Accounting concepts final exam
Concept 1.1 - Profit
Profit measures the value that an economic activity generates.
Profit = revenues - expenses
Revenues is the value of resources obtained from customers in exchange of products and/or
services of the organization. Expenses is the value of resources that the organization consumes
to generate revenues.
Profit when revenues > expenses. Loss when revenues < expenses.
Types of organizations
For profit organizations generate wealth for society if they generate a profit. When they
consistently generate losses, they disappear.
Non-profit organizations are there for people who cannot pay for the products or services
or those are organizations where they pursue a mission where there is almost no profit
with relevance.
Keep in mind that the ethical way of doing business is more important than the profit. Such as
lying about the quality of products, a business which destroys the environment or a firm that
exploits disadvantaged people.
Concept 1.2 - Opportunity cost
The opportunity cost is the cash flow/revenue from the second best alternative.
How to tackle opportunity costs:
1. List all the alternatives to a decision
2. Estimate the cash flow of each alternative
3. Decide if the selection is only based on the economic perspective
4. Identify the best and second-best alternative based on the level of cash flow
5. The cash flow of the second-best alternative is the opportunity cost of choosing the most
attractive option
Concept 1.3 - Cost behaviour
Fixed costs happen no matter how many units are sold. Horizontal line in the graph.
,Variable costs depend on how many units are sold. Sloping line in the graph.
Semi-variable or mixed costs are a combination of fixed and variable costs. Access fee and
additional time for example with phone bills.
Relevant range is the range wherein the variable and fixed costs are.
Step costs are fixed costs over a small range, but increase when you have to scale up for
example.
Degressionairy costs are fixed costs which are reduced, for example training becomes cheaper
although the material etc stays the same.
Whereas committed costs are hard to change. Committed costs are not always fixed costs, they
can be variable, but most of the time they are fixed. For example a fee that you have to pay per
click on an online advertisement.
Concept 1.4 - Contribution margin
The contribution margin tells you what the company generates before having to pay for fixed
costs. It tells you how much money the company adds to each unit.
You want to reach a high contribution margin and a low fixed cost.
Total contribution margin = revenues - variable costs
Contribution margin per unit = price per unit - variable costs per unit
Operating leverage = total fixed cost / total cost
You want to have a low amount of fixed costs, because with high fixed costs you are forced to
have high volume to compensate for the high fixed costs.
Concept 1.5 - Break-even point
The break-even point is the point where there is no profit and no loss.
2 ways to calculate the break-even point:
Per unit:
Break even point = fixed costs / CM per unit
In euros:
Break-even point = fixed costs / CM ratio
Sensitivity analysis is looking at the change of the break-even point with changes to the fixed
costs, variable costs and prices per unit.
Concept 2.1 - Indifference point
The indifference point tells you when two alternatives lead to the same outcome, so both are
equally preferred. Not in each situation you will have an indifference point. The indifference
point is the place where both situations intersect.
Concept 2.2 - Costs, assets and expenses
Cost is the value of a resource; for example the value of the time that someone works in a
company reflected in her salary or the value of raw materials or the value of production
equipment.
Assets are all the resources that the company owns and have a future value. Assets are costs
that last more than one period. Such as a machine.
Expenses are all the resources that the company uses, but they have no value after using it.
Expenses are costs that last less than one period. Such as employees.
, To be more precise:
Profit = revenue - expenses.
Concept 2.3 - Depreciation
Depreciation reflects the value that an asset loses during a period because of use and passage
of time. Depreciation is an expense. Assets become expenses through depreciation.
Straight line depreciation method is assuming that a product loses the same amount of value
each year. By plotting a graph, it gives a straight line.
Concept 2.4 - Cost systems
Cost systems are needed to know to see if a product or customer is profitable. This gives you
the full cost of producing a product or serving a customer. The full cost is the value of all the
resources used to produce a product or serve a customer. It includes the variable cost per unit
and a part of the fixed cost.
How to make a cost system:
1. Identify the variable costs per unit.
2. Identify the fixed costs associated with manufacturing.
3. Divide the fixed costs by the volume.
4. Add the variable costs and a part of the fixed costs to get the full manufacturing cost of
the product.
Concept 2.5 - Death spiral
Take great care of the volume that you will use in your denominator to determine the fixed costs
per unit. When using the actual volume produced, you can end up in the death spiral. Because
when your actual volume drops one time, your fixed costs per unit will increase, so you will
increase your price, and the demand will decrease, so your actual volume will drop, so your
fixed costs increase etc. You can better use the practical capacity. This leads to a constant fixed
cost per unit, because the practical capacity is a constant denominator. If the volume is lower
than the practical capacity, you have a cost of excess capacity. Do not use the capacity on a
really good day, where you are actually working too hard (good summer day with an icecream
business).
Concept 3.1
Product costs are the costs of resources committed in the manufacturing of products. This type
of cost is divided into three categories: raw materials, work in progress and finished goods.
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