Management Accounting and Cost Accounting: Behaviour, Allocation, and Decisions
Cost classification and behaviour
Separate product costs (direct materials, direct labour, production overhead) from period costs. Classify by behaviour: fixed, variable, semi-variable (use the high-low method to split). Relevant costs for decisions are future, incremental, and cash-based; sunk costs and allocated common fixed costs are irrelevant.
Absorption vs. marginal costing
Absorption costing includes fixed production overhead in inventory value; marginal (variable) costing does not. When production exceeds sales, absorption profit is higher because fixed overhead is carried in closing inventory. The difference equals the change in inventory units × fixed overhead per unit.
Standard costing and variances
- Material price variance = (standard price − actual price) × actual quantity purchased.
- Material usage variance = (standard quantity for actual output − actual quantity used) × standard price.
- Labour rate and efficiency variances follow the same price/quantity logic.
- Fixed overhead: expenditure and volume variances; volume splits into capacity and efficiency.
Traps
- Mixing actual quantity purchased with actual quantity used in the price variance.
- Forgetting that a favourable variance is not automatically good (cheap material may cause excess usage).
- Treating a step-fixed cost as purely variable.
Worked example
Standard: 2 kg at 5 per kg per unit. Actual output 1,000 units; purchased and used 2,100 kg at 5.20 per kg. Usage variance = (2,000 − 2,100) × 5 = 500 adverse. Price variance = (5.00 − 5.20) × 2,100 = 420 adverse. Total material variance = 920 adverse.
Rule of thumb
For any decision, ask: does this cost change if I choose differently? If not, it is irrelevant.