost effective ways to improve operations.
3) Detects inflated budgets.
4) Useful for service departments where the output is difficult to identify.
5) Increases staff motivation by providing greater initiative and responsibility in
decision-making.
6) Increases communication and coordination within the organization.
7) Identifies and eliminates wasteful and obsolete operations.
8) Identifies opportunities for outsourcing.
9) Forces cost centers to identify their mission and their relationship to overall goals.

Disadvantages of zero-based budgeting:

1) Difficult to define decision units and decision packages, as it is time-consuming and
exhaustive.
2) Forced to justify every detail related to expenditure. The R&D department is
threatened whereas the production department benefits.
3) Necessary to train managers. Zero-based budgeting must be clearly understood by
managers at various levels to be successfully implemented. Difficult to administer
and communicate the budgeting because more managers are involved in the
process.
4) In a large organization, the volume of forms may be so large that no one person
could read it all. Compressing the information down to a usable size might remove
critically important details.
5) Honesty of the managers must be reliable and uniform. Any manager that
exaggerates skews the results.

Compare master budget and flexible (use appropriate

for when prepared)l
flexible budget
Flexible budget ... serious budgets for many level of activities and depend on that
fixed cost and variables cist per unit not change in relevant short activity. .and
flexible budget also allows the manger to adjust the budget by achieved activity
before compare the budget figures with actual but master budget is for one level of
activity
How to prepare
Step 1: Identify the Actual Quantity of Output.

Step 2: Calculate the Flexible Budget for Revenues Based on Budgeted

Selling Price an actual Quantity of Output.
Step 3: Calculate the Flexible Budget for Costs Based on Budgeted Variable
Cost per output Unit, Actual Quantity of Output, and Budgeted Fixed Costs.

The basic difference between a master budget and a flexible budget is that
answer
a) Flexible budget considers only variable costs but a master budget considers all costs.
b) Flexible budget allows management latitude in meeting goals whereas a master
budget is based upon a fixed standard.
c) Master budget is for an entire production facility but a flexible budget is applicable
to single departments only.
d) Master budget is based on one specific level of production and a flexible budget can
be prepared for any production level within a relevant range.

Define budgetary slack and advantage and if it a goal

congruence?
DEFINITION OF 'BUDGETARY SLACK'
- The intentional allowance for extra expenditures in a future cash flow.

Budgetary slack can take one of two forms: It can either underestimate the
amount of income or revenue that will come in over a given amount of time,
or overestimate the expenses that are to be paid out over the same time
period.
Budgetary slack is the excess of resources budgeted over the resources
necessary to achieve organizational goals.
To reduce budgetary slack by bench marking & zero based budget &
authoritative (top down) budget

Advantages :
-

It provides flexibility for operating under unknown circumstances, such as

an extra margin for discretionary expenses in case budget assumptions on
inflation are incorrect or adverse circumstances arises .
Additional slack may be included to offset the costly setups from design
changes and/or small lot size orders .
The increased pressure to meet current year earnings per share targets may
result in postponing expenditures into the next year or aggressively pulling
sales into the current year. Budgetary slack in the next year may compensate
for shifting those earnings from next year into the current year .

Disadvantages :
-

It decreases the ability to highlight weaknesses and take timely corrective

actions on problem areas .
It decreases the overall effectiveness of corporate planning. Actions such as
pricing changes or reduced promotional spending may be taken from a

perceived need to improve earnings when eliminating the budgetary slack

could accomplish the same objective without marketplace changes .
It limits the objective evaluation of departmental managers and performance
of subordinates by using budgetary information

How the organizational structure affect control

environment?
What are internal audit responsibilities?
Define operation and compliance audit and their
objectives?